Question

Data Concerning Neuner Corporation's Single product appear below:

  

Per Unit Percent of Sales

Selling Price $220 100%

Variable Expenses 88 40%

Contribution Margin 132 60%

Fixed expenses are $425,000 per month. The company is currently selling 4,000 units per month.

Required:

The marketing manager would like to cut the selling price by $11 and increase the advertising budget by $23,700 per month. The marketing manager predicts that these two changes would increase monthly sales by 400 units. What would be the overall effect on the company's monthly net operating income of this change? How would you be able to justify cutting the selling price of this item with the CEO? If you cannot justify cutting the selling price what would you do differently? SHOW ALL WORK AND EXPLAIN.

Answer 1

In the given question two cases can be identified on Neuner Corporation's Single product, which are:

Case I - Selling price per unit, fixed cost (including advertising cost) and units of sale in the current scenario remain as $220, $4,25,000 and 4000 units respectively.

Case II - Selling price per unit decreased by $11, fixed cost (including advertising cost) increased by $23,700 and units of sale expected to increase by 400 units as $209, $4,48,700 and 4400 units respectively.

Case I - Contribution Income Statement
Particulars	Per unit cost ($)	4000 units ($)
Sales	220	8,80,000
Less: Variable Expenses	88	3,52,000
Contribution Margin	132	5,28,000
Less: Fixed Expenses		4,25,000
Net operating Income		1,03,000
Case II - Contribution Income Statement
Particulars	Per unit cost ($)	4400 units ($)
Sales	209	9,19,600
Less: Variable Expenses	88	3,87,200
Contribution Margin	121	5,32,400
Less: Fixed Expenses*		4,48,700
Net operating Income		83,700
* advertising expenses increased by $23,700 per month which is in the nature of fixed expenses.

In case II, the overall effect on the company's monthly net operating income of this change is the decrease in net operating income by $19,300.

Justification on cutting the selling price of the item:

1. Reducing the selling price would normally attract demand among the customers (depend on type of customers as well) and thus we can increase the unit of sales.
2. Increase in the number of units of sale would improve the contribution margin derived from the product, which in this case is $4,400.
3. If a decreased price would attract sales more than 400 units, say 560 units, then the net operating income would be more than that of sales at $220.

Different view on the above case:

• The Neuner Corporation can increase production of units thereby reducing per unit cost leading to a higher profit margin.
• They can reduce the advertising cost by adopting other cost effective means of advertisement such as sales promotion (by increasing the number satisfied customers and improved quality)
• The corporation may concentrate more on customer satisfaction by providing related services and educate them on the multiple usages/ proper utilization of goods provided.