Break-even analysis

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Break-even analysis

Somerset Inc. has finished a new video game, Snowboard Challenge. Management is now considering its marketing strategies. The following information is available:

A table shows the marketing strategies of Somerset Inc. Data are as follows: anticipated sales per unit, $80; variable cost per unit, $35; anticipated volume, 1,000,000 units; production costs, $20,000,000; and anticipated advertising $15,000,000.

Two managers, James Hamilton and Thomas Seymour, had the following discussion of ways to increase the profitability of this new offering:

James:

I think we need to think of some way to increase our profitability. Do you have any ideas?

Thomas:

Well, I think the best strategy would be to become aggressive on price.

James:

How aggressive?

Thomas:

If we drop the price to $60 per unit and maintain our advertising budget at $15,000,000, I think we will generate total sales of 2,000,000 units.

James:

I think that's the wrong way to go. You're giving up too much on price. Instead, I think we need to follow an aggressive advertising strategy.

Thomas:

How aggressive?

James:

If we increase our advertising to a total of $25,000,000, we should be able to increase sales volume to 1,400,000 units without any change in price.

Thomas:

I don't think that's reasonable. We'll never cover the increased advertising costs.

Which strategy is best: Do nothing, follow the advice of Thomas Seymour, or follow James Hamilton's strategy?

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Break-even analysis