Bangers, Inc. is a start-up manufacturer of Australian-style frozen veggie pies
ID: 2383728 • Letter: B
Question
Bangers, Inc. is a start-up manufacturer of Australian-style frozen veggie pies located in San Antonio, Texas. The company is five years old and recently installed the manufacturing capacity to quadruple its unit sales. To jump start the demand for its products, the company founders have hired a local advertising firm to create a series of ads for its new line of meat pies. The ads will cost the firm $450,000 to run for one year. Bangers' management hopes that the advertising will produce annual sales of $1.9 million for its meat pies. Moreover, the firm expects that sales of its veggie pies will increase by $200,000 next year as a result of the company name recognition derived from the meat pie ad campaign. If Bangers operating profits per dollar of new sales revenue are 50 percent and the firm faces a 37 percent tax bracket, what is the incremental operating profit the firm can expect to earn from the ad campaign? Does the decision to place the ad look good from the perspective of the anticipated profits?
1. The incremental operation profit the firm can expect to earn from the as campaign for year 1 is $___________
2.The incremental operation profit the firm can expect to earn from the as campaign for year 2 is $___________
3.The decision to place the ad appears to be an (unacceptable/acceptable) project since the year 1 and year 2 cash flows are significantly (Greater/less) than the $450,000 initial outlay for taking the project.
Explanation / Answer
Advertising cost $ 450,000
Annual sales of meat pies $ 19,00,000
Operating profit per dollar 50%
of new sale
Tax bracket 37%
Operating profit =Revenue-operating expenses
Operating profit as a % of sales =Operating profit/sales
or
Operating profit per unit of sales
***Operating profit per unit of sales is known as operating margin.
Let us assume that originally the annual sales of veggie pies is X .
Post advertising,the sales of veggie pies increased by 200,000.
Hence,new veggie sales is X+200,000
Now,in the question it has been mentioned that Bangers aimed at quadrupling its sales as a result of mentioned advertising campaign.
Hence,let us assume that Bangers is able to achieve the expected target.
So we have the equation as :
Original sales* 4=New sales of Veggie +Sale of new item Meat
X*4 =X+200,000+19,00,000
X=700,000
Hence,before the advertising campaign Bangers sales was $700,000.
Now,let us calculate the operating profit for Bangers,Inc as follows:
1.Operating profit=Revenue-operating expenses
=700,000+200,000+19,00,000-4,50,000
=28,00,000-4,50,000
=23,50,000
Revenue=Sales of veggie pies+Sales of meat pies
=X+200,000+19,00,000=700,000+200,000+19,00,000=28,00,000
Operating expenses=$450,000
Operating margin is provided as 50 percent ,hence the equation :
Hence,it seems that the company is comfortably able to cover its operating costs,hence it should accept the decision to undertake advertising expenses.
Answers.
1.The incremental operation profit the firm can expect to earn from the ad campaign for year 1 is
Original sales before launching ad =Only veggie=700,000
Original profit assuming it 50% of sales =3,50,000
Operational profit in year 1=Veggie sales+ Meat sales-Advertising expense
=700,000+19,00,000-4,50,000
=21,50,000
Hence,incremental profit in year 1=21,50,000-3,50,000=18,00,000
2. The incremental operation profit the firm can expect to earn from the ad campaign for year 2 is
In year two veggie sales rose by 200,000,hence the veggie sale in year 2 was 900,000
Operational profit in year 2=900,000+19,00,000-4,50,000=23,50,000
Incremental profit in year 2=Profit in year 2-Profit in year 1
= 23,50,000-21,50,000=2,00,000
3.The decision to place the ad appears to be an (unacceptable/acceptable) project since the year 1 and year 2 cash flows are significantly (Greater/less) than the $450,000 initial outlay for taking the project.
Acceptable as Bangers is able to meet out the advertising expense while earning an margins quite higher than the cost.
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