Kokomochi is considering the launch of an advertising campaign for its latest de
ID: 2784974 • Letter: K
Question
Kokomochi is considering the launch of an advertising campaign for its latest dessert product, the Mini Mochi Munch. Kokomochi plans to spend $3.53
million on TV, radio, and print advertising this year for the campaign. The ads are expected to boost sales of the Mini Mochi Munch by $11.21
million this year and $9.21 million next year. In addition, the company expects that new consumers who try the Mini Mochi Munch will be more likely to try Kokomochi's other products. As a result, sales of other products are expected to rise by $2.78 million each year.
Kokomochi's gross profit margin for the Mini Mochi Munch is 33%,
and its gross profit margin averages 25%
for all other products. The company's marginal corporate tax rate is 45%
both this year and next year. What are the incremental earnings associated with the advertising campaign?
Explanation / Answer
Initial investment = $3.53 million
Sales in year 1 of Mini Mochi = $11.21 million
Sales in year 2 of Mini Mochi = $9.21 million
Sales in year 1 of other products = $2.78 million
Sales in year 2 of other products = $2.78 million
Gross margin of Mini Mochi = 33%
Gross profit of Mini Mochi in year 1 = 0.33*11.21 = $3.70 million
Gross profit of Mini Mochi in year 2 = 0.33*9.21 = $3.04 million
Gross profit of other products in year 1 = 0.25*2.78 = $0.70 million
Gross profit of Mini Mochi in year 2 = 0.25*2.78 = $0.70 million
Gross Profit in year 1 = Profit ffrom Mini Mochi + Profit from other products = 3.70+0.70 = $4.39
Gross Profit in year 2 = Profit ffrom Mini Mochi + Profit from other products = 3.04+0.70 = $3.73
Corporate tax rate = 45%
Incremental earnings in year 1 = Gross profit *(1-tax) = 4.39*(1-0.45) = $2.42 million
Incremental earnings in year 1 = Gross profit *(1-tax) = 3.73*(1-0.45) = $2.05 million
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