An electronics firm is currenbtly manufacturing an item that has a variable cost

Question

An electronics firm is currenbtly manufacturing an item that has a variable cost of $0.60 per unit and selling price of $1.10 per unit. Fixed costs are $15,500. Current volume is 32,000 units. The firm can substantially improve the product quality by adding a new piece of equipment at an additional fixed cost of $8,000. Variable cost would increase to $0.70, but the volume is expected to jump to 50,000 units due to the higher quality of product.

a) Should the company buy the new equipment?

b) Compute the profit with the current equipment and the expected profit with the new equipment.

Explanation / Answer

A) Yes, company should buy new equipment in order to increase their quality and quantity. Doing so there profit will increase too much.This difference can be seen by the following equations. B) Profit with current equipment= selling price- cost price =32000*1.1 - 32000*0.6 = 16000 Total cost=fixed cost+(unit variable cost* total number of units) =15500+(0.5*32000) =31500 $ 31500/16000=1.96 % Profit with new equipment= 50000*1.1- 50000*.7 = 20000 dollars Total cost=20000+23500=43500 dollars 43500/20000=2.15 % profit So increasing technology will increase the profit slightly.

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