Discourse Products makes electrical components that have multiple uses in indust

Question

Discourse Products makes electrical components that have multiple uses in industrial manufacturing. The Marketing Director is considering whether or not to implement a price cut and has asked for your advice. You have been provided with the following data:

Current prices = $2.50

Variable costs = $1.00

Fixed costs = $12,000.00

What is the break-even sales volume at the current price of $2.50 per unit? If Discourse Products cuts the price to $2.25 per unit, by how much would sales need to increase for profits to be maintained at the current level? Given the further information that Discourse Products believes that demand for its products is inelastic with respect to price, do you think that it should proceed with a price cut?

Explanation / Answer

Given:

Selling price = S = $2.50 per unit

Variable Cost = V = $1.00 per unit

Fixed cost = F = $12,000

The Breakeven volume is given by following formula:

BEP (units) = fixed cost/(Price – Cost) = 12000/(2.50 – 1.00) = 8000 units

If the price cut is done, then the Breakeven point is as follows:

BEP2 (units) = 12000/(2.25 – 1.00) = 9600 units

Thus, to keep profit at current level company has to sale additional 1600 units more.

If the product demand is inelastic to the demand, ie. Demand doesn’t change with changes in price, it is not advisable to reduce the price of product. Since to keep same profit additional units have to be sold.

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