Arrow Products typically earns a contribution margin ratio of 25% and has curren

Question

Arrow Products typically earns a contribution margin ratio of 25% and has current fixed costs of $80,000. Arrow's general manager is considering spending an additional $20,000 to do one of the following: 1. Start a new ad campaign that is expected to increase sales revenue by 5%. 2. License a new computerized ordering system that is expected to increase Arrows contribution margin ratio to 30%. Sales revenue for the coming year was initially forecast to equal $1,200,000 (that is without implementing either of the above options) A-For each option how much will projected operating income increase or decrease relative to initial predications? B-By what percentage would sales revenue need to increase to make the ad campaign as attrative as the ordering system? THANK YOU

Explanation / Answer

contribution margin ratio = 25% current fixed costs = 80,000 1. ad campaign would increase revenue by 5% 2. new ordering system increase cmr to 30% sales revenue 1,200,000 a. current income: 1,200,000*.25 - 80,000 = 220,000 ad campaign: 1,200,000*1.05*.25 - 100,000 = 215,000, income would decrease by 5,000 ordering system: 1,200,000*.30 - 100,000 = 260,000, income would increase by 45,000 b. 1,200,000*x*.25 - 100,000 = 260,000 300,000x = 360,000 x = 360,000/300,000 = 1.2 sales revenue would have to increase by .2 or 20%

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