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

Question

An electronics firm is currently manufacturing an item that has a variable cost of $0.50 per unit and a selling price of $1.00 per unit. Fixed costs are$14,000 per month. Current volume is 30,000 units per month. The firm wants to improve the product quality by adding a new piece of equipment at an additional fixed cost of $6,000 a month. Variable cost would increase to $0.60 a unit but volume should jump to 50,000 units a month due to improved productivity. Although the new product is of a higher quality, the firm intends to stay with the selling price of $1.00 per unit (for competitive purposes). (a) Should the firm buy the new equipment? (b) The firm is now considering stepping the new volume to 45,000 units a month to produce even better quality products and increase the selling price to $1.10 a unit. Under these circumstances, should the company buy the new equipment and increase the selling price?

Explanation / Answer

Profit before=(1*30,000)-(0.5*30,000)-14,000=1,000 profit after=(1*50,000)-(0.6*50,000)-20,000=0 so,it should not buy new equipment. in new circumstance profit=(1.1*45,000)-(0.6*45,000)-20,000=2,500 in this case,it can buy new equipment.

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