Alvarez Company is facing an $8 increase in the variable costs of producing one of its products for the upcoming year.As a result,the sales manager has made a proposal to increase the sales price of the product while increasing the advertising budget at the same time.The sales price increase will lower sales volume,but the other changes may help the company maintain its profit margin.Alvarez has provided the following information regarding the current year results and the proposal made by the sales manager: $$\begin{array} { | l | r | r | }
\hline & \text { Current Year } & \text { Proposal } \
\hline \text { Unit sales } & 27,000 & 18,000 \
\hline \text { Sales price per unit } & \$ 48 & \$ 54 \
\hline \text { Variable cost per unit } & \$ 32 & \$ 40 \
\hline \text { Fixed cost } & \$ 80,000 & \$ 96,000 \
\hline
\end{array}$$ Relative to the current year,the sales manager's proposal will ________.

Question

Alvarez Company is facing an $8 increase in the variable costs of producing one of its products for the upcoming year.As a result,the sales manager has made a proposal to increase the sales price of the product while increasing the advertising budget at the same time.The sales price increase will lower sales volume,but the other changes may help the company maintain its profit margin.Alvarez has provided the following information regarding the current year results and the proposal made by the sales manager: $$\begin{array} { | l | r | r | } 
\hline & \text { Current Year } & \text { Proposal } \
\hline \text { Unit sales } & 27,000 & 18,000 \
\hline \text { Sales price per unit } & \$ 48 & \$ 54 \
\hline \text { Variable cost per unit } & \$ 32 & \$ 40 \
\hline \text { Fixed cost } & \$ 80,000 & \$ 96,000 \
\hline
\end{array}$$ Relative to the current year,the sales manager's proposal will ________.

Quizplus · Accepted Answer

The proposal results in a decrease in operating income by $196,000. The contribution margin per unit under the proposal is $14 ($54 - $40), and the total contribution margin is $252,000 (18,000 units x $14). After subtracting the fixed costs of $96,000, the operating income is $156,000. In the current year, the contribution margin per unit is $16 ($48 - $32), and the total contribution margin is $432,000 (27,000 units x $16). After subtracting the fixed costs of $80,000, the operating income is $352,000. The decrease in operating income is $352,000 - $156,000 = $196,000.

Alvarez Company Is Facing an $8 Increase in the Variable