McPherson Company is facing a $6 increase in the variable cost of producing one of its products for the upcoming year. Because of this situation, the sales manager has made a proposal to increase the selling price of the product while increasing the advertising budget at the same time. The price increase will lower sales volume, but the other changes may help the company maintain its profit margins. McPherson has provided the following information regarding the current year results and the proposal made by the sales manager: $$\begin{array} { | l | r | r | }
\hline & \text { Current Year } & \text { Proposal } \
\hline \text { Unit sales } & 27,000 & 18,000 \
\hline \text { Sales price per unit } & \$ 48 & \$ 58 \
\hline \text { Variable cost per unit } & \$ 30 & \$ 36 \
\hline \text { Fixed cost } & \$ 76,000 & \$ 96,000 \
\hline
\end{array}$$ Relative to the current year, the sales manager's proposal will:

Question

McPherson Company is facing a $6 increase in the variable cost of producing one of its products for the upcoming year. Because of this situation, the sales manager has made a proposal to increase the selling price of the product while increasing the advertising budget at the same time. The price increase will lower sales volume, but the other changes may help the company maintain its profit margins. McPherson has provided the following information regarding the current year results and the proposal made by the sales manager: $$\begin{array} { | l | r | r | } 
\hline & \text { Current Year } & \text { Proposal } \
\hline \text { Unit sales } & 27,000 & 18,000 \
\hline \text { Sales price per unit } & \$ 48 & \$ 58 \
\hline \text { Variable cost per unit } & \$ 30 & \$ 36 \
\hline \text { Fixed cost } & \$ 76,000 & \$ 96,000 \
\hline
\end{array}$$ Relative to the current year, the sales manager's proposal will:

Quizplus · Accepted Answer

To determine the impact of the sales manager's proposal on operating income, we need to calculate the contribution margin and subtract fixed costs from it.

Contribution Margin = Sales - Variable Costs 
Current Year: 
Contribution Margin = ($48 * 27,000) - ($30 * 27,000) = $324,000

Proposal: 
Contribution Margin = ($58 * 18,000) - ($36 * 18,000) = $360,000

Now we can calculate operating income for both years:

Current Year: 
Operating Income = $324,000 - $76,000 = $248,000

Proposal: 
Operating Income = $360,000 - $96,000 = $264,000

The difference between the two operating incomes is:

$264,000 - $248,000 = $16,000

Therefore, the sales manager's proposal will decrease operating income by $16,000 relative to the current year. However, the question is asking about the impact of the proposal relative to the current year's results, not the absolute impact.

To determine the relative impact, we need to calculate the difference between the two proposals in terms of operating income relative to the current year's operating income:

$264,000 - $248,000 = $16,000 increase in operating income relative to the current year

So the correct answer is D, the proposal will decrease operating income by $16,000 relative to the current year, meaning a decrease of $110,000 from the proposal's operating income result.

McPherson Company Is Facing a $6 Increase in the Variable