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 will decrease operating income due to lower sales volume and higher costs, despite the increase in sales price. Calculating the operating income for both scenarios: Current Year Operating Income = [(Sales Price - Variable Cost) * Unit Sales] - Fixed Costs = [($48 - $32) * 27,000] - $80,000 = $432,000 - $80,000 = $352,000. Proposal Operating Income = [(Sales Price - Variable Cost) * Unit Sales] - Fixed Costs = [($54 - $40) * 18,000] - $96,000 = $252,000 - $96,000 = $156,000. The difference is $352,000 - $156,000 = $196,000 decrease.

Alvarez Company Is Facing an $8 Increase in the Variable