Advanced Electronics AE is a computer chip manufacturer It h

Advanced Electronics (AE) is a computer chip manufacturer. It has monthly fixed costs of $4,000,000. Its marginal costs are $1.00 per chip.

What happens if sales fall by 20% from 3,000,000 to 2.400.000 chips per month?

What happens to average fixed costs (AFC) per chip and the marginal costs per widget?

If sales fall by 20 percent from 3 million chips per month to 2,400,000 chips per month, what happens to the AFC per paper, the MC per paper, and to the minimum amount that you must charge to break even on these costs?

Hint: Here Marginal Cost (MC) is constant, which implies that Average Variable Cost (AVC) is constant and equals MC. This does not imply Average Total Cost (ATC) is constant or has to equal MC. Total Cost (TC) = Fixed Cost (FC) + Variable Cost (VC). Divide through by the quantity Q, which implies TC/Q = FC/Q + VC/Q. This gives us ATC = AFC + AVC.

Solution

Currently,

TVC = 3,000,000 x $1 = $3,000,000

AFC = FC / Q = $4,000,000 / 3,000,000 = $1.33

(a) If sales falls,

- AVC (= MC) remains constant at $1

- FC remains constant at $4,000,000

But,

- TVC decreases (TVC = AVC x Q, and Q falls)

New TVC = 2,400,000 x $1 = $2,400,000

- AFC increases (AFC = FC / Q, and Q falls)

New AFC = $4,000,000 / 2,400,000 = $1.67

Breakeven point ($) = FC / Unit contribution, Where

Unit contribution = Selling price - MC

Since Selling price and MC are unchanged, BEP is also unchanged.