2 Consider a retailer selling blenders currently priced at 5

2. Consider a retailer selling blenders currently priced at $54. Suppose it pays $29 per blender from the manufacturer.

(a) What is the initial contribution margin?

(b) Suppose it is considering a 33% cut in price to boost sales. What is the break-even change in sales required to maintain its profitability?

(c) Alternatively, suppose an expert tells the retailer that it should consider raising its price of the blenders to $59 to improve profit. What is the break-even change in sales permissible to again maintain its profitability?

(d) Using the break-even change in sales you obtained in (b) and (c), plot the break-even curve for the retailer.

(e) Suppose the retailer’s market research team determines that the elasticity of demand for consumers of blenders is – 1.5. What does this imply about the actual demand for blenders in case of the two situations: a 33% price cut or a price increase to $59? Plot the demand curve alongside the break-even curve to show the difference between the two curves.

(f) Can you make recommendations to the retailer regarding which strategy makes more sense: a 33% price cut or a price rise to $59 from its current price level of $54?

Solution

Option I Option II Option III Per unit Total Per unit Total X = 3.57 Per unit Total X = 0.83 Selling Price 54 54X 36 36X 128.52 59 59X 48.97 Variable cost 29 29X 29 29X 103.53 29 29X 24.07 Contribution 25 25X 7 7X 25 30 30X 24.9 Fixed cost 0 0 0 0 0 0 0 0 Profit 25 25X 7 7X 25 30 30X 25 P/V 46.3 19.4 19.45 50.8 51.05 (a) initial contribution margin $25 P/V ratio ($25/$54*100) (b) 33 % cut in SP = 36 To get the same profitability 25X = 7X (Assume no of units sold = X) break-even change in sales required to maintain its profitability = X = 25/7 3.57 times X © When SP = 59, BES = 25/30 0.83 times X Option I Option II Option III (f) demand elasticity = -1.5 Sales qty X By observing the P/V ratio,Option III is better