Question

Jack’s grocery is manufacturing a store brand  item that has a variable cost of $0.75 per unit and a selling price of $1.25 per unit.Fixed costs are $12,000.Current volume is 50,000 units.The grocery can substantially improve the product quality by adding a new piece of equipment at an additional fixed cost of $5,000.Variable cost would increase to $1.00,but their vokume should increase to 70,000 units due to the higher quality product.Should the company buy the new equipment?

Answer 1

No, there's no need to buy a new machinery.

Calculation of profit of before the addition of new machinery:- (in $)

Sales volume = 50000* 1.25 = 62500

- variable cost = 50000*0.75 = 37500

= contribution                          = 25000

- fixed cost                                = 12000

= profit                                      = 13000

Calculation of profit of after the addition of new machinery:- (in $)

Sales volume = 70000* 1.25 = 87500

- variable cost = 70000*1.00 = 70000

= contribution                          = 17500

- fixed cost (12000+5000)     = 17000

= profit                                      = 500

So, we can see the clear result that the profits are declining after buying the new machinery. its better to stick with the old strategy.