# Question: In your new position as supervisor of product introduction you

In your new position as supervisor of product introduction, you have to decide on a pricing strategy for a talking doll specialty product with the following cost structure:

Variable costs per unit ...... $ 60

Fixed costs ........ $240,000

The dolls are manufactured upon receipt of orders, so the inventory levels are insignificant. Your market research assistant is very enthusiastic about probability models and has presented the results of his price analysis in the following form:

a. If you set the selling price at $120 per unit, the probability distribution of revenues is uniform between $360,000 and $720,000. Under this distribution, there is a 0.50 probability of equaling or exceeding revenues of $540,000.

b. If you lower the selling price to $84 per unit, the distribution remains uniform, but it shifts up to the $720,000-$1,080,000 range. Under this distribution, there is a 0.50 probability of equaling or exceeding revenues of $900,000.

REQUIRED

1. This is your first big contract and, above all, you want to show an operating income. You decide to select the strategy that maximizes the probability of breaking even or earning a positive operating income.

a. What is the probability of at least breaking even with a selling price of $120 per unit?

b. What is the probability of at least breaking even with a selling price of $84 per unit?

2. Your assistant suggests that maximum expected operating income might be a better objective to pursue. Which pricing strategy would result in the higher expected operating income?

Variable costs per unit ...... $ 60

Fixed costs ........ $240,000

The dolls are manufactured upon receipt of orders, so the inventory levels are insignificant. Your market research assistant is very enthusiastic about probability models and has presented the results of his price analysis in the following form:

a. If you set the selling price at $120 per unit, the probability distribution of revenues is uniform between $360,000 and $720,000. Under this distribution, there is a 0.50 probability of equaling or exceeding revenues of $540,000.

b. If you lower the selling price to $84 per unit, the distribution remains uniform, but it shifts up to the $720,000-$1,080,000 range. Under this distribution, there is a 0.50 probability of equaling or exceeding revenues of $900,000.

REQUIRED

1. This is your first big contract and, above all, you want to show an operating income. You decide to select the strategy that maximizes the probability of breaking even or earning a positive operating income.

a. What is the probability of at least breaking even with a selling price of $120 per unit?

b. What is the probability of at least breaking even with a selling price of $84 per unit?

2. Your assistant suggests that maximum expected operating income might be a better objective to pursue. Which pricing strategy would result in the higher expected operating income?

**View Solution:**## Answer to relevant Questions

Athabaska Ltd. produces a lens used for webcams. Summary data from its year 2011 income statement are as follows: Revenues ........ $8,000,000 Variable costs ........ 4,320,000 Fixed costs ........ 3,900,000 Operating ...What is operating leverage? How is knowing the degree of operating leverage (DOL) helpful to managers? Trenton Ltd. uses a normal job-costing system and applies manufacturing overhead to products on the basis of machine hours. At the beginning of 2012, the company controller budgeted annual overhead at $1,500,000. She also ...Production Company produces gadgets for the coveted small appliance market. The following data reflect activity for the most recent year, 2012: Costs incurred Purchases of direct materials (net) on ...Disposition of overhead over-allocation or under-allocation, two indirect cost pools. Glavine Corporation manufactures precision equipment made to order for the semiconductor industry. Glavine uses two manufacturing overhead ...Post your question