Problem
Mister Geppetto is a toy manufacture. He recently started producing electronic toys and has estimated the following unit cost for March 2019, for a production and sales volume of 25,000 unit:
Direct material = $20 Direct labor = $15 Variable factory overhead = $5 Fixed factory overhead = $10 Fixed selling and administrative = $7
The selling price per unit is $60
I. Mister Geppetto considers advertising its electronic toy. The advertisement will cost $75,000 a month and is expected to increase sales by 12%. Assume all other costs are unchanged, and that selling price remains $60 per unit. Should Mister Geppetto advertise? Explain.
II. Mister Geppetto decided not to advertise. He still sees an increase in demand and in April 2019 the number of units manufactured and sold increased to 27,000. Total fixed costs and selling price are the same as in March 2019.
i. What is the margin of safety in April 2019?
ii. What is the operating leverage in April 2019?
iii. Given the higher demand for the product, Mister Geppetto considers increasing the selling price. Mister Geppetto wishes to earn an operating profit of $250,000. What should be the new selling price?