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A manufacturing company that produces one single type of a product has a total fixed...

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Accounting

A manufacturing company that produces one single type of a product has a total fixed cost of $4.000.000, a contribution margin rate of 80%, and a unit selling price of $100. The current operating profit level of the company is $4.000.000. The product of the company has a price elasticity which is greater than one, implying that when the company decreases its unit selling price, the quantity sold will increase more. The CEO wants to exploit the advantage of the price elasticity of the product and wonders whether she could increase the profitability of the company next year by decreasing the selling prices. The cost accountant provides the following information in order for her to make a rational decision.

Decline in the selling prices : 10% - 20% - 25%

Increase in the quantity sold : 20% - 35% - 50%

Discuss each possible scenario above and evaluate the profitability change in the companys operations. Does the price reduction adds value to the company? At which rate should the company make the reduction then?

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