Chapter 19, Problem 19.3CP

Break-even analysis

Somerset Inc. has finished a new video game, Snowboard Challenge. Management is now considering its marketing strategies. The following information is available:

Anticipated sales price per unit	$80
Variable cost per unit’	$35
Anticipated volume	1,000,000 units
Production costs	$20,000,000
Anticipated advertising	$15,000,000
*The cost of the video game, packaging, and copying costs.

Two managers, James Hamilton and Thomas Seymour, had the following discussion of ways to increase the profitability of this new offering:

James: I think we need to think of some way to increase our profitability Do you have any ideas?

Thomas: Well, I think the best strategy would be to become aggressive on price.

James: How aggressive?

Thomas: If we drop the price to $60 per unit and maintain our advertising budget at $ 15,000,000, I think we will generate total sales of 2.000,000 units.

James: I think that’s the wrong way to go. You’re giving too much up on price. Instead, I think we need to follow an aggressive advertising strategy

Thomas: How aggressive?

James: If we increase our advertising to a total of $25,000,000, we should be able to increase sales volume to 1,400.000 units without any change in price.

Thomas: I don’t think that’s reasonable. We’ll never cover the increased advertising costs.

Which strategy is best: Do nothing? Follow the advice of Thomas Seymour? Or follow James Hamilton’s strategy?