4.ABC Manufacturing and XYZ Manufacturing both operate in the widget industry, but with radically different cost structures. ABC is a capital-intensive, automated manufacturer, while XYZ is a labor-intensive "job-shop." Monthly operating data are as follows.

ABC Manufacturing

XYZ Manufacturing

Sales

5,000 units

5,000 units

Price

$10.00

$10.00

Variable

$2.50

$5.50

Fixed cost

$35,000/month

$20,000/month

Full Cost

$9.50

$9.50

Current profit

$2,500/month

$2,500/month

Please answer the following questions. DO NOT calculate the profitability of these changes by calculating profit levels before and after the changes, spreadsheet style. That approach would take four times longer and not show me that you understand the formulas. Use the simple concept of contribution to calculate just the change in profits due to the proposed price changes.

ABC and XYZ both currently have equal (50%) shares of the market. Each is evaluating opportunities to enhance profits. One opportunity involves selling to a low-value, but potentially high-volume, market segment not currently served by either company. The potential increase in sales for either company entering that market alone would be at least 40% (2000 units). If they both entered, the potential sales increase would be at least 20% for each of them. Unfortunately, reaching that market would require pricing at $8.50, 15% below current levels.

a)If either company could cost segment the market for pricing (that is, charge the 15% lower price only to this new segment without undermining the prices charged to current customers), how much additional profitability could each company earn by achieving a 20% and a 40% increase in sales? Would you recommend that either or both companies pursue this opportunity?

b)In fact, neither ABC nor XYZ can effectively segment this market (each must charge one price to everyone). Calculate the breakeven sales changes for this opportunity for each of them. Calculate the changes in profit for a 40% increase in sales. Briefly explain why this answer differs from your answer in part A.

c)Which competitor is better positioned to take advantage of this opportunity? Assuming that neither company can segment the market, what advice would you give to ABC and to XYZ regarding this opportunity?