Reference no: EM132802224

Question - Thompson Engine Company manufactures and sells diesel engines for use in small farming equipment. For its 2017 budget, Thompson Engine Company estimates the following:

Selling price $7,000

Variable cost per engine $2,000

Annual fixed costs $5,560,000

Net income $900,000

Income tax rate 40%

The first-quarter income statement, as of March 31, reported that sales were not meeting expectations. During the first quarter, only 300 units had been sold at the current price of $7,000. The income statement showed that variable and fixed costs were as planned, which meant that the 2017 annual net income projection would not be met unless management took action. A management committee was formed and presented the following mutually exclusive alternatives to the president:

a. Reduce the selling price by 15%. The sales organization forecasts that at this significantly reduced price, 1,400 units can be sold during the remainder of the year. Total fixed costs and variable cost per unit will stay as budgeted.

b. Lower variable cost per unit by $750 through the use of less-expensive direct materials. The selling price will also be reduced by $800, and sales of 1,130 units are expected for the remainder of the year.

c. Reduce fixed costs by 5% and lower the selling price by 25%. Variable cost per unit will be unchanged. Sales of 1,500 units are expected for the remainder of the year.

I. If no changes are made to the selling price or cost structure, determine the number of units that Thompson Engine Company must sell (a) to break even and (b) to achieve its net income objective.

II. Determine which alternative Thompson Engine Company should select to achieve its net income objective. Show your calculations.