Question

The Lantern (a news clipping service) is considering an artificial intelligence (AI) product. Rather than manually clipping and photocopying articles of interest and mailing them to its clients, employees electronically input stories from most widely circulated publications into a database. Each new issue is searched for keywords, such as a client's company name, competitors' names, type of business, and the company's products, services, and officers. When matches occur, affected clients are instantly notified via an online network. If the story is of interest, it is electronically transmitted, so the client often has the story and can prepare comments for follow-up interviews before the publication hits the street. The manual process has fixed costs of$380,000 per year and variable costs of $6.10 per clipping mailed. The price charged to the client is $9.00 per clipping. An AI process can improve client targeting. The new service has fixed costs of $1,100,000 per year and variable costs of $2.15 per story electronically transmitted to the client.The present volume of business is 235,000 clippings per year. Many of the clippings sent with the current process are not of interest to the client or are multiple copies of the same story appearing in several publications. The new AI process believes that by improving service and by lowering the price to $5.7 per story, the AI will increase volume to 740,000 stories transmitted per year.If the forecasted increase in business is too optimistic, at what volume will the new AI service break even?

Answer 1

Hi there!

Break-even volume: 30,986 clippings per year

Step-by-step explanation:

What you need to do first is to calculate the contribution margin (CM) wich represents the portion of sales revenue that is not consumed by variable costs and so contributes to the coverage of fixed costs. Is calculated as selling price (P) per unit minus the variable cost (V) per unit.

CM = P - V

CM = 5.7 - 2.15

CM = 3.55

You can now calculate the break-even point as

`x = (TFC)/(P-V)`

TFC is Total Fixed Costs,

P is Unit Sale Price, and

V is Unit Variable Cost.

`x=(110,000)/(5.7-2.15) \\\\x=(110,000)/(3.55)\\ \\x= 30,985.92`

x ≅ 30,986