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17 Dec 2024, 09:00
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Difficulty:
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Question Stats:
43% (01:55) correct
57%
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wrong
based on 409
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12 Days of Christmas 2024 - 2025 Competition with $40,000 of Prizes
SpeedTech Electronics manufactures two types of processors: a Standard Processor (SP) and a higher-priced Advanced Processor (AP). Producing AP is actually more cost-efficient than producing SP due to advancements in technology and manufacturing processes. However, financial analysts at SpeedTech have determined that the company's profits would decrease if it combined the two product lines, offering its customers only the AP product at the price level of SP.
Assuming that transitioning from SP to AP manufacturing incurs minimal costs, which of the following, if true about SpeedTech, best explains the results of the analysts' calculation?
A. The materials used in AP are more readily available and cheaper than those used in SP, which initially reduced manufacturing costs.
B. The production method for AP allows for faster output but the sale price for AP has traditionally been set higher due to perceived value.
C. The revenue generated from the higher-priced AP significantly exceeds the cost savings from its more efficient production compared to SP.
D. The research and development costs for developing AP were recouped quickly due to initial high interest when it was first launched.
E. While AP is more cost-effective to produce, it requires more frequent updates and enhancements than SP.
SpeedTech Electronics manufactures two types of processors: a Standard Processor (SP) and a higher-priced Advanced Processor (AP). Producing AP is actually more cost-efficient than producing SP due to advancements in technology and manufacturing processes. However, financial analysts at SpeedTech have determined that the company's profits would decrease if it combined the two product lines, offering its customers only the AP product at the price level of SP.
Assuming that transitioning from SP to AP manufacturing incurs minimal costs, which of the following, if true about SpeedTech, best explains the results of the analysts' calculation?
A. The materials used in AP are more readily available and cheaper than those used in SP, which initially reduced manufacturing costs.
B. The production method for AP allows for faster output but the sale price for AP has traditionally been set higher due to perceived value.
C. The revenue generated from the higher-priced AP significantly exceeds the cost savings from its more efficient production compared to SP.
D. The research and development costs for developing AP were recouped quickly due to initial high interest when it was first launched.
E. While AP is more cost-effective to produce, it requires more frequent updates and enhancements than SP.
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17 Dec 2024, 10:00
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GMAT Club's Official Explanation:
A. Incorrect - Irrelevant. This option does not address the impact on profits if SpeedTech switched to manufacturing and selling only the AP product at SP prices.
B. Incorrect - Irrelevant. This option doesn’t explain why maintaining SP price levels for AP would lead to a decrease in profits; this option only talks about the cost and gives us no new information.
C. Correct Answer. This answer choice helps explain why it may not make financial sense if we discontinue a cheaper product, while offering the more expensive product at the lower product price. Let’s illustrate with an example:
SP Manufacturing cost: $25
SP Retail price: $45
SP Profit: $20/unit
AP Manufacturing cost: $20
AP Retail price: $60
AP Profit: $40/unit
Now, if we sell AP at the SP price, we will be getting a profit margin of $25/unit, which appears to be lower than the current product mix of $20 and $40 for the SP and AP. We actually do not know the share of sales of SP and AP or their prices or profit margins, but the setup tells us that the savings in production would not outweigh the decrease in additional revenue. In other words, If SpeedTech were to switch all production to AP but only charge the SP price, they would lose this additional revenue while only gaining marginal cost efficiencies, leading to an overall decrease in profits. Please note that the question asks to “best explain the results”, which does not mean it has to provide the most convincing financial model that has all answers unlike you would have to do in a “must be true” question for example.
D. Incorrect - Irrelevant. The startup costs are not connected to the ongoing profitability analysis and do not help explain the financial analysis.
E. Incorrect - Irrelevant. This answer choice also does not touch on why selling AP at SP prices would decrease profits, focusing instead on operational rather than financial outcomes.
General Discussion
17 Dec 2024, 09:15
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The question states that producing the Advanced Processor (AP) is more cost-efficient than producing the Standard Processor (SP).
However, analysts determined that if the company stopped producing SP and instead sold only AP at the price level of SP, the company's profits would decrease.
To understand this, consider the following key points:
1.Cost Efficiency: Producing AP is cheaper or faster, which reduces manufacturing costs compared to SP.
2.Higher Sale Price for AP: Traditionally, AP is sold at a higher price because customers perceive it as more valuable.
3.Impact on Profits: If SpeedTech were to eliminate SP and sell only AP at SP’s price, they would forgo the higher revenue they currently generate from selling AP at its higher price.
Option C Best Explains the above Scenario
Even though AP is cheaper to produce, the higher price at which AP is typically sold generates significantly more revenue.
Combining the product lines and selling only AP at SP's lower price would reduce overall revenue, outweighing any cost savings from AP's more efficient production.
Now Let us see Why rest options are incorrect.
Option A: While cheaper materials may explain reduced production costs for AP, this does not explain why profits would decrease if the two product lines were combined.
Option B: Faster production methods and perceived value are relevant, but this option does not explain the impact on overall profits.
Option D: R&D costs being recouped quickly does not relate to why combining the product lines would reduce profits.
Option E: Frequent updates and enhancements for AP add costs but do not explain why profits would decrease if AP replaced SP at the same price level.
However, analysts determined that if the company stopped producing SP and instead sold only AP at the price level of SP, the company's profits would decrease.
To understand this, consider the following key points:
1.Cost Efficiency: Producing AP is cheaper or faster, which reduces manufacturing costs compared to SP.
2.Higher Sale Price for AP: Traditionally, AP is sold at a higher price because customers perceive it as more valuable.
3.Impact on Profits: If SpeedTech were to eliminate SP and sell only AP at SP’s price, they would forgo the higher revenue they currently generate from selling AP at its higher price.
Option C Best Explains the above Scenario
Even though AP is cheaper to produce, the higher price at which AP is typically sold generates significantly more revenue.
Combining the product lines and selling only AP at SP's lower price would reduce overall revenue, outweighing any cost savings from AP's more efficient production.
Now Let us see Why rest options are incorrect.
Option A: While cheaper materials may explain reduced production costs for AP, this does not explain why profits would decrease if the two product lines were combined.
Option B: Faster production methods and perceived value are relevant, but this option does not explain the impact on overall profits.
Option D: R&D costs being recouped quickly does not relate to why combining the product lines would reduce profits.
Option E: Frequent updates and enhancements for AP add costs but do not explain why profits would decrease if AP replaced SP at the same price level.
