Reference no: EM131400202

Quencher Beverage is a large regional retail establishment. At the beginning of the quarter Quencher decided to start selling one of its most popular products—Coca-Cola 10-packs— at a loss (i.e., a loss leader) in order to entice consumers to purchase other items in greater amounts than they would otherwise purchase. Quencher’s loss leader pricing rule is to set unit price at 80 percent of its unit variable product cost (as opposed to marking up full unit cost by a much larger percentage as it does for regular products). Quencher’s accounting system reports a full unit cost for each 10-pack (considered as one unit) of $10.00. Quencher’s full unit cost is comprised of its variable product costs, $2.00 per-unit for shipping, $50,000 fixed cost for R&D product packaging redesign, and $40,000 fixed cost for customer service-related activities (phone hotlines, website complaint monitoring, replacement of faulty or bad products, etc.). For the quarter, Quencher expects to sell 30,000 10-packs (i.e., each participating customer will purchase one 10-pack).

Part 1 Requirements: Budgeted Results

1. Calculate Quencher’s unit variable product cost.

2. Calculate Quencher’s 10-pack loss leader unit selling price, as well as expected total 10-pack revenues, for the current quarter.

3. Quencher anticipates that the Coca-Cola loss leader strategy will bring in additional customer traffic that will result in incremental contribution margin of $250,000 in the current quarter. Also, assume that the R&D costs and customer service-related costs are unaffected by Quencher’s Coca-Cola loss leader decision. Calculate the expected total quarterly net financial impact from using the Coca-Cola 10-packs as a loss leader?

Part 2 Requirements: Actual Results

4. Unfortunately, upon reviewing the actual results at the end of the quarter, Quencher management was extremely disappointed with the performance of its Coca-Cola loss leader strategy. The perplexing part was that Quencher actually sold considerably more 10-packs than expected (ten times more to be exact), but the store’s overall profit was down considerably. Upon conducting interviews with store employees, one cashier shared the following observation with Quencher management:

“I have observed many customers checking out through my lane this quarter. Do you know what I have learned fits perfectly inside a Quencher shopping cart?! Ten, 10-packs of Coca-Cola with NO ROOM TO SPARE FOR ANYTHING ELSE!!”   

Finally, management now realizes that its regular contribution margin from non-loss leader products actually decreased by $500,000 for the quarter as a result of loss leader customers filling their carts with excessive 10-packs and no longer buying as many regular products that they otherwise would have bought.

Calculate the actual quarterly financial impact from Quencher’s decision to pursue the Coca-Cola loss leader strategy.   

5. What suggestions do you have for Quencher management when and if the company decides to continue its Coca-Cola loss leader strategy?