CHAPTER 15
Target Costing and Cost Analysis for
Pricing Decisions
EXERCISE 15-34 (25 MINUTES)
(1)
Cost-Plus Pricing Formula
Variable manufacturing cost ..................................................
$600 $1,200 = $600 + (100%  $600)a
Applied fixed manufacturing cost .........................................
210
(2)
Absorption manufacturing cost ............................................
$810 $1,200 = $810 + (48.15%  $810)b
Variable selling and administrative cost ...............................
90
Allocated fixed selling and
administrative cost ...............................................................
150
(3)
Total cost
$1,050 $1,200 = $1,050 + (14.29%  $1,050)c
Variable manufacturing cost ..................................................
$600
Variable selling and administrative cost ...............................
90
(4)
Total variable cost ..................................................................
$690 $1,200 = $690 + (73.91%  $690)d
Explanatory Notes:
a($1,200 – $600) ÷ $600 = 100%
b($1,200 – $810) ÷ $810 = 48.15% (rounded)
c($1,200 – $1,050) ÷ $1,050 = 14.29% (rounded)
d($1,200 – $690) ÷ $690 = 73.91% (rounded)
EXERCISE 15-35 (30 MINUTES)
Markup percentage
applied to cost base in
cost-plus
pricing formula
1.
Markup percentage
profit required to
achieve target ROI
total annual costs not
included in cost base
=
cost base per unit
annual
used in cost-plus

volume
pricing formula
total variable selling and total annual
$60,000 

=
administrative costs
fixed costs
480  $400
$60,000  (480  $50)  [480  ($250  $100)]
=
480  $400
$60,000  $24,000  $168,000
=
$192,000
+
= 131.25%
Thus, the Wave Darter’s price would be set equal to $925, where
$925 = $400 + ($400  131.25%).
EXERCISE 15-36 (15 MINUTES)
1.
Material component of time and material pricing formula:
 material

 cost 
incurred

 on job
2.
material handling
 material



and storagecosts
 cost

 incurred  annual cost of materials    1.05

 
used
in
Repair
Department
on
job

 
Material component of price, using formula developed in requirement (1):
[$8,000 + ($8,000  .04)]  1.05
= $8,320  1.05
= $8,736
New price to be quoted on yacht refurbishment:
Total price of job = time charges + material charges
= $9,000* + $8,736**
= $17,736
*From Exhibit 15-7.
**From
requirement (1).
PROBLEM 15-39 (30 MINUTES)
1.
(a) Time charges:
annual overhead (excluding
Hourly
labor
cost
+
material handling and storage)
annual labor hours
+
hourly charge to
cover profit magin
= $25.00 +
$220,000
+ $5.00
20,000
= $41.00 per labor hour
(b) Material charges:
 material cost
material handling and storage costs
 

incurred on job  incurred on job
annual cost of materials used
Material cost
=



 material cost
$25,250 
 


incurred on job  incurred on job $252,500 
Material cost
2.
PRICE QUOTATION
Time charges:
Labor time ..................................................................................................
800 hours
 Rate .........................................................................................................
 $ 41.00 per hour
Total ............................................................................................................
$32,800
Material charges: Cost of materials for job ...........................................................................
$150,000
+ Charge for material handling and storage ............................................
15,000*
Total ............................................................................................................
$165,000
Total price of job: Time ............................................................................................................
$ 32,800
Material .......................................................................................................
165,000
Total ............................................................................................................
$197,800
*Charge for material handling and storage):
10% = $25,250 ÷ $252,500; 10%  $150,000 = $15,000
Price of job without markup on material costs (from requirement 2) ....
$ 197,800
Markup on total material costs ($165,000  10%) ...................................
Total price of job ........................................................................................
16,500
$214,300
3.
PROBLEM 15-42 (30 MINUTES)
1.
Cost-plus pricing begins by computing an item’s cost and then adds an
appropriate markup. The result is the item’s selling price. In contrast,
target costing begins by determining an appropriate selling price. A
target profit is next subtracted from that price to yield the cost (i.e., the
“target cost”) that must be achieved.
Target costing could be labeled price-led costing because it begins by
determining a target selling price. In contrast, cost-plus pricing methods
begin with the cost and culminate in determination of the selling price.
2.
The current selling price is $6,750:
Direct
material…………………………….......
Direct
labor…………………………………….
Manufacturing
overhead……………………
Selling and administrative expenses…….
Total
cost………………………………….
Markup ($5,400 x
25%)……………………...
Selling
price………………………………......
3.
4.
$ 900
2,250
1,500
750
$5,400
1,350
$6,750
Lehigh’s markup is $1,350, which is 20% of the current $6,750 selling
price ($1,350 ÷ $6,750). To achieve a 20% markup on a $5,500 selling
price, the company must reduce its costs by $1,000.
Selling
price………………………………….
Less: 20% markup ($5,500 x
20%)……….
Target
cost……………………………………
$5,500
Current
cost………………………………….
Less: Target
cost…………………………..
Required cost
reduction………………….
$5,400
1,100
$4,400
4,400
$1,000
Yes. The company should focus its efforts on trimming non-value-added
costs. These costs are associated with non-value-added activities (i.e.,
activities that are either (a) unnecessary and dispensable or (b) necessary,
but inefficient and improvable).
5.
If costs cannot be reduced below $5,400, Lehigh will have to reduce its
markup to remain competitive. Assuming a desire to achieve the going
market price of $5,500, the markup must equal $100 ($5,500 - $5,400), or
1.85% of cost ($100 ÷ $5,400). Given that the current markup on cost is
25%, a reduction of 23.15% is needed (25.00% - 1.85%).
6.
The statement means that selling prices are a function of market
conditions; however, the selling prices must cover a company’s costs in
the long run. Also, in a number of industries, prices are based on costs.
Yet, the prices are subject to the reaction of customers and competitors.
7.
In the electronic version of the solutions manual, press the CTRL key and
click on the following link: 10E - Build a Spreadsheet 15-42.xls