The target cost formula is: Target cost = Market price Desired profit.

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1 EXERCISE 8-1 The target cost formula is: Target cost Market price Desired profit. In this case, the market price is $20 and the desired profit is $8 (40% X $20). Therefore the target cost is $12 ($20 $8). (b) Target costing is particularly helpful when a company faces a competitive market. In this case, the price is affected by supply and demand, so no company in the industry can affect price. Therefore to earn a profit, companies must focus on controlling costs. EXERCISE 8-2 The following formula may be used to determine return on investment Investment X ROI percentage Return on investment $8,000,000 X 20% $1,600,000 Return on investment per unit is then $16 ($1,600, ,000) The target cost is therefore $74 computed as follows: Target cost Market price Desired profit $74 $90 $16 EXERCISE 8-3 (1) In this case the selling price would be $125 ($100 + [$100 X 25%]). The problem with the $125 is that it is unlikely that Leno will be able to sell any All-Body suits at that price. Market research seems to indicate that it will sell for only $100. (2) One way that Leno might consider manufacturing the All-Body swimsuit is if it has excess capacity and therefore manufacturing the All-Body will not affect fixed costs. Thus if the company can cover its variable costs, it might want to sell at the $100 level. (b) In this case, the amount would be the selling price of $100.

2 EXERCISE 8-3 (Continued) (c) The highest acceptable cost would be the target cost. The target cost is $75 as shown below: Target cost Market price Desired profit $75 $100 $25 EXERCISE 8-4 cost per unit: Direct materials... Direct labor... Variable manufacturing overhead... Fixed manufacturing overhead ($300,000/30,000)... Variable selling and administrative expenses... Fixed selling and administrative expenses ($150,000/30,000)... $ $55 (b) Target selling price $55 + (40% X $55) $77 EXERCISE 8-5 cost per unit: Direct materials... Direct labor... Variable manufacturing overhead... Fixed manufacturing overhead ($3,000,000/500,000)... Variable selling and administrative expenses... Fixed selling and administrative expenses ($1,500,000/500,000)... $ $56 (b) Desired ROI per unit (25% X $28,000,000)/500,000 $14

3 EXERCISE 8-5 (Continued) (c) Markup percentage using total cost per unit: $14 25% $56 (d) Target selling price $56 + ($56 X 25%) $70 EXERCISE 8-6 cost per session: Per Session Direct materials... $ 20 Direct labor Variable overhead Fixed overhead ($950,000 1,000) Variable selling & administrative expenses Fixed selling & administrative expenses ($500,000 1,000) cost per session... $1,960 (b) Desired ROI per session (20% X $2,352,000) 1,000 $ (c) Mark-up percentage on total cost per session $ $1,960 24% (d) Target price per session $1,960 + ($1,960 X 24%) $2, EXERCISE 8-7 Fixed manufacturing overhead per unit $1,500,000 $500 per unit 3,000 Fixed selling and administrative expenses per unit $324,000 $108 per unit 3,000 (b) Desired ROI per unit 20% X $54,000,000 $3,600 per unit 3,000

4 EXERCISE 8-7 (Continued) (c) Direct materials... Direct labor... Variable manufacturing overhead... Fixed manufacturing overhead... Variable selling and administrative expenses... Fixed selling and administrative expenses... cost per unit... Desired ROI per unit... Target selling price... $ ,405 3,600 $5,005 EXERCISE 8-8 Cost Hours Per Hour Charge Hourly labor rate for repairs Technician s wages and benefits Overhead costs Office employee s salary and benefits Other overhead Profit margin Rate charged per hour of labor $228,000 38,000 15,200 $281,200 7,600 7,600 7,600 7,600 $ $67 (b) Material Loading Charges Invoice Cost, Parts and Materials Material Loading Percentage Overhead costs Parts manager s salary and benefits Office employee s salary and benefits Other overhead Profit margin Material loading percentage $42,500 9,000 51,500 24,000 $75,500 $400,000 $400,000 $400, % 6.000% % % %

5 EXERCISE 8-8 (Continued) (c) Job: Pace Corporation Rebuild spot welder Labor charges 40 $67... $2, Material charges Cost of parts and materials... $2, Material loading charge (38.875% X $2,000) , price of labor and material... $5, EXERCISE 8-9 Hourly labor rate for repairs Technician s wages and benefits Overhead costs Office employee s salary and benefits Other overhead Profit margin Rate charged per hour of labor Cost $150,000 30,000 15,000 $195,000 Hours 6,250 6,250 6,250 6,250 Per Hour Charge $ $69.20 (b) Overhead costs Parts manager s salary and benefits Office employee s salary and benefits Material Loading Charges $34,000 15,000 49,000 Invoice Cost, Material Parts and Loading Materials Percentage $700, % Other overhead Profit margin Material loading percentage 42,000 $91,000 $700,000 $700, % 13.00% 80.00% 93.00%

6 EXERCISE 8-9 (Continued) (c) Job: Buil Builders Labor charges 80 $ $ 5,536 Material charges Cost of parts and materials... $40,000 Material loading charge (93% X $40,000)... 37,200 77,200 price of labor and material... $82,736 PROBLEM 8-2B Direct materials... $30 Direct labor Variable manufacturing overhead Variable selling and administrative expenses... 8 Variable cost per unit... $75 Fixed manufacturing overhead Fixed selling and administrative expenses Fixed cost per unit Costs $2,500, ,000 $3,000,000 Budgeted Volume 100, , ,000 Cost $25 5 $30 Variable cost per unit... $ 75 Fixed cost per unit cost per unit... $105 Desired ROI per unit 30% X $3,000,000 $9 100,000 Markup percentage $9 $ % cost per unit... $105 Desired ROI per unit... 9 Target selling price... $114 (b) Variable cost per unit... $75 (same as )

7 Costs Budgeted Volume Cost Fixed manufacturing overhead Fixed selling and administrative expenses Fixed cost per unit $2,500, ,000 $2,900,000 80,000 80,000 80,000 $ $37.50 Variable cost per unit... $ Fixed cost per unit cost per unit... $ Desired ROI per unit 30% X $3,000,000 $ ,000 Markup percentage $ % $ cost per unit... $ Desired ROI per unit Target selling price... $ P8-2B Robo Parts Inc. is in the process of setting a selling price on a new robotics component it has just designed and developed. The following cost estimates for this new component have been provided by the accounting department for a budgeted volume of 100,000 units. Direct materials $30 Direct labor $20 Variable manufacturing overhead $17 Fixed manufacturing overhead $2,500,000 Variable selling and administrative expenses $ 8 Fixed selling and administrative expenses $ 500,000 Robo s management requests that the total cost per unit be used in cost-plus pricing its products. On this particular product, management also directs that the target price be set to provide a 30% return on investment (ROI) on invested assets of $3,000,000. Instructions (Round all calculations to two decimal places.) Compute the markup percentage and target selling price that will allow Robo to earn its desired ROI of 30% on this new component. (b) Assuming that the volume is 80,000 units, compute the markup percentage and target selling price that will allow Robo to earn its desired ROI of 30% on this new

Pricing. Managerial Accounting Fifth Edition Weygandt Kimmel Kieso. Page 8-2

Pricing. Managerial Accounting Fifth Edition Weygandt Kimmel Kieso. Page 8-2 8-1 Pricing Managerial Accounting Fifth Edition Weygandt Kimmel Kieso 8-2 study objectives 1. Compute a target cost when the market determines a product price. 2. Compute a target selling price using cost-plus