Author Question: Value engineering, target pricing, and locked-in costs. Wood Creations designs, manufactures, and ... (Read 129 times)

Melani1276 · **on:** Jul 6, 2018

Value engineering, target pricing, and locked-in costs.

Wood Creations designs, manufactures, and sells modern wood sculptures. Sally Jensen is an artist for the company. Jensen has spent much of the past month working on the design of an intricate abstract piece. Jim Smoot, product development manager, likes the design. However, he wants to make sure that the sculpture can be priced competitively. Alexis Nampa, Wood's cost accountant, presents Smoot with the following cost data for the expected production of 75 sculptures:

Required:
1. Smoot thinks that Wood Creations can successfully market each piece for 2,500. The company's target operating income is 25 of revenue. Calculate the target full cost of producing the 75 sculptures. Does the cost estimate Nampa developed meet Wood's requirements? Is value engineering needed?
2. Smoot discovers that Jensen has designed the sculpture using the highest-grade wood available, rather than the standard grade of wood that Wood Creations normally uses. Replacing the grade of wood will lower the cost of direct materials by 60. However, the redesign will require an additional 1,100 of design cost, and the sculptures will be sold for 2,400 each. Will this design change allow the sculpture to meet its target cost? Is the cost of wood a locked-in cost?
3. Jensen insists that the higher-grade wood is a necessity in terms of the sculpture's design. She believes that spending an additional 3,000 on better marketing will allow Wood Creations to sell each sculpture for 2,700. If this is the case, will the sculptures' target cost be achieved without any value engineering?
4. Compare the total operating income on the 75 sculptures for requirements 2 and 3. What do you recommend Wood Creations do, based solely on your calculations? Explain briefly.
5. What challenges might managers at Wood Creations encounter in achieving the target cost and how might they overcome these challenges?

Question 2

A _________ is any period of time covering a complete accounting cycle.
a. fiscal time
b. fiscal period
c. tax year
d. accounting period

meltdown117 · **Reply #1 on:** Jul 6, 2018

Answer to Question 1

1.
Design cost 8,000
Direct materials 32,000
Direct manufacturing labor 38,000
Variable manufacturing overhead 32,000
Fixed manufacturing overhead 26,000
Marketing 14,000
Total cost 150,000
Cost per unit (150,000 75) 2,000
Target cost per unit (2,500 0.75) 1,875
Profit per unit (2,500 2,000) 500
The cost estimate developed by Nampa does not meet Wood Creations' requirements. Value engineering will be needed to reduce the cost per unit to the target cost.

2.
Total costs (requirement 1) 150,000
Less: Reduction in material costs (32,000 60) (19,200)
Add: Increase in design costs 1,100
Total costs of redesigned table 131,900
Revised cost per unit (131,900 75) 1,758.67
Revised target cost per unit (2,400 0.75) 1,800.00
Profit per unit (2,400 1,758.67) 641.33
The design change allows the sculpture to meet Wood Creations' requirements for target costing. The cost of materials is a locked-in cost once the design is finalized.

3.
Revised total cost (150,000 + 3,000) 153,000
Revised cost per unit (153,000 75) 2,040
Revised target cost per unit (2,700 0.75) 2,025
Profit per unit (2,700 2,040) 660
No, this proposal does not allow the sculpture to meet Wood Creations' requirements for target costing. Value engineering will be needed to reduce the cost per unit to the target cost.

4.
Requirement 2 Requirement 3
Revenue (2,400 75; 2,700 75) 180,000 202,500
Total costs 131,900 153,000
Operating income 48,100 49,500
Even without value engineering, Wood Creations should implement the actions in requirement 3. It should spend 3,000 on marketing if it can achieve a price higher than 2,700 even though it does not achieve the target cost because it earns a higher overall operating income. Doing value engineering will help it increase operating income even more relative to requirement 2.

5. The challenges that Wood Creations might encounter in achieving the target cost are mostly employee related. If the employees resist the changes, or struggle with the implementation of the improvements, the target cost will be in danger of not being met. Wood Creations might counter these struggles by adapting its incentive program to reward the desired effects of the changes and improvements.
Wood Creations would also need to think about the customer and whether reducing material costs would reduce demand. For example, the customer may prefer the highest grade of wood that Jensen has used rather than the standard grade of wood that Wood Creations might use to achieve the target cost.

Answer to Question 2

B