Cost-plus, target pricing, working backward. The new CEO of ...

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Cost-plus, target pricing, working backward.
 
  The new CEO of Rusty Manufacturing has asked for a variety of information about the operations of the firm from last year. The CEO is given the following information, but with some data missing:
 
  Required:
  1. Find (a) total sales revenue, (b) selling price, (c) rate of return on investment, and (d) markup percentage on full cost for this product.
  2. The new CEO has a plan to reduce fixed costs by 225,000 and variable costs by 0.30 per unit while continuing to produce and sell 500,000 units. Using the same markup percentage as in requirement 1, calculate the new selling price.
  3. Assume the CEO institutes the changes in requirement 2 including the new selling price. However, the reduction in variable cost has resulted in lower product quality resulting in 5 fewer units being sold compared with before the change. Calculate operating income (loss).
  4. What concerns, if any, other than the quality problem described in requirement 3, do you see in implementing the CEO's plan? Explain briefly.

Question 2

The process of writing a transaction in a ledger is called journalizing.
 a. True
   b. False
   Indicate whether the statement is true or false

[lcapri7]

Answer to Question 1

1. In the following table, work backward from operating income to calculate the selling price.
Selling price  9.36 (plug)
Less: Variable cost per unit 4.00
Unit contribution margin  5.36
Number of units produced and sold  500,000 units
Contribution margin 2,680,000
Less: Fixed costs 2,500,000
Operating income  180,000
a) Total sales revenue = 9.36 500,000 units = 4,680,000
b) Selling price = 9.36 (from above)
Alternatively,
Operating income  180,000
Add fixed costs 2,500,000
Contribution margin 2,680,000
Add variable costs (4.0  500,000 units) 2,000,000
Sales revenue 4,680,000

c) Rate of return on investment =
d) Markup  on full cost
Total cost = (4 500,000 units) + 2,500,000 = 4,500,000
Unit cost =
Markup  =
Or

2. New fixed costs =2,500,000  225,000 = 2,275,000
New variable costs = 4.00  0.30 = 3.70
New total costs = (3.70  500,000 units) + 2,275,000 = 4,125,000
New total sales (4 markup) = 4,125,000 1.04 = 4,290,000

New selling price = 4,290,000  500,000 units = 8.58
Alternatively,
New unit cost = 4,125,000  500,000 units = 8.25
New selling price = 8.25 1.04 = 8.58

3. New units sold = 500,000 units  95 = 475,000 units

Budgeted Operating Income
for the Year Ending December 31, 20xx
Revenues (8.58 475,000 units)
4,075,500
Variable costs (3.70 475,000 units)
1,757,500
Contribution margin 2,318,000
Fixed costs 2,275,000
Operating income  43,000

4. The CEO has not considered customers in these pricing decisions. Will customers continue to want the product at these prices? What are competitors doing? The CEO should take a more market-based approach to pricing.
The CEO should also think about the effect of cost cutting on employee participation and morale and whether the cuts are falling disproportionately on any specific value-chain function.

Answer to Question 2

False

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