ExErcisEs: sEt BExternal and Internal Pricing FactorsE1B. Mobile Battery features more than a dozen brands of batteries in many sizes. Two of the brands are PowerPlus and SuperPower. Information about the two brands fol-lows.

PowerPlus SuperPowerSelling price:

Battery, installed $125 $110Cost per battery 100 70

As shown, selling prices include installation costs. Each battery costs $10 to install.

1. Compute each brand’s net unit selling price after installation. 2. Accounting connEction ▶ Was cost the main consideration in setting those

prices? 3. Accounting connEction ▶ What other factors could have influenced those

prices?

Traditional Economic Pricing TheoryE2B. Texaza, a product design firm, has just completed a contract to develop a wire-less phone keychain. The phone keychain needs to be recharged only once a week and can be used worldwide. Initial fixed costs for this product are $4,000. The designers estimate that the product will break even at the $5,000/100-unit mark. Total revenues will again equal total costs at the $25,000/900-unit point. Marginal cost is expected to equal marginal revenue when 550 units are sold.

1. Sketch total revenue and total cost curves for this product. Mark the vertical axis at each $5,000 increment and the horizontal axis at each 100-unit increment.

2. Based on your total revenue and total cost curves in 1, at what unit selling price will profits be maximized? (Round to two decimal places.)

Price DeterminationE3B. Turley Industries has just patented a new toothpaste called Sparkle for lasting protection against tooth decay. The company’s controller has developed the following annual information for use in price determination meetings:

Variable production costs $ 900,000Fixed overhead 500,000Selling expenses 200,000General and administrative expenses 125,000Desired profit 375,000Cost of assets employed 1,000,000

Annual demand for the product is expected to be 500,000 tubes. On average, the com-pany now earns an 8 percent return on assets.

1. Compute the projected unit cost for one tube of Sparkle. 2. Using gross margin pricing, compute the markup percentage and selling price for

one tube. 3. Using return on assets pricing, compute the unit price for one tube.

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2 Chapter 25: Pricing Decisions, Including Target Costing and Transfer Pricing

Pricing a ServiceE4B. Texas has just passed a law making it mandatory to have every head of cattle inspected at least once a year for a variety of communicable diseases. Big Springs Enter-prises is considering entering this inspection business. After extensive studies, Tex Autry, the owner of Big Springs Enterprises, has developed the following annual projections:

Direct service labor $525,000Variable service overhead costs 250,000Fixed service overhead costs 225,000Selling expenses 142,500General and administrative expenses 157,500Minimum desired profit 120,000Cost of assets employed 750,000

Autry believes his company could inspect 250,000 head of cattle per year. On average, the company now earns a 16 percent return on assets.

1. Compute the projected cost of inspecting each head of cattle. 2. Determine the price to charge for inspecting each head of cattle. Use gross margin

pricing. 3. Using return on assets pricing, compute the unit price to charge for this inspection

service.

Cost-Based PricingE5B. Hometown Bank is determining the price for its newest mini debit card. The card can be used at any retail outlet with a swipe reader and is small enough to attach to a key chain—no PIN number or signature is required. Sigrid Olmo has developed the follow-ing annual information for use in upcoming price determination meetings:

Variable processing costs $50 millionFixed processing costs 36 millionSelling expenses (fixed) 10 millionGeneral and administrative expenses (fixed) 4 millionDesired profit 3 billionCost of assets employed 10 billion

Annual usage is expected to be 10 billion transactions. On average, the company now earns a 6 percent return on assets.

1. Compute the projected cost of one transaction. 2. Using gross margin pricing, compute the price to charge per transaction. (Round to

the nearest whole percent.) 3. Using return on assets pricing, compute the price to charge per transaction.

Pricing ServicesE6B. Gator Car Repair specializes in repairing hybrid cars. The company uses a 70 per-cent markup rate on parts to cover parts-related overhead costs and profit margin. It uses a 100 percent markup rate on labor to cover labor-related overhead costs and profit margin. Compute the bill for a recent job that used the following parts and labor:

Material and repair parts used $550Labor used 4 hours at $40 per hour

Time and Materials PricingE7B. Cruz’s Home Remodeling Service specializes in refurbishing older homes. Last week Cruz was asked to bid on a remodeling job for the town’s mayor. The list of mate-rials and labor needed to complete the job follows.

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Chapter Assignments 3

Materials LaborLumber $ 6,500 Carpenter $2,000Nails/bolts 160 Floor specialist 1,300Paint 1,420 Painter 1,500Glass 2,890 Supervisor 1,420Doors 730 Helpers 1,680Hardware 600 Total $7,900Supplies 400Total $12,700

The company uses an overhead markup percentage for materials (60 percent) and for labor (40 percent). Those markups cover all operating costs. In addition, Cruz expects to make at least a 25 percent profit on all jobs. Compute the price that Cruz should quote for the mayor’s job.

Target Costing and PricingE8B. Environ Company has determined that its new fireplace screen would gain wide-spread customer acceptance if the company could price it at or under $90. Anticipated labor hours and costs for each unit of the new product follow.

Direct materials cost $15Direct labor costManufacturing labor:

Hours 1.2Hourly labor rate $12

Assembly labor:Hours 1.5Hourly labor rate $10

Machine hours 2

The company currently uses the following three activity-based cost rates:

Materials handling $1.30 per dollar of direct materialsProduction $3.00 per machine hourProduct delivery $5.50 per unit

Accounting connEction ▶ The company’s minimum desired profit is 25 percent over total production and delivery cost. Compute the target cost for the new fireplace screen, and determine if the company should market it.

Target CostingE9B. Accounting connEction ▶ Assume the same facts as in E8B except that the company’s minimum desired profit has been revised to 10 percent over production and delivery costs as a result of a recent economic downturn. Compute the revised tar-get cost for the new fireplace screen, and determine if the company should market it. (Round to two decimal places.)

Target CostingE10B. Suppose that Modern Manufacturing is developing a new chair targeted to sell for less than $100 and that it is considering the two production alternatives that follow. Rank the alternatives, assuming that the company’s minimum desired profit is 30 per-cent over total production costs. (Round to two decimal places.)

Alternative A Alternative BDirect material costs $35 $20Direct labor cost 1 hour at $12 per hour 2 hours at $8 per hourOverhead costs 200 percent of direct labor costs $2 per dollar of direct materials

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4 Chapter 25: Pricing Decisions, Including Target Costing and Transfer Pricing

Target CostingE11B. Management at Fox Valley Machine Tool Co. is considering the development of a new automated drill press called the AutoDrill. After conferring with the design engi-neers, the controller’s staff assembled the following data about this product:

Target selling price $6,000 per unitDesired profit percentage 20% of total unit costProjected unit demand 4,500 unitsActivity-based cost rates:

Materials handling 5% of direct materials and purchased parts costEngineering $300 per unit Production and assembly $50 per machine hourDelivery $570 per unit Marketing $400 per unit

Per-unit data:Direct materials cost $1,620Purchased parts cost $200Manufacturing labor:

Hours 6Hourly labor rate $14

Assembly labor:Hours 10Hourly labor rate $15

Machine hours 30

1. Compute the product’s target cost. 2. Compute the product’s projected unit cost based on the design engineers’ esti-

mates. 3. Accounting connEction ▶ Should management produce and market the

AutoDrill? Defend your answer.

Transfer Price ComparisonE12B. Mary Janus is developing a transfer price for the housing section of an automatic pool-cleaning device. The housing for the device is made in Department A. It is then passed on to Department D, where final assembly occurs. Unit costs for the housing follow.

Cost Categories Unit CostsDirect materials $5.20Direct labor 2.30Variable overhead 1.30Fixed overhead 2.60Profit markup, 20% of cost ?

An outside vendor can supply the housing for $13.00 per unit.

1. Develop a cost-plus transfer price for the housing. 2. Accounting connEction ▶ What should the transfer price be? Support your

answer.

Transfer PricingE13B. Patch Watch Company’s Seconds Store offers refurbished or factory seconds time-keeping products to the public at substantially reduced prices. The factory controller is

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Chapter Assignments 5

developing transfer price alternatives to present to management to determine the best price to use when transferring products from the factory to the store, using the follow-ing data:

Unit price if sold to outside retailers $25Variable product cost per unit $10Fixed product cost per unit $5Seconds store profit markup 40%

1. What is the market-based transfer price alternative? 2. What is the minimum transfer price alternative? 3. Compute the cost-plus transfer price alternative assuming cost includes variable

costs only.

Pricing Policy ObjectivesE14B. BusinEss ApplicAtion ▶ Old Denim, Ltd., is an international clothing com-pany that retails medium-priced goods. Its retail outlets are located throughout the United States, France, Germany, and Great Britain. Management wants to maintain the company’s image of providing the highest possible quality at the lowest possible prices. Selling prices are developed to draw customers away from competitors’ stores. First-of-the-month sales are regularly held at all stores, and customers are accustomed to this practice. Company buyers are carefully trained to seek out quality goods at inexpensive prices. Sales are targeted to increase a minimum of 5 percent per year. All sales should yield a 15 percent return on assets. Sales personnel are expected to wear Old Denim clothing while working, and all personnel can purchase clothing at 10 percent above cost. All stores are required to be clean and well organized. Competitors’ prices are checked daily. Identify Old Denim’s pricing policy objectives.

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