Chapter 25: Q25-10RQ (page 1406)
What is target pricing? Who uses it?
Answer
Target pricing is a technique or process that a business uses to compute the price of a new product based onmarket prices.
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Green Thumb operates a commercial plant nursery, where it propagates plants for garden centers throughout the region. Green Thumb has \(5,300,000 in assets. Its yearly fixed costs are \)625,000, and the variable costs for the potting soil, container, label, seedling, and labor for each gallon-size plant total \(1.70. Green Thumb’s volume is currently 490,000 units. Competitors offer the same plants, at the same quality, to garden centers for \)4.00 each. Garden centers then mark them up to sell to the public for \(9 to \)12, depending on the type of plant.
Requirements
1. Green Thumb’s owners want to earn an 10% return on the company’s assets. What is Green Thumb’s target full product cost?
2. Given Green Thumb’s current costs, will its owners be able to achieve their target profit?
3. Assume Green Thumb has identified ways to cut its variable costs to \(1.55 per unit. What is its new target fixed cost? Will this decrease in variable costs allow the company to achieve its target profit?
4. Green Thumb started an aggressive advertising campaign strategy to differentiate its plants from those grown by other nurseries. Green Thumb does not expect volume to be affected, but it hopes to gain more control over pricing. If Green Thumb has to spend \)135,000 this year to advertise and its variable costs continue to be $1.55 per unit, what will its cost-plus price be? Do you think Green Thumb will be able to sell its plants to garden centers at the cost-plus price? Why or why not?
Question: Explain the difference between price-takers and price-setters.
Edna Fashions operates three departments: Men’s, Women’s, and Accessories. Departmental operating income data for the third quarter of 2018 are as follows:
EDNA FASHIONS
Income Statement
For the Quarter Ended September 30, 2018
Department
Men’s Women’s Accessories Total
Net Sales Revenue \(101,000 \)59,000 \(102,000 \)262,000
Variable Costs 65,000 35,000 91,000 191,000
Contribution Margin 36,000 24,000 11,000 71,000
Fixed Costs 27,000 19,000 29,000 75,000
Operating Income \(9,000 \)5,000 \((18,000) \)(4,000)
Assume that the fixed costs assigned to each department include only direct fixed costs of the department:
• Salary of the department’s manager
• Cost of advertising directly related to that department
If Edna Fashions drops a department, it will not incur these fixed costs. Under these circumstances, should Edna Fashions drop any of the departments? Give your reasoning.
StoreAll produces plastic storage bins for household storage needs. The company makes two sizes of bins: large (50 gallon) and regular (35 gallon). Demand for the products is so high that StoreAll can sell as many of each size as it can produce. The company uses the same machinery to produce both sizes. The machinery can be run for only 3,300 hours per period. StoreAll can produce 10 large bins every hour, whereas it can produce 17 regular bins in the same amount of time. Fixed costs amount to \(115,000 per period. Sales prices and variable costs are as follows:
Regular Large
Sales price per unit \)8.00 $10.40
Variable cost per unit 3.50 4.40
Requirements
1. Which product should StoreAll emphasize? Why?
2. To maximize profits, how many of each size bin should StoreAll produce?
3. Given this product mix, what will the company’s operating income be?
What questions should managers answer when considering dropping a product or segment?
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