Chapter 25: Q8RQ (page 1406)
What questions should managers answer when setting regular prices?
The managers must answer three major questions when settingregular prices: the company's target profit, the customer's ability to pay, and the perception of setting the price.
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Top managers of Video Avenue are alarmed by their operating losses. They are considering dropping the DVD product line. Company accountants have prepared the following analysis to help make this decision:
VIDEO AVENUE
Income Statement
For the Year Ended December 31, 2018
Total Blu-ray Discs DVD Discs
Net Sales Revenue \(437,000 \)308,000 \(129,000
Variable Costs 250,000 154,000 96,000
Contribution Margin 187,000 154,000 33,000
Fixed Costs:
Manufacturing 132,000 76,000 56,000
Selling & Administrative 65,000 51,000 14,000
Total Fixed Expenses 197,000 127,000 70,000
Operating Income (Loss) \)(10,000) \(27,000 \)(37,000)
Total fixed costs will not change if the company stops selling DVDs.
Requirements
1. Prepare a differential analysis to show whether Video Avenue should drop the DVD product line.
2. Will dropping DVDs add $37,000 to operating income? Explain.
Moore Company sells both designer and moderately priced fashion accessories. Top management is deciding which product line to emphasize. Accountants have provided the following data:
Per Item
Designer Moderately Priced
Average sales price \(185 \)87
Average variable costs 105 22
Average contribution margin 80 65
Average fixed costs (allocated) 20 10
Average operating income \(60 \)55
The Moore Company store in Grand Junction, Colorado, has 14,000 square feet of floor space. If Moore Company emphasizes moderately priced goods, it can display 840 items in the store. If Moore Company emphasizes designer wear, it can display only 560 designer items. These numbers are also the average monthly sales in units.
Prepare an analysis to show which product the company should emphasize.
Snappy Plants operates a commercial plant nursery where it propagates plants for garden centers throughout the region. Snappy Plants has \(5,100,000 in assets. Its yearly fixed costs are \)650,000, and the variable costs for the potting soil, container, label, seedling, and labor for each gallon-size plant total \(1.90. Snappy Plants’s volume is currently 500,000 units. Competitors offer the same plants, at the same quality, to garden centers for \)4.25 each. Garden centers then mark them up to sell to the public for \(9 to \)12, depending on the type of plant.
Requirements
1. Snappy Plants’s owners want to earn a 11% return on investment on the company’s assets. What is Snappy Plants’s target full product cost?
2. Given Snappy Plants’s current costs, will its owners be able to achieve their target profit?
3. Assume Snappy Plants has identified ways to cut its variable costs to \(1.75 per unit. What is its new target fixed cost? Will this decrease in variable costs allow the company to achieve its target profit?
4. Snappy Plants started an aggressive advertising campaign strategy to differentiate its plants from those grown by other nurseries. Snappy Plants does not expect volume to be affected, but it hopes to gain more control over pricing. If Snappy Plants has to spend \)105,000 this year to advertise and its variable costs continue to be $1.75 per unit, what will its cost-plus price be? Do you think Snappy Plants will be able to sell its plants to garden centers at the cost-plus price? Why or why not?
What is target pricing? Who uses it?
Thomas Company makes a product that regularly sells for \(12.50 per unit. The product has variable manufacturing costs of \)8.50 per unit and fixed manufacturing costs of \(2.00 per unit (based on \)200,000 total fixed costs at current production of 100,000 units). Therefore, the total production cost is \(10.50 per unit. Thomas Company receives an offer from Wesley Company to purchase 5,000 units for \)9.00 each. Selling and administrative costs and future sales will not be affected by the sale, and Thomas does not expect any additional fixed costs.
1. If Thomas Company has excess capacity, should it accept the offer from Wesley? Show your calculations.
2. Does your answer change if Thomas Company is operating at capacity? Why or why not?
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