Question

Activity-Based Management, Non-Value-Added Costs, Target Costs, Kaizen Costing Joseph Hansen, president of Electronica, Inc., was concerned about the end-of-the-year marketing report that he had just received. According to Kylee Hepworth, marketing manager, a price decrease for the coming year was again needed to maintain the company's annual sales volume of integrated circuit boards (CBs). This would make a bad situation worse. The current selling price of $27 per unit was producing a $3-per-unit profit—half the customary $6-per-unit profit. Foreign competitors keep reducing their prices. To match the latest reduction would reduce the price from $27 to $21. This would put the price below the cost to produce and sell it. How could the foreign firms sell for such a low price? Determined to find out if there were problems with the company's operations, Joseph decided to hire Carsen Hepworth, a well-known consultant and brother of Kylee, who specializes in methods of continuous improvement. Carsen indicated that he felt that an activity-based management system needed to be implemented. After three weeks, Carsen had identified the following activities and costs: Batch-level activities: Setting up equipment 187,500 Materials handling 270,000 Inspecting products 183,000 Product-sustaining activities: Engineering support 180,000 Handling customer complaints 150,000 Filling warranties 255,000 Storing goods 120,000 Expediting goods 112,500 Unit-level activities: Using materials 750,000 Using power 72,000 Manual insertion labora 375,000 Other direct labor 225,000 Total costs $2,880,000b aDiodes, resistors, and integrated circuits are inserted manually into the circuit board. bThis total cost produces a unit cost of $24 for last year’s sales volume. Carsen indicated that some preliminary activity analysis shows that per-unit costs can be reduced by at least $10.50. Since Kylee had indicated that the market share (sales volume) for the boards could be increased by 50 percent if the price could be reduced to $18, Joseph became quite excited. Required: 1. Compute the cost savings per unit that would be realized if these costs were eliminated. If required, round your answer to the nearest cent. $ per unit 2. Compute the target cost required to maintain current market share, while earning a profit of $6 per unit. $ per unit Now, compute the target cost required to expand sales by 50 percent. $ per unit How much cost reduction would be required to achieve each target? Cost reduction to maintain $ per unit Cost reduction to expand $ per unit 4. Assume that Carsen suggested that kaizen costing be used to help reduce costs. The first suggested kaizen initiative is described by the following: switching to automated insertion would save $90,000 of engineering support and $135,000 of direct labor. Now, what is the total potential cost reduction per unit available? If required, round your answer to the nearest cent. $ per unit 5. Calculate income based on current sales, prices, and costs. Sales $ per unit Costs per unit Income $ per unit Now, calculate the income using a $21 price and an $18 price, assuming that the maximum cost reduction possible is achieved (including Requirement 4's kaizen reduction). Income $21 price $ per unit $18 price $ per unit What price should be selected? $18 price

Answer 1

1. Computation of Cost savings per unit

At present cost per unit = present selling price - profit per unit

= 27 -3

=24

proposed cost reduction = 10.5 per unit

reduced price to be fixed to earn same profit to match competition = 21

cost per unit on reduced price =21-3 = 18

savings in cost = old cost - new cost

=24 - 18

=6 per unit

2.computation of target cost required to maintain current market share, while earning a profit of $6 per unit

new sales price = $21

less: target profit =$6

Target Cost =$15 per unit

cost to be reduced to achieve target = old cost - new cost

=$24 - $15

=$9

3.computation of arget cost required to expand sales by 50 percent.

Targeted salling price per unit = $18

less: present profit    =$3

Target Cost =$15

cost to be reduced to achieve target = old cost - new cost

=$24 - $15

=$9

4. potential cost reduction per unit if kaizen costing method applied.

Total cost = $2,880,000

per unit cost as per last year = $24

So, number unit sold last year =2880000 / 24

=120,000 units

cost reduction due to kaizen costing

engineering support =$90,000

direct labor =$135,000

Total cost reduction =$225,000

reduced cost = $2,880,000 - $225,000

=$2,655,000

New cost per unit = reuced cost / number of unit sold

=$2,655,000 / 120,000 units

=$ 22.13 (round off)

reduction in cost due to kaizen costing = $24 - $22.13

=$1.87

5.Calculation of income based on current sales, prices, and costs

PARTICULERS	UNITS	AMOUNTS ($)
sales price		27
less: cost per unit		24
profit		3
units sold	120000
total income		360,000

calculation of the income using $21 price and $18 price

Particulers	Sales Units	Amount	Sales Units	Amounts
Price		21		18
less: cost *		11.63		11.63
profit		9.37		6.37
units sold	120000		180000
Total Income		$1,124,400		$1,146,600

* Cost = 24 - 10.5(cost reduction) - 1.87(kaizen reduction)

=$11.63

IT IS ADVISED TO FIX PRICE 18 SO THAT COMPANY CAN EARN $22200 MORE PROFIT THAN PRICE 21