Provide Recommendation Regards To Pricing †Myassignmenthelp.Com

Question: Discuss About The Provide Recommendation Regards To Pricing? Answer: Introduction Jackson Ltd has a product line which consists of namely two products i.e. Fred and Martha. Currently, the costing of these two products is being carried on using the traditional overhead method using the direct labour as the suitable metric and applying a plant-wide overhead rate. Further, the pricing of the products is linked to the costing as a 20% mark-up is charged on the products. However, a competitor is providing the product Martha at a significantly lower price due to which there is an urgency to allocate the overheads cost in accordance with ABC (Activity Based Costing) approach so that the costing can be improved and prices could be more competitive. The objective of this report is to bring out the differences between the overhead allocation in the two methods and the unit prices derived using the traditional and ABC approach so as to provide recommendation to the company with regards to pricing. Analysis The objective is to determine the cost per unit for each of the two products (Fred and Martha). The first job would be to ascertain the overhead rate which would be applicable. Total manufacturing overheads = $ 816,000 Total direct hours of labour = 1000*2 (For Fred) + 5000*3 (For Martha) = 17000 hours Manufacturing overhead per direct labour hour = = 816000/17000 = $ 48 Since, 2 hours of direct labour are used for each unit of Fred, hence unit overhead costs for Fred = 48*2= $ 96 Since, 3 hours of direct labour are used for each unit of Martha, hence unit overhead costs for Martha = 48*3= $ 144 Thus, based on the above computation and the provided direct cost data, the unit cost computation for the two products is summarised in the table below (Emmauel and Otley, 2010) Hence, from the above computation, it is apparent that the unit cost for Fred and Martha is $ 166 and $ 249 respectively. With regards to ABC approach, the first step would be find the cost per activity and apply the same to the two products i.e. Fred and Martha. The following table illustrates the computation of cost per activity in accordance with the concerned activity driver for each of the different activities involved in the manufacturing overhead (Drury, 2006). Based on the respective cost drivers consumed for each of the two products, the various activity costs would be allocated to the respective product. This can be carried out as highlighted below (Heisinger, 2009). Machine Related Costs Machine related cost per unit machine hour = $50 Machine hour required for unit production of Fred = 4 Machine hour required for unit production of Martha = 1 Hence, machine related overhead cost per unit of Fred = 4*50 = $ 200 Machine related overhead cost per unit of Martha = 1*50 = $ 50 Setup and Inspection Setup cost per run = $ 4,500 Number of units of Fred in 1 production run = 50 Number of units of Martha in 1 production run = 250 Hence, setup and inspection cost per unit of Fred = (4500/50) = $ 90 Setup and inspection cost per unit of Martha = (4500/250) = $ 18 Engineering Costs Engineering cost per order change = $ 900 Total engineering cost attributed to Fred = (75/100)*90000 = $ 67500 Engineering cost per unit of Fred = 67500/1000 = $67.5 Total engineering cost attributed to Martha = (25/100)*90000 = $ 22500 Engineering cost per unit of Fred = 22500/5000 = $4.5 Plant related Costs Since the cost driver of these costs is the area and 80% of the area is utilised for Fred production, hence 80% of the costs would be attributed to the production of Fred units while the remaining 20% would be attributed to the production of Martha. Hence, plant related costs attributed to Fred = (80/100)*96000 = $ 76,800 Unit plant related costs attributed to Fred = 76800/1000 = $ 76.8 Plant related costs attributed to Martha = (20/100)*96000 = $ 19,200 Unit plant related costs attributed to Martha= 19200/5000 = $ 3.84 Unit overhead cost allocation Unit overhead cost related to Fred = 200 + 90 + 67.5 + 76.8 = $434.3 Unit overhead cost related to Martha = 50 + 18 + 4.5 + 3.84 = $76.34 Hence, the unit cost of each of the products as per ABC approach is summarised below. Conclusion Based on the above computation, it is apparent that currently Martha is overpriced and Fred is underpriced owing to incorrect allocation of overhead costs. Taking a 20% profit margin, unit price of Martha should be $ 217.6 (1.2*181.34) which is lesser than the price charged by the competitor. As a result, this clearly demonstrates the importance of using ABC approach for overhead allocation of costs so that prudent pricing decisions can be made (Weyganth, Kimmel and Kieso, 2009). A potential drawback of ABC approach is the initial cost and expertise required besides the overall complexity involved (Kinney and Rainborn, 2012). References Drury, C. (2006) Cost and Management Accounting: An Introduction. 6th ed. New York: Cengage Learning. Emmauel, R.C. and Otley, T.D. (2010) Accounting for Management Control. 8th ed. London: Cengage Learning. Heisinger, K. (2009) Essentials of Managerial Accounting. 4th ed. London: Cengage Learning. Kinney, R. M. and Rainborn , A. C. (2012) Cost Accounting: Foundations and Evolutions. 9th ed. New York: Cengage Learning. Weyganth, J.J., Kimmel, D. P. and Kieso, E. D. (2009) Managerial Accounting: Tools for Business Decision Making. 5th ed. Sydney: John Wiley Sons.