Most private entities prefer prices to be set up according to customers willingness to pay. It is, however, often the case that product costing techniques are applied in practice as a basis for determining prices. This is done by, for example, displaying these techniques during negotiations. It is also the case in many industries that stable prices ensure trust and help build up long-term customer relationships. Assume that the product account of a particular company includes material costs, labor costs, and capital costs. The company operates in a country with a low level of inflation (2-3% per year). Both material and labor costs follow inflation. The company is in doubt as to which method should be used for computing capital costs in the product account. a) Based on the course literature, explain what is meant by capital costs. Briefly describe the diverse methods for calculating capital costs and explain how these methods handle cases of price increases.

A.Construct a numerical example in order to illustrate the differences in the methods.

B. What recommendations would you provide to the company? Make your own assumptions if and when needed.