Problem 4.

It is not always possible for an entity to add a markup to its costs. More and more often, the selling price for a product or service is market driven. Customers do not care what it cost to produce the product. They simply care what they have to pay for it and often have a price ceiling in mind. In such cases, the entity must work backwards from the selling price to determine what the maximum cost can be in order to make a profit. The key to this whole process is designing the product to fit the cost structure rather than designing the product and then trying to convince the customer to pay for the costs incurred.

Assume a manufacturer of electronic products is launching a new product. The company's usual rate of return on sales is 30%. The estimated costs of producing 1 unit of the new product are the following:

Materials$28

Labour$5

Overhead$9

Total$42

The company has received an order for 10,000 units from a retailer at a price of $50 per unit.

Required:

a. At a price of $50, what would the target cost be for this product? Show your calculations.

b. What is the total profit for this order based on the current cost structure? Show your calculations.

c. At a price of $50, what would the target profit be? Show your calculations.

d. Explain the difference between the results in parts (b) and (c). What should the manufacturer do, in terms of achieving the profit?