QUESTION 2

Edward Co assembles and sells many types of radio. It is considering extending its product range to include digital radios. These radios produce a better sound quality than traditional radios and have a large number of potential additional features not possible with the previous technologies (station scanning, more choice, one touch tuning, station identification text and song identification text etc.). A radio is produced by assembly workers assembling a variety of components. Production overheads are currently absorbed into product costs on an assembly labour hour basis. Edward Co is considering a target costing approach for its new digital radio product.

YOU ARE REQUIRED TO:

(a)Briefly describe the target costing process that Edward Co should undertake.

(3 marks)

(b)Explain the benefits to Edward Co of adopting a target costing approach at such an early stage in the product development process.(4 marks)

(c)Assuming a cost gap was identified in the process, outline possible steps Edward Co could take to reduce this gap.(5 marks)

A selling price of $44 has been set in order to compete with a similar radio on the market that has comparable features to Edward Co's intended product. The board has agreed that the acceptable margin (after allowing for all production costs) should be 20%.

Cost information for the new radio is as follows:

Component 1 (Circuit board) - these are bought in and cost $410 each. They are bought in batches of 4,000 and additional delivery costs are $2,400 per batch.

Component 2 (Wiring) - in an ideal situation 25 cm of wiring is needed for each completed radio. However, there is some waste involved in the process as wire is occasionally cut to the wrong length or is damaged in the assembly process. Edward Co estimates that 2% of the purchased wire is lost in the assembly process. Wire costs $050 per metre to buy.

Other material - other materials cost $810 per radio.

Assembly labour - these are skilled people who are difficult to recruit and retain. Edward Co has more staff of this type than needed but is prepared to carry this extra cost in return for the security it gives the business. It takes 30 minutes to assemble a radio and the assembly workers are paid $1260 per hour. It is estimated that 10% of hours paid to the assembly workers is for idle time.

Production Overheads - recent historic cost analysis has revealed the following production overhead data:

Total production overhead Total assembly labourhours

$

Month 1620,00019,000

Month 2700,00023,000

Fixed production overheads are absorbed on an assembly hour basis based on normal annual activity levels. In a typical year 240,000 assembly hours will be worked by Edward Co.

YOU ARE REQUIRED TO:

(d) Calculate the expected cost per unit for the radio and identify any cost gap that

might exist.(13 marks)

[Total: 25 Marks]