Question One Taongas research and development staff have recently completed design work on a new product (the HOOK), and a target costing exercise is now being carried out by a cross-functional team of management and staff. The researched market price would be K88 and the expected return 30% margin. Component A for the HOOK would be bought from an outside supplier for K1.44 per unit and 25% of all units of this component purchased would be wasted. Each HOOK would require 7.5 units of Component A (before taking account of the wasted units). Each HOOK would also require one unit of Component B, which would be produced in-house by Taonga. The production costs for Component B would be K6 per unit (variable) plus a set-up cost of K36, 000 per 8, 000 units of the component. Labour input per HOOK would be 1.5 direct labour hours at an hourly wage rate of K9. All production overhead costs are charged to products on a direct labour hour basis. Fixed and variable overheads are charged at separate hourly rates. The fixed overhead rate is determined on the basis of the normal monthly average activity level, which is 12,500 direct labour hours. The following data is available for the two months of last year which represented the highest and lowest levels of activity in that year: July October Direct labour hours 10,000 18,000 Production overheads K252,500 K404,500

Required: Prepare a memo for the Chief Executive Officer in which you: a. Identify the target cost gap in relation to the HOOK, on the basis of the target costing system in use at Taonga. (10 marks) b. Make recommendations as to how the target costing system should be modified. (5 marks) Total (15 Marks