DK manufactures three products, W, X and Y. Each product uses the same materials and the same type of direct labour but in different quantities. The company currently uses a cost plus basis to determine the selling price of its products. This is based on full cost using an overhead absorption rate per direct labour hour. However, the managing director is concerned that the company may be losing sales because of its approach to setting prices. He thinks that a marginal costing approach may be more appropriate, particularly since the workforce is guaranteed a minimum weekly wage and has a three month notice period. Required: a) Given the managing director’s concern about DK’s approach to setting selling prices, discuss the advantages and disadvantages of marginal cost plus pricing AND total cost-plus pricing. The direct costs of the three products are shown below: Product
Process Costing
Process costing is a sort of operation costing which is employed to determine the value of a product at each process or stage of producing process, applicable where goods produced from a series of continuous operations or procedure.
Job Costing
Job costing is adhesive costs of each and every job involved in the production processes. It is an accounting measure. It is a method which determines the cost of specific jobs, which are performed according to the consumer’s specifications. Job costing is possible only in businesses where the production is done as per the customer’s requirement. For example, some customers order to manufacture furniture as per their needs.
ABC Costing
Cost Accounting is a form of managerial accounting that helps the company in assessing the total variable cost so as to compute the cost of production. Cost accounting is generally used by the management so as to ensure better decision-making. In comparison to financial accounting, cost accounting has to follow a set standard ad can be used flexibly by the management as per their needs. The types of Cost Accounting include – Lean Accounting, Standard Costing, Marginal Costing and Activity Based Costing.
DK manufactures three products, W, X and Y. Each product uses the same materials and the same type of direct labour but in different quantities. The company currently uses a cost plus basis to determine the selling price of its products. This is based on full cost using an overhead absorption rate per direct labour hour. However, the managing director is concerned that the company may be losing sales because of its approach to setting prices. He thinks that a marginal costing approach may be more appropriate, particularly since the workforce is guaranteed a minimum weekly wage and has a three month notice period.
Required:
a) Given the managing director’s concern about DK’s approach to setting selling prices, discuss the advantages and disadvantages of marginal cost plus pricing AND total cost-plus pricing.
The direct costs of the three products are shown below:
Product
W
X
Y
Budgeted annual production (units)
15,000
24,000
20,000
$ per unit
$ per unit
$ per unit
Direct materials
35
40
45
Direct labour ($10 per hour)
40
30
50
In addition to the above direct costs, DK incurs annual indirect production costs of
$1,044,000
b) Calculate the full cost per unit of each product using DK’s current method of absorption
An analysis of the company’s indirect production costs shows the following: CONTINUED $ Cost driver Material ordering costs 220,000 Number of supplier orders Machine setup costs 100,000 Number of batches Machine running costs 400,000 Number of machine hours General facility costs 324,000 Number of machine hours Page 5 of 7 The following additional data relate to each product: Product W Y Z Machine hours per unit 5 4 8 Batch size (units) 500 400 1000 Supplier orders per batch 4 3 5
c) Calculate the full cost per unit of each product using activity-based costing and briefly comment on the contrast to your results in part (b).
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