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Problem 27

# Westerly Cosmetics manuacctures and sells a variety of makeup and beauty products. The company has developed its own patented formula for a new anti- aging cream The company president wants to make sure the product is priced competitively because its purchase will also likely increase sales of other products. The company anticipates that it will sell 400,000 units of the productin the first year with the following estimated costs 1. The company believes that it can successfully sell the product for $$\ 45$$ a bottle. The company's target operating income is $$30 \%$$ of revenue. Calculate the target full cost of producing the 400,000 units. Does the cost estimate meet the company's requirements? Is value engineering needed? 2\. A component of the direct materials cost requires the nectar of a specific plant in South America. If the company could eliminate this special ingredient, the materials cost would decrease by $$25 \%$$. However, this would require design changes of $$\ 300,000$$ to engineer a chemical equivalent of the ingredient. Will this design change allow the product to meet its target cost? 3\. The company president does not believe that the formula should be altered for fear it will tarnish the company's brand. She prefers that the company become more efficient in manufacturing the product. If fixed manufacturing costs can be reduced by $$\ 250,000$$ and variable direct manufacturing labor costs are reduced by $$\ 1$$ per unit, will Westerly achieve its target cost? 4\. Would you recommend the company follow the proposed solution in requirement 2 or requirement 3?

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In summary, the target full cost is $12,600,000. To meet this target cost, Westerly can either eliminate the special ingredient or reduce fixed and variable costs. Eliminating the special ingredient would decrease direct materials cost to$75 per unit but require a $300,000 design change. On the other hand, reducing fixed and variable costs by$250,000 and \$1 per unit, respectively, would also help achieve the target cost. Comparing both solutions, the company should consider the impact on product quality and brand image before deciding on the best alternative.
See the step by step solution

## Step 1: Calculate Revenue Target

To calculate the revenue target, we need to multiply the anticipated sales volume by the unit selling price: $$Revenue = \, 400{,}000\, \text{units} \times \45\, \text{per unit} = \18{,}000{,}000$$

## Step 2: Calculate Operating Income Target

To determine the target operating income, we should multiply the revenue target by the desired operating income percentage: $$Operating\, Income = \18{,} 000{,} 000 \times 30\% = \5{,} 400{,} 000$$

## Step 3: Calculate Target Total Cost

Subtract the target operating income from the revenue target to find the target total cost: $$Target\, Total\, Cost = \18{,} 000{,} 000 - \5{,} 400{,} 000 = \12{,} 600{,} 000$$

## Step 4: Determine If Cost Estimate Meets Requirements

Let's compare the estimated costs with the target total cost. If the estimated costs are less than the target total cost, the company's requirements are met, and value engineering might not be needed. ##Part 2: Impact of Eliminating Special Ingredient and Design Changes on Target Cost##

## Step 5: Calculate New Direct Materials Cost

To calculate the new direct materials cost, we should multiply the current direct material cost by 75% (100% - 25%): $$New\, Direct\, Materials\, Cost = \100 × 75\% = \75$$

## Step 6: Calculate Additional Cost for Design Changes

The additional cost for the design changes is given as $$\300{,}000$$.

## Step 7: Determine If New Design Meets Target Cost

Calculate the total cost after implementing the new design and compare it with the target total cost. We should consider the reduced direct materials cost, increased design change cost, and all other costs. If the new total cost is less than the target total cost, the design change allows the product to meet the target cost. ##Part 3: Impact of Reducing Fixed and Variable Costs on Target Cost##

## Step 8: Calculate Reduced Costs

To calculate the reduced costs, we need to subtract the fixed cost reduction ($$\250,000$$) and the variable cost reduction ($$\1$$ per unit × 400,000 units) from the original costs.

## Step 9: Determine If Reduced Costs Result in Meeting Target Cost

We should now compare the new total cost after implementing cost reductions with the target total cost. If the reduced cost is less than the target total cost, Westerly will achieve its target cost. ##Part 4: Recommendation##

## Step 10: Compare Solutions from Part 2 and 3

Compare the solutions from Part 2 (eliminating special ingredient) and Part 3 (reducing fixed and variable costs) to see which one is better in terms of meeting the target cost while maintaining the company's reputation and brand image.

## Step 11: Provide a Recommendation

Based on the comparison made in Step 10, recommend either the solution proposed in requirement 2 or the one in requirement 3 as the best alternative for the company to meet its target cost while also ensuring the product's quality and the company's reputation.

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