Slide 1Product PricingProduct Pricing: Cost-plusProduct Pricing: Cost-plusProduct Pricing: Cost-plusProduct Pricing: Cost-plusProduct Pricing: Target Cost (Market-based pricing)Product PricingChapter 12A200 - Survey of AccountingUniversity of TennesseeFall 20152Product PricingBusinesses typically set prices for their products using one of two methods:•Cost-plus Pricing (total cost method): Total costs are knownProduct price is total cost plus profit•Market-based Pricing (target cost method):Product price is determined by external market forces Total cost is price minus profit3Product Pricing: Cost-plus Cost-plus Pricing: The price set for a product must be high enough tocover total costs and provide a profit. Desired Profit: A percentage of the assets (Invested Assets) that managers were given to make the product with. Price = Total Cost + Desired Profit Price per unit = Total Cost per unit + Desired Profit per unit4Product Pricing: Cost-plusMason Company has budgeted (planned) 2015 sales of 10,000 units of Product A. Managers need to set a price for the product. Mason Company invested assets of $500,000 in making Product A. Mason’sowners want a 15% profit on invested assets. The budgeted costs for Product A are:Direct Materials cost (variable) $ 175,000Direct Labor cost (variable) 90,000Factory Overhead cost (variable portion) 27,000Factory Overhead cost (fixed portion) 52,000Selling & Administrative Expense (variable portion) 65,000Selling & Administrative Expense (fixed portion) 40,0005 Product Pricing: Cost-plus Total Costs $449,000+ Total Profit 75,000 = Total Price $524,000 Product A’s price per unit = $524,000/10,000 units = $52.40 per unit Profit is also called markup. Markup Percentage: Total Profit/Total Cost = $75,000 ÷ $449,000 = 16.7% A 16.7% markup percentage means that cost was increased(marked up) by 16.7% to arrive at the selling price6Product Pricing: Cost-plusSome common markup percentages for retail businesses: –New cars 15% –Used cars 75% –Electrical Appliances 30% –Clothing 50% –Trend Clothing 59% –Cosmetics/Fragrances 80% –Crystal Ware 60% –Gifts and clocks 55% –Restaurant Food 45% –Restaurant Wine 100%–Used Auto Parts 49%–Greeting Cards 90%–Mobile Food Vendors:•Cold food 100%•Hot food 200%(per Wikipedia and CCH Business Owner’s Toolkit)7Product Pricing: Target Cost (Market-based pricing)Selling price is set by the market (outside forces). Management must fit costs to the price it can charge for the product, given the profit it wants. Target Cost = Pre-set Price - Desired Profit Mason Company sells Product B in a highly competitive market. It can sell only 6,000 units and it can charge only $30.00 per unit. If investors want a return of 15% on the invested assets of $500,000, what is the maximum cost Mason canafford to make Product B? Target Cost = Pre-set Price - Desired Profit TC = $30.00 per unit - $12.50 per unit TC = $17.50 per unit($500,000 x .15 = $75,000/6,000 units =