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Hera Co is developing a new product using a target costing approach. Market research indicates that to achieve a sales volume of 200,000 units, the selling price should be $23.50.
Hera Co wishes to obtain an average profit margin of 20% on sales.
The following data has been estimated for the product:
Direct material $10.45 per unit
Hourly production volume 20 units
Direct labour cost $64 per hour
Variable overheads $82 per hour (absorbed on a direct labour hour basis)
Fixed costs to produce 200,000 units are estimated to be $680,000.
What reduction in the cost per unit is required to achieve the target cost per unit?
Please can someone help with the breakdown of how to calculate the above question?
To begin with we need to look at target selling price and adjust this by profit margin or mark-up.
200000 x 23.5 = $4.7mn
4.7mn x 0.8 = $3.76mn this is because of twenty per cent margin on sales in this case.
The fixed costs also have to be taken into account as these will have to be covered as well as variable and profit margin.
$3.76mn – $680000 = $3080000
Now the costs of manufacturing have to be worked out. Once this had been done it and divided into units due to be produced, this will give costs per unit. This should be above the target cost. Then all that is required is to find difference between these figures.
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