Problem for Self-Study

Reconsider the Astel Computer example (see section Calculating Product Costs for Long-Run Pricing Decisions). Astel’s marketing manager realizes that a further reduction in price is necessary to sell 200,000 units of Provalue II. To maintain a target profitability of $16 million, or $80 per unit, Astel will need to reduce costs of Provalue II by $6 million, or $30 per unit. Astel targets a reduction of $4 million, or $20 per unit, in manufacturing costs, and $2 million, or $10 per unit, in marketing, distribution, and customer-service costs. The cross-functional team assigned to this task proposes the following changes to manufacture a different version of Provalue, called Provalue III:

  1. Reduce direct materials and ordering costs by purchasing subassembled components rather than individual components.
  2. Reengineer ordering and receiving to reduce ordering and receiving costs per order.
  3. Reduce testing time and the labor and power required per hour of testing.
  4. Develop new rework procedures to reduce rework costs per hour.

No changes are proposed in direct manufacturing labor cost per unit and in total machining costs.

The following table summarizes the cost-driver quantities and the cost per unit of each cost driver for Provalue III compared with Provalue II.

Screenshot of a spreadsheet shows the cost-driver quantities and the cost per unit of each cost driver for various cost categories under manufacturing cost information for 200,000 units of Provalue 2 and 200,000 units of Provalue 3 for 2020.

The details of the various cost categories are as follows:

  1. Cost category: Direct materials

    1. Cost driver: Number of kits

      1. Manufacturing Cost Information for 200,000 Units of Provalue 2 for 2020

        • Details of budgeted cost driver quantities: 1 kit per unit; 200,000 units

        • Budgeted total quantity of cost driver: 200,000

        • Budgeted cost per unit of cost driver as given: $385

      2. Manufacturing Cost Information for 200,000 Units of Provalue 3 for 2020

        • Details of budgeted cost driver quantities: 1 kit per unit; 200,000 units

        • Budgeted total quantity of cost driver: 200,000

        • Budgeted cost per unit of cost driver as given: $375

  2. Cost category: Direct manufacturing labor, D M L

    1. Cost driver: D M L hours

      1. Manufacturing Cost Information for 200,000 Units of Provalue 2 for 2020

        • Details of budgeted cost driver quantities: 2.65 DML hours per unit; 200,000 units

        • Budgeted total quantity of cost driver: 530,000

        • Budgeted cost per unit of cost driver as given: $20

      2. Manufacturing Cost Information for 200,000 Units of Provalue 3 for 2020

        • Details of budgeted cost driver quantities: 2.65 DML hours per unit; 200,000 units

        • Budgeted total quantity of cost driver: 530,000

        • Budgeted cost per unit of cost driver as given: $20

  3. Cost category: Direct machining, fixed

    1. Cost driver: Machine-hours

      1. Manufacturing Cost Information for 200,000 Units of Provalue 2 for 2020

        • Budgeted total quantity of cost driver: 300,000

        • Budgeted cost per unit of cost driver as given: $38

      2. Manufacturing Cost Information for 200,000 Units of Provalue 3 for 2020

        • Budgeted total quantity of cost driver: 300,000

        • Budgeted cost per unit of cost driver as given: $38

  4. Cost category: Ordering and receiving

    1. Cost driver: Number of orders

      1. Manufacturing Cost Information for 200,000 Units of Provalue 2 for 2020

        • Details of budgeted cost driver quantities: 50 orders per component; 425 components

        • Budgeted total quantity of cost driver: 21,250

        • Budgeted cost per unit of cost driver as given: $80

      2. Manufacturing Cost Information for 200,000 Units of Provalue 3 for 2020

        • Details of budgeted cost driver quantities: 50 orders per component; 400 components

        • Budgeted total quantity of cost driver: 20,000

        • Budgeted cost per unit of cost driver as given: $60

  5. Cost category: Test and inspection

    1. Cost driver: Testing-hours

      1. Manufacturing Cost Information for 200,000 Units of Provalue 2 for 2020

        • Details of budgeted cost driver quantities: 15 testing-hours per unit; 200,000 units

        • Budgeted total quantity of cost driver: 3,000,000

        • Budgeted cost per unit of cost driver as given: $2

      2. Manufacturing Cost Information for 200,000 Units of Provalue 3 for 2020

        • Details of budgeted cost driver quantities: 14 testing-hours per unit; 200,000 units

        • Budgeted total quantity of cost driver: 2,800,000

        • Budgeted cost per unit of cost driver as given: $1.70

  6. Cost category: Rework

    1. Cost driver: Rework-hours

      1. Manufacturing Cost Information for 200,000 Units of Provalue 2 for 2020

        • Details of budgeted cost driver quantities: 6.5% defect rate; 2.5 rework-hours per defective unit; (6.5 percent defect rate multiplied by 200,000 units) equals 13,000 defective units

        • Budgeted total quantity of cost driver: 32,500

        • Budgeted cost per unit of cost driver as given: $40

      2. Manufacturing Cost Information for 200,000 Units of Provalue 3 for 2020

        • Details of budgeted cost driver quantities: 6.5% defect rate; 2.5 rework-hours per defective unit; 13,000 defective units

        • Budgeted total quantity of cost driver: 32,500

        • Budgeted cost per unit of cost driver as given: $32.

Required

Will the proposed changes achieve Astel’s targeted reduction of $4 million, or $20 per unit, in manufacturing costs for Provalue III? Show your computations.

Solution

Exhibit 14-8 presents the manufacturing costs for Provalue III based on the proposed changes. Manufacturing costs will decline from $108 million, or $540 per unit (Exhibit 14-6), to $104 million, or $520 per unit (Exhibit 14-8), and will achieve the target reduction of $4 million, or $20 per unit.

Exhibit 14-8

Target Manufacturing Costs of Provalue III for 2020 Based on Proposed Changes

<p>Screenshot of a spreadsheet shows the budgeted manufacturing costs for 200,000 units and budgeted manufacturing cost per unit of Provalue 3 for 2020 under various categories.</p>

The details of the various categories are as follows:

1. Direct manufacturing costs

a. Direct material costs of 200,000 kits multiplied by $375 per kit

• Budgeted manufacturing costs for 200,000 Units: $75,000,000

• Budgeted manufacturing cost per unit: $375.00

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000

b. Direct manufacturing labor costs of 530,000 D M L-hours multiplied by $20 per hour

• Budgeted manufacturing costs for 200,000 Units: $10,600,000

• Budgeted manufacturing cost per unit: $53.00

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000

c. Direct machining costs of 300,000 machine-hours multiplied by $38 per machine-hour

• Budgeted manufacturing costs for 200,000 Units: $11,400,000

• Budgeted manufacturing cost per unit: $57.00

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000

d. Direct manufacturing costs

• Budgeted manufacturing costs for 200,000 Units: $97,000,000

• Budgeted manufacturing cost per unit: $485.00

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000

2. Manufacturing overhead costs

a. Ordering and receiving costs of 20,000 orders multiplied by $60 per order

• Budgeted manufacturing costs for 200,000 Units: $1,200,000

• Budgeted manufacturing cost per unit: $6.00

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000

b. Testing and inspection costs of 2,800,000 testing-hours multiplied by $1.70 per hour

• Budgeted manufacturing costs for 200,000 Units: $4,760,000

• Budgeted manufacturing cost per unit: $23.80

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000

c. Rework costs of 32,500 rework- hours multiplied by $32 per hour

• Budgeted manufacturing costs for 200,000 Units: $1,040,000

• Budgeted manufacturing cost per unit: $5.20

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000

d. Manufacturing overhead costs

• Budgeted manufacturing costs for 200,000 Units: $7,000,000

• Budgeted manufacturing cost per unit: $35.00

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000

e. Total manufacturing costs

• Budgeted manufacturing costs for 200,000 Units: $104,000,000

• Budgeted manufacturing cost per unit: $520.00

It is a result of budgeted manufacturing costs for 200,000 Units divided by 200,000.