Fairhaven Composite Poles manufactures fishing poles that have a price of $125.00. It has costs of $90. A competitor is introducing a new fishing pole that will sell for $115.00. Management believes it must lower the price to $115.00 to compete in the highly cost-conscious fishing pole market. Marketing department believes that the new price will allow Fairhaven to maintain the current sales level of 200,000 poles per year. Required:
A. What is the target cost for the new price if target operating income is 25% of sales?
B. What is the change in operating income for the year if only the selling price is changed and costs remain the same?
C. What is the target cost per unit if the selling price is reduced to $110.00 and the company wants to maintain its same income level?

Solution :

a). Statements showing computations

Particulars                                                       Amount

Target selling price                                             115

Target operating income at rate 25%                 28.75

Target cost    = 115 - 28.75                                 86.25

b). Statement showing computations

Particulars                                          Existing        Proposed        Difference

Sales at rate 125 and 115                25000000      22000000         3000000

Cost at 90                                         18000000      18000000

Target operating income                   7000000         4000000         3000000

c).

The current income level             7000000

No. of units                                   2000000

Income per unit                             35

Cost per unit  (115-35)                  80