Mud Bugs Inc Sales Volume Averages 5,000 Units Per Year

Mud Bugs Inc Sales Volume Averages 5000 Units Per Yearthe Curren

Calculate the target cost for maintaining current market share and profitability.

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Mud Bugs Inc. operates with an average sales volume of 5,000 units annually, with a current selling price of $72 per unit. Recently, a major competitor reduced its product price to $43, prompting Mud Bugs Inc. to consider lowering its price to match this competitor in order to retain its market share. The critical goal is to maintain current profit margins per unit despite the anticipated drop in sales volume, which necessitates a thorough calculation of the target cost to sustain profitability at the new competitive price.

First, we determine the current profit per unit at the existing price. With a sale price of $72 and current production costs, the profit per unit is essential for establishing the baseline. Assuming the company's current total costs are based on the given actual costs for materials, labor, setups, material handling, and warranties, the average current cost per unit can be assessed. Summing the actual costs yields the total current expense:

• Materials: $72,000 for 7,000 pounds, or $10.29 per pound.
• Labor: $18,000 for 2,000 hours, or $9 per hour.
• Setups: $4,500 for 876 hours, or approximately $5.14 per setup hour.
• Material handling: $8,800 for 225 moves, or about $39.11 per move.
• Warranties: $16,200 for 500 repairs, $32.40 per repair.

The total actual cost thus sums to approximately $118,300. To find the cost per unit, divide total costs by the total units produced (5,000 units), resulting in an average cost per unit of about $23.66.

However, for target costing, the aim is to keep the profit margin the same at the new price point of $43. Therefore, the target profit per unit at $72 is the difference between the current selling price and current costs; approximately $48.34 per unit. Maintaining this profit margin at the reduced price of $43, the target cost per unit must be set at:

Target cost = New selling price - Desired profit per unit
Target cost = $43 - $48.34 ≈ -$5.34

This negative result indicates that at the current cost structure, reducing the price to $43 would not sustain the current profit margin; thus, a significant reduction in costs is necessary to break even or achieve the profit margin. Actually, the company needs to reduce costs below $43 to maintain current profitability, which is not feasible without drastic process improvements or product redesign.

Alternatively, if the company chooses to maintain the current profit per unit (about $48.34), it must accept the lower profit or look for ways to reduce costs proactively through efficiency improvements, waste reduction, and perhaps redesigning the product for cost savings. The key takeaway is that, at the competitive price of $43, the current cost structure cannot sustain the same profit margin, implying a need for cost management or price adjustments.

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