Emerson Ventures is considering producing a new line of hang gliders. The compan

Question

Emerson Ventures is considering producing a new line of hang gliders. The company estimates that variable costs will be $325 per unit and fixed costs will be $33,000 per year.

Required to answer:

a. Emerson has a pricing policy that dictates that a product’s price must be equal to full cost plus 60 percent. To calculate full cost, Emerson must estimate the number of units it will produce and sell in a year. Emerson estimates at the beginning of the year that they will sell 1,500 gliders and sets their price according to that sales and production volume. What is the price?

b. Right after the beginning of the year, the economy takes a dive and Emerson finds that demand for their gliders has fallen drastically; Emerson revises its sales and production estimate to just 1,000 gliders for the year. According to company policy, what price must they now set?

c. What is likely to happen to the number of gliders sold if Emerson follows company policy and raises the glider price to that calculated in part b?
d. Why is setting price by making up cost inherently circular for a manufacturing firm?

Explanation / Answer

a) Calculating the Selling price: Selling price per unit 1500 units Variable cost ($325 *1500) $487,500 Fixed costs $33,000 Total cost $520,500 Total cost per unit $347 Selling price is cost plus 60% $555.20 b) Calculating the price after changing the number of units: Selling price per unit 1000 units Variable cost ($325 *1000) $325,000 Fixed costs $33,000 Total cost $358,000 Total cost per unit $358 Selling price is cost plus 60% $572.80 c) If the company sets the price that is calculated in part-B, the fixed costs will be more for the number of units and the sales will come down becasue the demand for gliders has came down due to the economic and market conditions. The company will go into loss if they fix the selling price as $572.80 d) Genrally speaking the profits of the company are associated with the manufacturing costs of the goods sold. If the manufacturing costs are high, the profits will be low and hence the net income will be low. If the costs of manufacturing are controlled by the company, then it can make profits. The selling price should be fixed in such a way that the sales should be generated automatically and it should be competetive.Therefore, setting the selling price also depends on the manufacturing firm. Selling price per unit 1500 units Variable cost ($325 *1500) $487,500 Fixed costs $33,000 Total cost $520,500 Total cost per unit $347 Selling price is cost plus 60% $555.20

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