Question

Sweet Ems makes candy bars for vending machines and sells them to vendors in cases of 30 bars. Although Sweet Ems makes a variety of candy, the cost differences are insignificant, and the cases all sell for the same price.Sweet Ems has a total capital investment of $13,000,000. It expects to produce and sell 550,000 cases of candy next year. Sweet Ems requires a 12 % target return on investment. Expected costs for next year are:

Variable production costs $4.50 per case

Variable marketing and distribution cost $1.0 per case

Fixed production costs $265,000

Fixed marketing and distribution costs $400,000

Other fixed costs. $250,000

Sweet ems prices the cases of candy at full cost plus markup to generate profits equal to the target return on capital

1. What is the target operating income?
2.	What is the selling price Sweet EmsSweet Ems needs to charge to earn the target operating income? Calculate the markup percentage on full cost.
3.	Sweet EmsSweet Ems is considering increasing its selling price to $ 11 per case. Assuming production and sales decrease by 3%,calculate SweetEms' return on investment. Is increasing the selling price a good idea?

Answer 1

Solution 1:

target operating income = Total capital investment * Required return = $13,000,000 * 12% = $1,560,000

Solution 2:

Total cost = Variable cost + fixed cost

= 550000 * ($4.50 + $1) + ($265,000 + $400,000 + $250,000) = $3,940,000

Total sale value to earn target income = full cost + target income = $3,940,000 + $1,560,000 = $5,500,000

Required selling price per case = $5,500,000 / 550,000 = $10 per case

Markup percentage on full cost = $1,560,000 / $3,940,000 = 39.59%

Solution 3:

New Sales unit = 550000*97% = 533500

New total sales = 533500 * $11 = $5,868,500

New total cost = (533500*$5.50) + ($265,000 + $400,000 + $250,000) = $3,849,250

New operating income = $5,868,500 - $3,849,250 =$2,019,250

New return on investment = $2,019,250 / $13,000,000 = 15.53%

As ROI is increasing, therefore increasing the selling price is a good idea.