Page 100 - BA2 Integrated Workbook STUDENT 2018

Chapter 5

5.3 Price to achieve a specific return on investment

This method involves determining the amount of capital invested to support a
product. The selling price is then set to achieve a specified return on the capital
invested on behalf of the product.

Example:

A company manufactures and sells 500 units of one product, details of which are:

Direct material $56
Direct labour (at $12 per hour) $24

Fixed production overheads are absorbed at a rate of $10 per labour hour. The
company adds a mark-up of 8% to total production costs to take account of non-
production costs.

The product requires an investment of $50,000 and the company requires a return on
investment is 12%.

To calculate the selling price:

$ per unit
Direct material cost 56
Direct labour cost 24
——
Total direct cost 80
Fixed production overhead absorbed (2 hours × $10) 20
——
Total production cost 100
Mark-up for non-production costs (8% × $100) 8
——
Full cost 108
Profit mark-up 12
——
Selling price 120
——

Target return on investment = $50,000 × 12% = $6,000

Target return per unit of product B = $6,000/500 units = $12

Illustrations and further practice

Now try TYU 6

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