Lin has asked your team to do a thorough analysis of CPU4U’s profitability and pricing strategy using both the traditional overhead allocation and the ABC costing approach and write a report that she will use as the basis for a Board discussion on costing and pricing strategy. The report should be in good format and have a clearly developed structure that includes, but is not limited to:
• A discussion of the key aspects of the industry and CPU4U’s current situation that are relevant for strategic decision making about pricing and the control of costs. You should provide additional research on the industry setting and apply relevant strategic analysis techniques.
• An analysis of pricing and profitability that would be useful for decision making using the two costing methods and any other techniques your team think are appropriate. Evaluate the traditional and ABC approaches to costing and the implications for pricing and profitability. Make a recommendation about appropriate pricing approaches for CPU4U.
• An explanation of how the raw materials costs were allocated to the three products under the ABC approach.
• Lin has been struggling to set a price for the new products they develop and she is not sure the fixed mark-up approach is working. Discuss the particular difficulties with new product pricing as part of the report and provide an evaluation and recommendation that is appropriate for CPU4U. Page 5 of 6
• Matsuka has been considering taking over another business in an unrelated industry to diversify the company’s risks. Lin is aware that you have recently undertaken a strategic analysis of an ASX200 company and while CPU4U could not aspire to takeover such a large business, she asks you to include a comparison of the relevant strategic industry factors and any potential synergies as a basis for a recommendation to Matsuka.
Industry and Situation Analysis of CPU4U
The case study is about the company CPU4U that engages in manufacturing hardware components for computers, phones, automated manufacturing equipment and electronic equipment (Theriou 2015). After completing the report, it will be easy to understand and explain the concept of strategic management as used in the contemporary business environment. It will even help in identifying the suitable objectives as well as strategies used by CPU4U in given situations. The current segment or business report applies strategic management accounting tools as well as techniques such as ABC costing and traditional costing pricing approach (Peppard and Ward 2016). For this study, Lin had asked the team to conduct analysis of profitability and pricing strategy adopted by CPU4U. This was done by using both traditional overhead allocation as well as ABC costing approach. The business report had been written so that Lin can use as the basis for a Board discussion on costing as well as pricing strategy (Rothaermel 2015). The current segment properly recommends at the end as to which costing approach should be used by CPU4U in their business operations so that they can maximize profits and minimize cost.
In this question, it is needed to discuss about the key aspects of the industry and then portray the current situation of CPU4U (Renz 2016). This company belongs to manufacturing industry where they are engaged in manufacturing hardware components for computers, phones, automated manufacturing equipment and electronic equipment. Currently, the company has a good reputation as they manage the business carefully. They have to further work upon maintaining relationships with big computer manufacturers as well as aim at delivering high quality components within the stipulated time (Peppard and Ward 2016).
It is a known fact that good financial decisions are possible only from an effective cost management strategy (Ginter, Duncan and Swayne 2017). This can be done by maximizing value as well as minimizing both initial and ongoing costs. In this case, CPU4U faces challenge in trying to balance the needs to serve the customers as well as meeting the long-term business objectives at the time of controlling the cost of conducting the business and involving in strategic decision-making process. Furthermore, strategic decision-making process started for discussing about important elements such as pricing and control of costs within CPU4U (Peppard and Ward 2016).
Controlling cost within CPU4U is possible when they engage in either reducing or avoiding certain relevant costs at the time of engaging in strategic decision-making process (Ginter, Duncan and Swayne 2017). To discuss in detail about relevant cost, the cost starts by identifying as well as eliminating sunk costs. Therefore, a relevant cost analysis help in analyzing the total cost of ownership or in that case potential profit by making use of costs that differ between two viable options. The main purpose of CPU4U is to engage in making decision that proves to be fruitful to the company. It is important for the managers of CPU4U to evaluate the alternatives at the time of conducting decision on matters relating to wide range of matters (Messner 2016).
Challenges in Cost Management and Strategic Decision-Making
Two costing methods need to be discussed in this question and finally recommend the suitable pricing approach for CPU4U (Ginter, Duncan and Swayne 2017). In the field of accounting, there are two popular costing methods and these methods are Activity-based costing and traditional costing. Both these methods actually estimate overhead costs that relates directly with product as well as then assign these costs to product based on cost-driver rate. To explain each of the method in detail, Traditional costing methods applies basically to any of the identified indirect costs for the products that is based on a predetermined overhead rate. This method is simple to computer and easy to implement as compared to ABC systems. It is also important to understand that ABC costing is more accurate as compared to traditional costing systems (Kozarkiewicz and ?ada 2014).
Activity-based costing is one of the costing methods that help in evaluating all the activities as it is linked with production as well as assign to a cost and then determine the cost of the product. On the other hand, traditional costing is one of the costing methods that are assigned to a cost to products as it is based upon average overhead rate (Kenworthy and Verbeke 2015).
Both the above-listed costing methods have its own set of benefits and limitations. It is all about determining which form of costing will be best suited for the given project or selected company by taking into account some of the specific needs and timeframe (Hopper and Bui 2016). It is recommended to apply ABC costing methods at CPU4U as it is more accurate and it is necessary for the company to provide quality components within a given period. ABC costing will be helpful for internal use as the managers can easily look at the spending as well as document all the indirect costs in an accurate way (Peppard and Ward 2016). ABC costing is best suited for all the companies who belong to manufacturing sector (CPU4U in this case). By using these costing methods, it will be easy to identify truly, whether the product is profitable or unprofitable. It even helps in finding as well as eliminating unnecessary costs. This costing methods help in identifying as well as differentiating between true values-add activities as well as non-value add activities. Therefore, these costing methods should be used by CPU4U as for the purpose of pricing the products so as to achieve acceptable margins (Ginter, Duncan and Swayne 2017).
Activity-Based Costing vs. Traditional Costing
The ABC project team had compiled the data that shows percentage of each of the activity driver as it was consumed by each of the three product lines of CPU4U named as FMC6, RAMX2 and FMCL3. The raw materials cost allocated to three products (FMC6, RAMX2 and FMCL3) by using the ABC approach are 25%, 69% and 6%. RAMX2 has highest percentage as compared to other two products (Honggowati et al. 2017). The analysis shows that RAMX2 is best for CPU4U as the raw materials cost allocated to this product is maximum and will help in giving best results. The activity cost pool shown in the case study is about material handling attributes where RAMX2 has the highest percentage as compared to other two products of CPU4U (Ginter, Duncan and Swayne 2017).
The choice of raw material allocation depends upon how the managers decide to group these raw materials for the three products. The grouping actually depends upon desired accuracy of product cost information (Hill, Jones and Schilling 2014). CPU4U should use ABC costing method by focusing on simple operations and dealing with three main products. It is recommended to allocate given raw materials cost for the three products of CPU4U as it help in providing information at the time of conducting decision-making process (Ginter, Duncan and Swayne 2017). It even helps in promoting efficient use of resources, complying with US Generally Accepted Accounting Principles. There are various activities that need to be taken into consideration for producing three products like purchase of war materials, inspecting final product, setting up production machinery and repairing of defective products (Peppard and Ward 2016).
From the case study, it is seen that Lin has been struggling to set a price for the new products that she is not sure whether fixed mark-up approach will work or not (Goetsch and Davis 2014). In this part, there will be proper explanation about the difficulties with new product pricing as part of the report and providing an evaluation and recommendation that is suitable for the company. Lin should adopt Mark-up pricing approach for setting price for the new products introduced in the company (Peppard and Ward 2016). Fixed mark-up pricing method is one of the methods where fixed amount is kept on the cost percentage for the newly added product price in order to get the selling price of the product. It is important to understand the fact that fixed mark-up pricing is common in manufacturing business where the manufacturers engages in selling the product to earn profit in the upcoming financial years. By using this pricing method, it will be easy for the company to calculate the profits as well as estimate the level of production (Abdelmoneim Mohamed and Jones 2014). It is not possible to get proper information of both demand and costs but it actually provides the means by which fair prices can be accessible in certain way. It is essential to understand the fact that prices are based on full cost, as it is morally defensible. The costing methods allow revision of final prices as it is based upon changes in price of raw materials cost. This particular pricing method reduces the cost at the time of decision-making process (Ginter, Duncan and Swayne 2017).
Recommendation for Costing Approach and Pricing Strategy
From the given case study, it is noted that Matsuka desire to take over another business in an unrelated industry for diversifying risks present within the company (Ginter, Duncan and Swayne 2017). It was known by Lin that the team has undertaken a strategic analysis of an ASX 200 company. It is even noted that CPU4U could not aspire to takeover such large business, but Lin ask to include a comparison of the relevant strategic industry factors and any potential synergies as a basis for a recommendation to Matsuka (Fullerton, Kennedy and Widener 2014).
The other industry that is listed under ASX 200 Company is Coles Limited as it operates in retail sector. CPU4U operates in manufacturing sector so unrelated industry can be retail and this is the reason why Coles Limited had been selected for this particular scenario (Ginter, Duncan and Swayne 2017). It is recommended to CPU4U not to engage in taking over other business, that too from unrelated business sector (Bergh et al. 2016). Coles Limited occupies the topmost position in the retail sector and it will not work well as thought by Matsuka. It is suggested to Matsuka that taking over business in other unrelated sector is not feasible because CPU4U deals with manufacturing business and their motto should be maintaining good relationships with big manufacturing suppliers. The company should engage in providing best quality products within given stipulated time (Armstrong 2014).
At the end of the study, it is concluded that CPU4U should apply ABC costing approach in their operations so that they get accurate results as compared to any of the other pricing cost approach. The above analysis properly discuss about current situation of CPU4U that are suitable at the time of conducting strategic decision-making on matters relating to pricing as well as control of costs. The study even analyzes pricing and profitability position as it is essential for decision-making process. This was done by explaining both the costing approaches in detail (traditional costing method and Activity-based costing method) and then recommending at the end as to which one to use by CPU4U. Proper explanation had been drawn about how the raw materials are allocated to three products as computed under ABC approach. The study even highlights specific difficulties that can be seen with new product pricing by using fixed mark-up approach as part of the report. It is even needed to provide an evaluation as well as recommendations that are suitable for CPU4U. Lastly, Coles Limited had been selected as unrelated industry that Lin Matsuka decided to take over business for managing the risks of the company.
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