Cost-plus and market-based pricing

Cost-plus and market-based pricing
Best Test Laboratories evaluates the reaction of materials to extreme increases in temperature. Much of the company’s early growth was attributable to government contracts, but recent growth has come from expansion into commercial markets. Two types of testing at Best Test are Heat Testing (HTT) and Arctic-condition Testing (ACT). Currently, all of the budgeted operating costs are collected in a single overhead pool. All of the estimated testing-hours are also collected in a single pool. One rate per test-hour is used for both types of testing. This hourly rate is marked up by 45% to recover administrative costs and taxes, and to earn a profit.

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Rick Shaw, Best Test’s controller, believes that there is enough variation in the test procedures and cost structure to establish separate costing rates and billing rates at a 45% mark up. He also believes that the inflexible rate structure currently being used is inadequate in today’s competitive environment. After analyzing the company data, he has divided operating costs into the following three cost pools:

Labor and supervision $491,840
Setup and facility costs $402,620
Utilities $368,000
Total budgeted costs for period $1,262,460

Rick Shaw budgets 106,000 total test-hours for the coming period. This is also the cost driver for labor and supervision. The budgeted quantity of cost driver for setup and facility costs is 800 setup hours. The budgeted quantity of cost driver for utilities is 10,000 machine-hours. Rick has estimated that HTT uses 60% of the testing hours, 25% of the setup hours, and half the machine-hours.

  1. Find the single rate for operating costs based on test-hours and the hourly billing rate for HTT and ACT.
  2. Find the three activity-based rates for operating costs.
  3. What will the billing rate for HTT and ACT be based on the activity-based costing structure? State the rates in terms of testing hours. Referring to both #1 and #2, which rates make more sense for Best Test?
  4. If Best Test’s competition all charge $20 per hour for arctic testing, what can Best Test do to stay competitive?
  • Complete in Excel.


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