Capital Budgeting: The Ultimate Guide

Pricing and costing are key processes that should be performed ideally by entrepreneurs to promote the success of the manufactured as well as processed products in the market. The theory of pricing defines the procedures that are followed in order to determine the price at which different products should be retailed in the market. For an establishment to make a profit, entrepreneurs must set a defined selling price for a product, which must be rationally above the overall costs incurred in the production as well as manufacturing of the product. 

Company and Product Description 

Smart-fan is a company that creates customized jewelry for high-end clients based in the United States. Moreover, the company was established in 2010 and it has been functioning since then. Also, the corporation today has become one of the leading jewelry designing companies in the world. Moreover, the company only deals with prestigious jewelry and since its enactment, it has managed to secure a market share of 93%. Today, the company has established 12 subsidiaries in the United States and it has managed to employ a staff of 150 persons. Ultimately, the entity is a private corporation managed by a team of 4 directors. 

There are six types of customized jewelry that are created by Smart-fan. In addition, the selling price of the jewelry is dependent on the precious stones employed in their designing. The stainless steel jewelry costs $4,350, while the ceramic jewelry costs $7,350. Also, the Titanium jewelry costs $15,350 while the white gold jewelry costs $26,350. Lastly, the yellow gold jewelry costs $45,000 and the rose gold jewelry costs $75,000. Ultimately, all products by Smart-fan are made upon clients’ request. However, the clients are required to pay at least 80% of their orders as a down payment before Smart-fan can design the jewelry. 

List of Inputs and Associated Costs 

The chart above portrays the summary of the total costs attained by Smart-fan in the creation of different forms of jewelry. In addition, the costs are categorized into four parts, which included labor, materials, overhead as well as non-manufacturing costs. Moreover, labor costs are all expenditures incurred by Smart-fan in settling off the experts that participated in the designing of the jewelry. On the other hand, material costs are all expenditures that are associated with the purchase of precious stones that are important for the creation of the customized jewelry. Lastly, the non-manufacturing costs can be referenced to be all the expenses that are not directly linked to the designing process of the customized jewelry. Also, examples of the non-manufacturing costs that will be incurred by the corporation will be the expenses of advertising as well as costs sales promotion. 

The selling prices of the jewelry are outlined in the products’ description part and on the other hand, the total costs attained in the designing of different jewelry has been listed in the chart above. Also, in the calculation of the selling price of differing jewelry, a consideration of the total costs attained for every jewelry was made. Moreover, in this context, Smart-fan wanted to make a profit margin of 30% for all jewelry they designed for sale. As such, the total costs for every type of the luxurious jewelry was performed and a 30% markup on the overall costs of the jewelry was obtained to ascertain the final selling price of the jewelry. Ultimately, the procedure has been tabulated below. 

Items to Be Produced To Attain the Preset Selling Prices 

In reference to the cost as well as price analysis of the jewelry designed by Smart-fan above, it is apparent that each jewelry from each category will need to be designed to satisfy its selling price. Moreover, this computation has been achieved through the implementation two distinct factors. First, Smart-fan targets with the manufacture and retail of luxurious products engineered for a luxury buyer. As such, the selling price of the jewelry is not based on economies of scale but on a predetermined standardized cost created as a markup of the overall costs attained in the jewelry’s designing process. Second, Smart-fan’s jewelry is high-end products that are only designed upon clients’ request. In this case, the clients are attained to settle the predetermined selling price of such jewelry and the designing of the jewelry can only take place when 80% of the jewelry’s selling price has been met by the customer. 

Costing Systems That Can Be Good in Formulating the Products’ Selling Price 

The job order costing technique is the most appropriate costing system that should be used for creating the selling price of Smart-fan’s jewelry. Additionally, this technique is essential because it amasses all expenses attained in the designing of each product independently in the designing process (Taschner & Charifzadeh, 2016; Kinney & Raiborn, 2012). Nevertheless, it is essential for companies like Smart-fan to design unique products that are based on special orders. 

Costing Systems That Are Not Food the Corporation 

Process costing is appropriate for goods that undergo via a sequence of manufacturing or processing procedures. In such a case, the expenses attained in every process can be calculated disjointedly and then added up to compute the final cost (Drury, 2008) . In such a scenario, the costing system cannot be appropriate for Smart-fan’s jewelry because the designing process of the jewelry is not segmented into multiple channels. 

Also, the activity-based costing system is not appropriate in the pricing of Smart-fan’s products since its costs are computed based on the activity rate as well as the enactment of overhead costs on jewelry. That is based on their standards of activity attained. In this case, Smart-fan’s jewelry is only purchased once they have been fully designed and so this type of costing system may not be appropriate for Smart-fan. 

Ultimately, the traditional costing system should be appropriate for Smart-fan because it issues a single overhead rate for each activity perpetrated in the designing process. Nevertheless, in Smart-fan’s scenario, the process of designing jewelry is not differentiated but instead, it is a single procedure largely perpetrated by technology in the creation of the final product. As such, the traditional costing system cannot be viable for the Smart-fan. 

Ethical Consideration 

Smart-fan should not use price discrimination when setting the prices of their products. Additionally, price discrimination would occur if the company’s products are sold at different prices to different customers. As such, to preserve ethics or integrity in their costing system, Smart-fan Corporation must ensure that their jewelry is sold at a standardized price to all customers without price discrimination. 

Capital Budgeting Implementation 

In the Smart-fan corporation, capital budgeting can be employed to ascertain the payback period of the company’s investments. In this case, jewelry designing requires capital-intensive equipment to facilitate in the jewelry creation process. Additionally, the company may need to invest in multi-million dollar machinery that can only be paid back over several years after the business starts operating. For example, the payback method, one of the techniques of capital budgeting can be employed to ascertain the period in which Smart-fan must retail its product to reach the breakeven position. In this case, the payback method can be computed by dividing the corporation’s cost of investment with its annual net cash flow. 

Conclusion 

In conclusion, to make a profit, entrepreneurs must set a defined selling price for a product, which must be rationally above the overall costs incurred in the production as well as manufacturing of the product. Additionally, the job order costing technique is the best costing method that should be used for setting the selling price of expensive products. Moreover, the method is suitable because it totals all the costs attained in the development of every product separately in the designing process. As such, it is fitting for companies that manufacture distinct products that are based on special clients’ orders. 

References 

Drury, C. (2008). Management and Cost Accounting. Boston: Cengage Learning EMEA. 

Kinney, M. R., & Raiborn, C. A. (2012). Cost Accounting: Foundations and Evolutions. Boston: Cengage Learning. 

Taschner, A., & Charifzadeh, M. (2016). Management and Cost Accounting. New York: John Wiley & Sons.