4. Outline some more information that you might need to undertake a complete profitability analysis for the two product lines

Pandana Fashions Ltd produces clothes for the 'young professionals' market. The desing department currently working on two potential product lines: After-five Wear and Weekend Wear. The market department is keen to introduce both, but currently the company has only enough surplus product capacity to introduce one new product line. Both product lines are estimate to have a life cycle years-one year for design and development and two years on the retail market. The company accountant reviewed the budget estimates for both of the product lines and estimated their proofed for each year in the retail market as follows:

After-five Wear Weekend Wear

The marketing manager, whose performance is evaluated on sales, is keen to introduce the Weekend Wear and uses the profitability analysis to support this view. However, the company accountant is concerned about some of the other costs he has uncovered. The After-five Wear will be sold in a limited, exclusive market and involve relatively little promotion and distribution cost. In contrast, the Weekend Wear, a higher volume line, will be distributed to a large number of retailers and require substantial support costs.

Required:

1. Which product line appears the more profitable, using profitability analysis?

2. Prepare a profit statement for each product line for each of the three years of the life cycle. Which product appears to be the more profitable now? Why?

3. If Pandana Fashions uses a cost-plus pricing system, which approach to costing-life cycle costing or traditional costing-would be more useful in setting product prices? Explain your answer.

4. Outline some more information that you might need to undertake a complete profitability analysis for the two product lines.

SOLUTION

1 If the analysis focuses on the gross margin, the Weekend Wear appears more profitable under the traditional approach in terms of net profit and return on sale. However the promotion and distribution cost can be traced to each product and after taking these costs into account the Weekend Wear still appears more profitable, although the After-five Wear has a higher return on sales.

After-five wear Weekend wear

Sales revenue $700000 $1 300000

Cost of goods sold 500000 900000

Gross margin $200000 $400000

Promotion costs 4 000 40000

Distribution costs 6 000 120000