Question

Discuss the implications of target costing in global economy. What are the important characteristics of markets and costs with respect to target costing ?

Answer 1

Target costing

It involves setting a target cost by subtracting a desired profit margin from a competitive market price. A target cost is the maximum amount of cost that can be incurred on a product, however, the firm can still earn the required profit margin from that product at a particular selling price.

The concept of Target costing was used by car manufacturing Toyota Motor Corporation Company in Japan in the year 1970.

First, at the stages of development, planning and design, various proactive and preventive measures for cost reduction and improvement are examined and implemented through a comparative examination of two planned costs like allowable and estimated costs. This accounting system not only establishes the target of cost reduction beforehand, but also brings the issue of cost reduction to the forefront. Accounts can settle the target and its actual achievement. At the same time, a high degree of importance should be attached to proactive and preventive activities for cost reduction and quality improvement prior to production.

Second, the comparative examination of two planned costs combines closely with the development of a new product. This is because the target cost is examined from the aspect of long-term profit planning and allowable cost is compared with estimated cost based on the present situation – that is, estimated cost is accumulated through drawing on the experience an existing product that shares similarities with the new proposal. In order to determine the target cost, allowable cost must be founded on the basis of the long-term profit plan that lies on a strategy of a product development plan. On the other hand, with regard to estimated cost, costs of improvements are accumulated on top of the original cost of an existing product through improvement processes, in which engineers and designers make it approach to a strategic new product under the present conditions. These two planned costs are based on market strategies and the development plan of a new strategic product. Thus, the target cost, as a result of comparative examination, means a target for cost reduction and cost strategy.

important characteristics of markets and costs with respect to target costing -

The important feature of Target costing is Fundamentally it uses the concept of cost reduction during planning stage rather than during the later stages of product development and production.

• The minimum required profit margin is already included in the target selling price.
• It is part of management strategy to focus on cost reduction and effective cost management.
• Product design, specifications, and customer expectations are already built-in while formulating the total selling price.
• The difference between the current cost and the target cost is the “cost reduction,” which management wants to achieve.
• A team is formed to integrate activities such as designing, purchasing, manufacturing, marketing, etc., to find and achieve the target cost.