Accounting Best Practices, Fifth Edition

9–11. Implement Target Costing

A cost accounting staff can create the best costing reports in the world, constantly update this information, and hound the production, engineering, and purchasing staffs incessantly to improve the situation, and find little change in product costs. The reason is that most product costs are locked in when the product is designed. For example, a poor microwave oven design will lead to production inefficiencies because the product was not designed for ease of manufacturability. Similarly, if the oven was not designed to be sufficiently sturdy, there will be a number of customer returns, resulting in added engineering and manufacturing costs to fix the problem. Further, the oven may contain nonstandard parts that are both difficult and expensive to obtain and that may not allow for the use of existing parts used with other products. Thus, cost accounting is focusing on the wrong target—product costs during production, instead of product costs during the design stage.

The best practice that addresses this issue is called target costing. Under this concept, the existing market is reviewed and a target price is determined at which a certain set of product specifications will probably sell quite well. A design team is then assigned the task of creating a product with those specifications and a maximum cost. The maximum cost figure allows a company to sell for the previously determined price while still making an acceptable profit. If it is impossible to ...