Advantages and Disadvantages of Target Costing - Essay Example

?TARGET COSTING ADVANTAGES AND DISADVANTAGES OF TARGET COSTING Alike all concepts, target costing has its own advantages and disadvantages that it offers to business upon applications. Given below is the discussion of merits and demerits of target costing: MERITS Apart from the primary benefit of planning and budgeting of the costs of project/ product before it is launched to ensure the estimation of appropriate returns; target costing offers following benefits to business: TC enables business to integrate efficient production practices such as Total Quality Management or Just in Time Inventory Systems etc. Banham (2000) discussed that strongly bonded supply chain members result in cost controls and hence, results in overall combined cost savings. For major portion of the product cost, which accounts for almost 70 to 80% of the total cost as mentioned in the study of Cooper and Chew (1996), employing target costing enables business to take cost benefit from various aspects identified in the initial stage of designing. Target costing in the initial stage allows business to control the design, specification and development technique to control the overall cost. TC provides business with other than basic costing processes. Chen and Chung (2002) discussed the benefit that TC lends by enabling manager to indentify the fraudulent as well as corruption practices in involved departments. Swenson, Ansari, Bell and Kim (2003) identified most important benefit of the TC. Swenson, Ansari, Bell and Kim (2003) state that TC system is originally a market driven system and therefore, forces business to follow market trends in order to control cost instead of relying only on internally developed metrics. Hence, results in market and customer focused processes. DEMERITS Davila and Wouters (2004) criticized the target costing for being extensively detail oriented resulting in bureaucratic procedures and hence consuming time at length. TC to be successfully implemented requires entire supply chain components to play respective part; business employing procedure in isolation cannot fetch the due benefits. In case of excessive cost control measures without coordination, TC can result in contradictions among business functions pointing fingers upon each other functions. Jackson and Lapsley (2003) discussed that TC to be implemented successfully require businesses to develop coordinated system with other techniques that have been limited employed in businesses; reducing the level of benefit. DIFFERENTIATION OF TARGET COSTING FROM OTHER CONCEPTS: All costing techniques are designed to get maximum benefit to business; however, differences in focal attention substantially differentiate each technique with other. The basic difference between TC and other costing methods is that TC puts emphasis in designing stage whereas other methods trenches cost reduction from entire production process (Garrison, Noreen, & Brewer, 2003). Given below is the discussion of point of differences of TC with other costing techniques: FULL COSTING/ABSORPTION COSTING: Absorption costing traditionally uses cost ascertainment for the product by simply including both fixed and variable cost and charges entire cost to production. The price of the product is determined based on accounting the production cost in total. In contrary to this, in target costing system the price of the product is signaled by the market. Manufacturer of the products nets the price fixed by market and develops plan to produce the product within the left out portion of prices. This leads to cost reduction in the production plan and design unlike other costing systems that bargain cost in operational constituents of the product. Hence, the difference between the two systems lies in former deciding price based on cost whereas in latter system price and required profit margin determines the costing decisions (Garrison, Noreen, & Brewer, 2003). VARIABLE COSTING: In variable costing techniques, cost of manufacturing includes only those cost components that vary in the given period for the particular production. These cost components include direct materials, direct labor, and the variable component of manufacturing overhead. Moreover, inclusion of the fixed cost component is made within selling and general administrative expenses. Variable costing methodologies are basically aimed at internal valuations as well as short term decisions such as break even analysis. Whereas target costing is dominated by external factors that determine the cost structure once the target profit is excluded from the price set (signaled) by the market. Moreover, the difference also lies in fact that variable cost undertakes cost assessment in variable or marginal factors whereas target cost undertakes changes in the entire designing and planning process in order to gain the required / target profits or production within target cost. Hence, with target price, target costing employees other costing methods to achieve production at required price (Maher, Stickney, & Weil, 2011). LIFE-CYCLE COSTING: all factors associated with product change over a period of time that begins with its designing and ends with the planned period of the product or project. Therefore, as the name implies, life cycle costing includes the costing associated with product for its entire life cycle. Life cycle costing enables management developing assessment that leads business to trade-off between the processes that are undertaken prior to product development as well as cost incurred during the production and post-production process. Life costing differs from the target costing as it only focuses on the entire stream of costing (including up-stream as well down stream costs) whereas former focuses on designing and planning product / project in a way that achieves the target level of profit by remaining within target costs (Maher, Stickney, & Weil, 2011). ACTIVITY-BASED COSTING: The activity based costing assess two dimensional view of product or project. First, the cost of the cost component of each activity while the other dimension provide management review of the cost, performance and other aspects associated with and impacting each activity. Activity based costing entails cost cutting efforts on the basis of value each activity adds for the customer; thereby, for instance, re-engineering product process with curtailing or redesigning entire activity having no or less contribution for customer. Target costing, on the other hand, assess the product/ project plan at which the product/ project shall be developed with anticipated selling price; hence remaining within planned cost and profit (Maher, Stickney, & Weil, 2011). References Banham, R. (2000). Off Target? CFO Magazine, 127-130 Chen, R., and Chung, C. (2002). Cause effect analysis for target costing. Management Accounting Quarterly, winter, 3(2), 1-9 Cooper, R., and Chew, W. (1996). Control Tomorrow’s Costs Through Today’s Designs, Harvard Business Review, Jan-Feb, 88-97 Davila, A., and Wouters, M. (2004). Designing Cost-Competitive Technology Products through Cost Management, Accounting Horizons, 18(1), 13-26 Garrison, R. H., Noreen, E. W., & Brewer, P. C. (2003). Managerial accounting. Boston: Irwin/McGraw-Hill. Jackson, A., and Lapsley, I. (2003). The diffusion of accounting practices in the new ‘managerial’ public sector, International Journal of Public Sector Management, 16(5), 359-372 Maher, M. W., Stickney, C. P., & Weil, R. L. (2011). Managerial accounting: An introduction to concepts, methods and uses. Ohio: South-Western Cengage. Swenson, D., Ansari, S., Bell, J., and Kim, I. (2003). Best Practices in Target costing. Management Accounting Quarterly, 4(2), 12-17 Read More