Target costing is a technique of costing that helps determine products’ costs by deducting a specified profit margin from a competitive market price.
Due to the fact that the target cost is determined by the competitive market, it is inherently customer-centric and a critical notion for new product development.
The primary objective of target costing is to enable management to use proactive cost planning, cost management, and cost reduction practice.
In this, costs are planned and managed out of a product and business, early in the design and development cycle, instead of during the later stages of product development and production.
It obviously applies to the new product, but can also be applied to product modification or succeeding generations of products. It might also be used for the existing product, but costs are more difficult to reduce once a product is developed and designed.
Target costing is as much a significant business philosophy as it is a process to plan, manage and reduce cost.
- It emphasises understanding the market and competition.
- It focuses on customer requirements in terms of quality, functions, and delivery, as well as price.
- It recognises the necessity to balance the trade-offs across the organisation and establishes teams to address them early in the development cycle; and
- It has, at its core, the fundamental objective to make money, to be able to reinvest, grow and increase value.
Broadly speaking, a target costing system has three objectives:
- To lower the cost of new products so that the required profit level be ensured.
- The new products meet the levels of quality, delivery timing and prices requirement by the
- To motivate all the employees of the firm to achieve the target profit during new product development by making target costing a company-wide profit management activity.
- For any system to be effective in an organization’s decision-making, workers from relevant departments must collaborate in order to leverage their creativity and accomplish goals. In other words, the business requires a non-conflicting and sensible framework for reaching agreement and making decisions.