2.4 The implications of using target costing on pricing, cost control and performance management
Pricing
§ Target costing forces product/service designers to ‘think outside the box’ and identify new and imaginative ways in which costs can be reduced in order to meet the target cost.
§ This approach can result in substantial cost saving being identified, thereby enabling prices to be set at levels that are very competitive but still generate a profit. A policy of penetration pricing can then be pursued with a view to substantial market share being captured.
§ Target costing is usually considered superior to cost plus pricing as it considers the demand for a product or service. As long as the estimates for demand at the target price are accurate and costs are controlled then an organisation will achieve its required return on investment.
Cost control and performance management
§ Target costing has a potentially major positive impact on cost control since it seeks to change the accounting mindset from one of recording costs to one of reducing costs in order that the cost target can be met.
The requirement to meet a target cost can generate new ideas and new ways of working which in turn can generate substantial cost savings and facilitate a more proactive approach to cost control.
§ Performance management is also potentially enhanced since the setting of a target cost requires a business to identify how costs can be managed down to the target cost level. This may involve product/service redesign and new ways of working (e.g. outsourcing, greater use of the internet etc.).
