The term of target costing is the technique of determining the price costs along with the product costs along with the margins that the company wants to achieve for the purposes of developing a new product. In case, the company is not able to manufacture a product at the levels at which the same have been planned, then the company goes in to cancel the design of that project. The management team has a powerful tool which continuously helps in the monitoring of the product from the time they enter in the phase of design and throughputs the life cycle of that product. It is also considered to be one of the most important tolls when it comes to achieving the profitability in the environment of manufacturing (Bragg, 2018).
The company Toyota uses this technique of costing when the company adopts and follows its general strategy. This is when the company has already determined the best product market mix along with the information about the various different attributes about the products along with the prices that are connected with the customers which are determined using the market analysis. The approach of the company is very much beneficial since the same was used by the company both after and before the product was developed. Under the traditional approach, the company was wanting to wait until much later during the life cycle of the product but by that time, the major costs had already been fixed. This was the point wherein the company could not change any more costs. The major question was about the cost of the product. The formula for the same was Sales Price-Target profit equals to the Target costs. There were many of the different approaches that were being followed for the purposes of establishing the target costs which could be founded in the various publications of the scholars. These approaches being used by the company could be broken down into 3 main categories, the first being the top down approach, second being the bottom up approach and the third being the combined. Under the top down method, the target cost could be derived from the sales and the target profits. There was no requirement of any input or any other requirement from the lower management. The method of the bottom up involves the costs which were estimated by the engineers which was further based upon the current skills or the experience along with the availability of the facilities of production. Under the combined method, the top most management sets in the target profits but the engineers were also consulted during the process of determining these costs. These costs were established in the terms of a compromise. Such is the compromise wherein includes in the allowable costs also termed as the drifting costs and which are dictated by the market and also by the standard costs that could be forecasted on the basis of the processes and the technologies that were in existence. These target costs were obtained for the whole product and was further split into many of the smaller units. A scholar has listed down 2 main method for the purposes of splitting the costs, the first being the method based on the functional areas and the other being the method of components. The functional area method helps in the allocation of the target costs to the various different functions of production as per the needs and the requirements of the customers. The company under review uses this method when it goes for the introduction of a new product which is complex and is extensive. On the other hand, the method for components helps in the allocation of the costs to the different groups based on the components used in the products. This method is sued by the company when there is a very small degree of innovation and the material along with technology oriented technology which is being used. As and when the target costs are allocated to the different groups or to the different components, then the company thinks that the various responsibilities of the company are considered to be finished.
One of the most important aspects of target costing is the market orientation. The realisation of the various customers to both of the price and the functionality is secured by the means for the establishment of the targeted costs and then breaking it down into the aggregate products by the way of considering the functional requirements. The inputs of the customers is required by the way of setting in the prices along with the target profits by the way of guiding in the design decisions (Feil et al, 2004).
In the stated company in the stage of designing, the projects that seeks for the introduction of the new products are started. It helps in the describing of the matrix that comprises of many qualitative information about each one of the models. The main reason for the same was to ensure the fact that the company covered the desired market. This design was enough for the company to develop and allow the estimation of the number of vehicles that could be sold and the amount of the costs that would be associated with the development. The conceptual design of the new model entailed an additional consumer analysis along with the functional analysis which was to be undertaken. The financial analysis comprised of the highest volume variant of the new model which was estimated by the way of using the historical costs using the historical costs along with the latest estimation of the target price of the variant. This targeted selling price was calculated on the basis of a number of different internal as well as external factors whereas the margin of the target profit was calculated by using the information which was available about the customer. The amount of the allowable cost was calculated using the following formula:
Allowable cost= target selling price – target profit margin.
The company went on to use the first process of value engineering when the allowable costs were much below the estimated costs. After this step, the new product was reviewed and the profitability along with the characteristics related with the performance were analysed. In the stage of the development, the first step was the preparation of a detailed order sheet for the new model. In this stage, the suppliers were expected to produce the drawings for the trial production. The step before this included the price and the timing of the delivery for each one of the components. The technique was used for the purposes of determining the costs that were allowable for each one of the components in each and every function of the automobile. So as to avoid the development of the target costs for all of the 20,000 components, the engineers were required to perform a detailed target on two or more representations. The next phase included the construction of 2 or 3 of the prototype vehicles. The output of this stage was termed as being the final target costs.
The target system of costing of the company Nissan Motor company is complicated and complex to be put into one single scheme. The main idea of having this sort of system is the corridor of the theory of target costing. This formed a line between 2 stages. There is market driven costing, product level target costing and the target costing at the component level. The company under review used this strategy to determine the product level costs and the strategic costs reduction which was followed by the following formulae:
Cost-reduction objective = current cost – allowable cost
Product-level target cost = current cost – target cost-reduction objective
Strategic cost-reduction challenge = product-level target cost – allowable cost
The target costing system was used by the company to divide into 2 subjects, one being the direct expenses and the second expenses being the indirect expenses. For the purposes of this, the various different probabilities were calculated. The first one which was calculated was the use of the long range strategic plan which served as the basis of future probability, the second being the purposes of cost control and the third was used for the purposes of selecting the product mix. And then it was used for the purposes of identifying the unprofitable variants (Tripod, 2018).
The technique is criticised on the grounds that the calculation of the price could go wrong if any cost is calculated incorrectly and this could lead to a fall in the strategy. It also leads to an estimation of a lower price and then fix in some rigid constraints on the costs that could cause over burdening of the production department. The company could also use some outdated technology in order to meet the target costs which could lead to an issue and failure of the technique (Bhasin, 2018).
This is the technique which records the costs associated with inventory while all of the other costs of manufacturing are expensed during the period costs. The selling and the administrative costs are also charged against the current year’s revenue (Simple studies, 2018).
Throughout accounting helps the companies in concentrating on the problems of the company. This is mainly due to the fact that there are different resources such as being the centre of attention and in general, there are few of the bottlenecks that helps the companies in not wasting the efforts but focus more on the solving of the problems that could affect the performance of these bottleneck resources. This in turn affects the results of the business as the whole. This technique of costing helps in gaining some new insights. Through the technique f throughput accounting, the most profitable mix of the products was derived and this resulted in an increased amount of revenue for the company.
The best mix of the products could be decided on the basis of the market demand and the throughput accounting. This led to an increase in the amount of the net profit by about $2900 per week (Islam, 2015).
The throughput accounting refers to the composition of cost accounting and the philosophy of management that has been developed by Eli Goldratt. The technique was formed many years ago. This is the technique which still continues to develop and be modified and be applied on an increasing number of cases and companies along with companies. This technique of costing is based upon the theory of constraints and some of other key aspects. Even then, its simplicity originates from 3 main elements in the decision making process of the management. The first being the throughput, the second being the operating expenses and the third being the assets. The first and the foremost goal of the same is the maximisation of the throughput which is the rate at which the system generates in the money through effecting sales. Sale is the number of products or the services that the company is able to produce and sell in any given period of time and also eliminate in delays. For the purposes of maximising the profit and also to maximise the return on the investment that has been made, it is very much important to lower down the levels of inventory and also control the operating expenses. The throughput accounting is the method which focuses on the profits and also predicts the maximisation of the throughput and also fulfils the various objectives. It looks at the constraint of the resources and also supports the decisions on the product mix. It also helps in the way in which the products could be manufactured and also, could be sold without entailing an excess amount of inventory. It delivers the products to the customers as fast as possible.
It is mainly due to the fact that the technique is simple that it suffers from drawbacks and weaknesses. The main weakness is the fact of inability to make the decisions pertaining to the long term. The technique also assumes the operating costs to be fixed. This is something which is beyond being accepted in future. the technique even then is being used by the managers along with the various accounting departments since it helps them in analysing and also in meeting the different gaols and also, in the decisions of the products mixes along with the decisions which optimises the overall value strategy of the company (Liovic,2010).
All of the managers in the manufacturing companies require a way through which the proposed action could be undertaken by the company. The managers have been using many traditional costing techniques for the purposes of making decisions on various proposed actions but then it is also true that these have to be true and accurate. In the case of this undertaken technique, this way on the reduction of the costs serves as the method of profit measurement of the company through the earnings management which is expressed through the following:
Net profit = Sales – Expenses
The managers have to look at these areas and recognise the reality of the assumptions undertaken and also assume the least cost alternatives which helps in earning profits. This formula could be expanded through the following:
Net profit = Sales – Manufacturing and Non-manufacturing expenses
These are the same managers that have the responsibility of controlling the costs and for the revenues that are earned which serves as the different functional area. There is a delay at the time of the proposed expenditure and its appearance as being the part of the bottom line. This is mainly because the costs of the products being produced as inventories at the various different stages of production.
One of the most important results of the throughput accounting is the fact that the company must be viewed as one system. It tells us the basic measurements that must be used which in turn affects the business decisions.
This includes the following 3 concepts:
These are the 3 measurements that helps these companies in making the decisions. Instead of breaking down the expenses into the functions of manufacturing and non-manufacturing expenses, these are broken down into the variable and the period expenses. This could be summed by the following:
Net Profit = Throughput – Operating Expense or
Net Profit = Sales – Variable Costs – Period Expenses
This would help in an increased amount of profit and connects the operating expenses with the profitability of the company. The effect of the throughput accounting serves as a basic guide for all of the proposed actions of the companies is the fact that the managers can easily work on the factors that they must work on and also predict the costs accurately and hence, the net profit. This would help in an apt calculation of the net profit.
With this equation in mind, actions that result in increased T or decreased I and/or OE with directly lead to profitability improvements and are therefore, desirable actions. The implications of using TA as a decision guide for proposed actions is that by asking for the impact on these three variables, managers can more quickly, more easily and more accurately predict the effect of proposed actions on global net profit (ECI solutions, 2014).
References:
Ecisolutions.com. (2018). Throughput Accounting For Manufacturers. [online] Available at: https://www.ecisolutions.com/m1/blog/posts/2014/december/throughput-accounting-for-manufacturers/ [Accessed 2 Dec. 2018].
Bhasin, H. (2018). What is Target Pricing? Advantages & Disadvantages of Target Pricing. [online] Marketing91. Available at: https://www.marketing91.com/target-pricing/ [Accessed 1 Dec. 2018].
Bragg, S. and Bragg, S. (2018). Target costing. [online] AccountingTools. Available at: https://www.accountingtools.com/articles/2017/5/14/target-costing [Accessed 1 Dec. 2018].
DRAŽI? LUTILSKY, I., LIOVI?, D. and LIOVI?, M. (2010). THROUGHPUT ACCOUNTING: PROFIT?FOCUSED COST ACCOUNTING METHOD. [online] Bib.irb.hr. Available at: https://bib.irb.hr/datoteka/946303.THROUGHPUT_ACCOUNTING_PROFIT-FOCUSED_COST_ACCOUNTING_METHOD.pdf [Accessed 1 Dec. 2018].
Feil, P. (2004). Japanese Target Costing: A Historical Perspective. [online] Uakron.edu. Available at: https://uakron.edu/cba/docs/ins-cen/igb/scm/TCHistory_formatted.pdf [Accessed 1 Dec. 2018].
Handik_w.tripod.com. (2018). Nissan Motor Company, Ltd.. [online] Available at: https://handik_w.tripod.com/sitebuildercontent/sitebuilderfiles/targetcosting.pdf [Accessed 1 Dec. 2018].
Islam, K. (2015). Throughput Accounting: A Case Study. [online] Article.sciencepublishinggroup.com. Available at: https://article.sciencepublishinggroup.com/pdf/10.11648.j.ijfbr.20150102.11.pdf [Accessed 1 Dec. 2018].
Simplestudies.com. (2018). Throughput costing – Accounting Dictionary | Simplestudies.com. [online] Available at: https://simplestudies.com/accounting-dictionary/letter/T/throughput_costing.html [Accessed 1 Dec. 2018].
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