Cost = sales - profit.
Most Japanese derive the target profit from a medium term profit plan which is consistent with the corporate objectives. The profit of a business unit or a company is allocated to different products within the business unit or the company. Managers then review a similar product to the one that is developed and then sets the target profit for the product.
Target Cost: When reviewing a similar product, their costs serve as a reference point for computing the target cost for the new product model (Kato, 1995). Managers then review the costs to the current level, adjust for any cost reducing ideas and calculate the intended costs for the current model (Kato, 1995). The intended cost or the as-if cost represents the cost of manufacturing the product if they had implemented all the known cost reduction activities (Kato, 1995).
The as-if cost is then subjected to more cost reducing measures to bring the cost down to the target cost level (Kato, 1995).
Case studies of Daihatsu Motors and Matsushita Electric Works demonstrates that target costing is a part of a comprehensive strategic profit management system that focuses on reducing the life cycle costs of new products. This improves the quality and reliability of the products not to mention its profitability (Kato, 1995).
Important activities for managers to consider in implementing the target costing technique include.
• Thorough understanding of the business cost structure.
• Identifying the non-value added cost drivers.
• Develop target profit computations and target costs.
• Thorough understanding of the cost structure of suppliers.
• Improving relations with suppliers and advice them on cost reduction and quality improvement (Kato, 1995).
DAIHATSU MOTORS.
Daihatsu Motors case shows that managers at all departments and all levels worked intensively to achieve the target cost goals.