chap013 target costing constraint

7/23/2019 Chap013 Target Costing Constraint

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Copyright 2010 by The McGraw-Hill Companies, Inc. ll rights reser!e".McGraw-Hill#Irwin

Chapter Thirteen


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Explain how to use target costingto facilitatestrategic management

Apply the theory of constraints(TOC) tostrategic cost management

Describe how life-cycle costingfacilitatesstrategic management

Outline the objectives an techni!ues ofstrategic pricing

Learning Objectives


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The Product Life-Cycle

Four costing methods discussed in thischapter:

Target costing

Theory of constraints (TOC)"ife#cycle costing

$trategic pricing

All involve the entire product life cycle:

%anagers now nee to loo& at costs upstream(before manufacturing) an ownstream (aftermanufacturing)


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The Cost Life Cycle

Cost life cycle refers to the following sequenceof activities:

Research and Development (R&D)DesignManufacturing (or providing the service)Marketing/distributionCustomer service

It is the life-cycle of a prouct or service fro! theviewpoint of costs incurre


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"pstrea! #ctivities $ownstrea! #ctivities

%&$

%&$

$esign

$esign

'anufacturing

'anufacturing 'ar(eting

an $istribution

'ar(eting

an $istribution

Custo!er )ervice

Custo!er

)ervice

The Cost Life-Cycle

*continue+

Design decisionsaccount for much of total product life cclecosts


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The )ales Life-Cycle

TheSales life cycle is the sequence ofphases in the products or services life:

'ntrouction of the prouct or service to themar&et

rowth in sales

%aturity

Declineithrawal from the mar&et

* The sales life cycle is the life-cycle of aproduct or service from the viepoint ofsales volume achieved


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The )ales Life-Cycle

Introuction

,rowth 'aturity

$ecline

Ti!e

)

ales

!mportant costmanagementissues arise ineach stage ofthe life"ccle#

!mportant costmanagementissues arise ineach stage ofthe life"ccle#


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Target Costing

Target costing: a costing method in hichthe !rm determines the alloa"le #i$e$%&target'( cost for a product or service%given a competitive mar)et price and a

targeted pro!t

To options for reducing costs to achievethe target-cost level:

+y integrating new manufacturing technology usingavance cost management techni!ues, (such asA+C), an see&ing higher prouctivity

+y reesigning the prouct or service


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*mplementing TargetCosting

Determine the mar&et price

Determine the esire pro-t.

Calculate the target cost as mar&et priceless esire pro-t

/se 0value engineering1 to reuce cost

/se &ai2en costing an operational control to

further reuce costs

.3or example, expresse as a percent of sales ollars


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+alue,ngineering

+alue engineering #step (:

Analy2e trae#o4s between prouctfunctionality (features) an total prouct cost

5erform a consumer analysis uring the esignstage of the new or revise prouct to ientify

critical consumer preferences


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+alue ,ngineering#continued(

For !rms that can add and delete features

easily% functional analysis #e.amining the

performance and cost of each ma/or functionor feature of the product( can "e used

Benchmarkingis often use in this step toetermine which features give the -rm a

competitive avantage oal6 provie a esire level of

performance without exceeing the targetcost


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0esign analysis:

/seful when the !rm cannot add and delete

features easilyThe esign team prepares several possible

esigns of the prouct, each having similarfeatures with i4erent levels of performance

an i4erent costsAccountants wor& with the esign team to choose

one esign that best meets customer preferenceswhile not exceeing the target cost


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1ther cost-reduction methods:Cost tables: computer#base atabases (costs

an cost rivers)3irms that manufacture parts of i4erent si2e

from the same esign can estimate thei4erence in cost an material usage forincreasing or ecreasing si2e

Group technologyis a metho of ientifyingsimilarities in the parts of proucts a -rmmanufactures so the same parts can be use in

two or more proucts, thereby reucing costs


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2ai3en

2ai3en #step !ve(: using continuousimprovement 4 operational control to reducecosts in the manufacturing stageof theproduct life-cycle

Achieve through6$treamlining the supply chain

"ean manufacturing

'mproving manufacturing methos an prouctivity

programsEmploying new management techni!ues

/se extensively in the time perio between

prouct reesigns


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5ene!ts of TargetCosting

'ncreases customer satisfaction (esign isfocuse on customer value)7euces costs (more e4ective an e8cient

esign)9elps the -rm achieve esire pro-tability on

new an reesigne proucts7euces 0surprises1 of the type, 0e i not

expect it to cost that much:::1Can improve overall prouct !uality3acilitates coorination of esign,

manufacturing, mar&eting, an cost managersthroughout the prouct cost an sales life#cycles


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Target Costing

,.ample$%! is performing a target costing analsis of a hearingaid ($%!")' hich sells for *+, (cost - .+,) and has

,0 of the market# $oever' a competitor hasintroduced a ne model that incorporates a computer

chip that improves 1ualit# !ts cost is 2',,# 3consumer analsis indicates that cost"conscious

consumers ill remain loal to $%! as long as pricedoes not e4ceed .,,# $%! ants to maintain thecurrent rate of profit' 2,, per hearing aid#

.I !ust therefore reuce its cost to /011 */201 -/301+ to !eet its profit goal


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Target Costing ,.ample#continued(

0esign analysis options :

Alternative A: reuce 7;D, replace parts, anchange inspection proceure < savings = >.?@Alternative 5: replace parts an change inspection

proceure < savings = >.?@

Alternative C: increase 7;D to evelop a computerchip type hearing ai, replace parts, change inspectionproceure, renegotiate new supplier contract .?@


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Target Costing ,.ample#continued(

6anagement chooses alternative C"ecause:

The increase in 7;D will improve the -rmscompetitive position in the future

The move is strategically important6 the

new technology may be ominant in thefuture


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7uality Function 0eployment#7F0(

7F0: the integration of value engineering%mar)eting analysis% and target costing toassist in determining hich components of theproduct should "e targeted for redesign or

cost reduction

3our steps in B3D6

'entify an ran& customers purchasing criteria for theprouct

'entify the components of the prouct an the cost ofeach component

Determine how the proucts components contribute tocustomer satisfaction

Determine the importance (value) inex of each


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7F0 ,.ample: Step8


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7F0 ,.ample: Step9


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7F0 ,.ample: Step


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7F0 ,.ample: Step


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7F0 ,.ample:Conclusion


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6easuring and*mproving Speed

6any strategic initiatives underta)en "y!rms today focus on improving the speed ofoperations

6anufacturing cycle time #lead timeorthroughput time( is the amount of time"eteen the receipt of a customer order andthe shipment of that order

ote that start an -nish time of the cycle can bee-ne in several ways: Example6 the start timecoul be e-ne as the time raw materials areorere, an the -nish time the time that prouction

is complete


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6easuring and*mproving Speed

#continued(Manufacturing cycle eciency#6C,( is

de!ned as processing time divided "y totalcycle time

%CE separates total cycle time into6

5rocessing time

'nspection time

%aterials hanling timeaiting time, an so on

%ost -rms woul li&e to see %CE close to one

Constraintsare activities that slo a

products total cycle time


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The Theory ofConstraints #T1C(

T1C focuses on improving speed at theconstraints% to decrease overall cycle time

3ive steps in TOC6

'entify the constraint

Determine the most pro-table prouct mix giventhe constraint

%aximi2e the ow through the constraint

A capacity to the constraint

7eesign the manufacturing process for exibilityan fast cycle time


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T1C ,.ample

$%! manufactures both the second generation($%!") and the third generation ($%!") of hearing aids#%rices are competitive at .,, and 2',,' respectivel'

and are not e4pected to change# 5he monthl number oforders for $%!" is ',,, units and for $%!" is 2'6,,units# 7e customers are told the ma have to ait

three eeks or more for their orders' and management

is concerned about the need to improve speed in themanufacturing process#


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Step 8: T1C ,.ample

Step 8: *dentify the Constraint

* Develop a ow diagram, which shows these!uence an time of each process

* /se the ow iagram to ientify the constraintfor 95' (see example, next slie)

There is i8culty maintaining ae!uate sta8ng in

all process areas except process ? The constraint occurs in process , perform -nal

assembly an testF the other four processes haveslac& time


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Flo 0iagram: T1C ,.ample8lectronic

Components%rice - ,,

8lectronic

Components%rice - ,,

3ssemble8arpiece22, min#

3ssemble8arpiece22, min#

!nstall 9ther8lectronics

:, min#

!nstall 9ther8lectronics

:, min#

;inal 3ssembland 5est, min#

;inal 3ssembland 5est, min#

%ack and


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Step 9: T1C,.ample

Step 9: 0etermine the most pro!ta"leproduct mi. given the constraint

The most pro-table mix provies the

maximum total pro-ts for both proucts3irst, using throughput marginetermine the

most pro-table prouct given the constraint

Throughput margin = selling price less materialscost

'n the example, the relevant measure ofpro-tability is throughput margin per minute

in nal assembly and testing


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Step 9: T1C ,.ample#continued(

3s can be seen' $%!" has a higher throughput margin# !nthe absence of constraints' this product ould be moreprofitable' but ith the time constraint in process :' $%!"is the more profitable product#


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Step 9: T1C ,.ample#continued(

$%! ill produce all ',,, units (total demand) for $%!"since it is the more profitable' and the remaining capacitill be used to produce $%!"# $%!" ill use 2'+,, (',,,units 4 ,#+ hour per unit) hours of the ':,,"hour capacit#

5he =,, hours remaining allo for production of =,, unitsof $%!"#


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Step : T1C ,.ample)tep 4: 'a5i!i6e the flow through the constraint

< "oo& for ways to spee the ow bysimplifying the process, improving prouct

esign, reucing setup, an reucingother elays

< Objective is to balance the ow ofprouction through the system (processesprior to an incluing the constraint) by

carefully timing an scheuling those


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Step : T1C ,.ample#continued(

)tep 4: 'a5i!i6e the flow through the constraint*continue+

3nother method to use is Takt time(total time available to

meet e4pected customer demand)

84ample> if a manufacturing plant operates 6 hrs#/da?after alloing for break time' :,, minutes ofmanufacturing time are available/da# !f average customer

demand is 6,, units' the 5akt time is , seconds per unit'that is , seconds per unit# 5akt time is used to balancethe flo of product through the processes#

711 !inutes8911 units 41 secons per

unit takt time


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Steps 4 ;: T1C,.ample

)tep 7: # capacity to the constraint

3dding ne machines or additional labor is a long"termmeasure that can improve flo through the constraint

)tep 0: %eesign the !anufacturing process forfle5ibility an fast cycle-ti!e

5his step involves the most complete strategic response tothe constraint because simpl removing one or more minorfeatures of a product might speed up the production

process significantl


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T1C vs$ A5C

TOC #;C

'ain

Objective


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The Five Steps in Strategic0ecision 6a)ing: *mportance of

Speed in the Fashion *ndustry: The5ur"erry


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Life-CycleCosting

Life-cycle costing provides a more complete

perspective of product costs and protability thanpricing based on manufacturing costs only

%anagers nee to be concerne with costs outsie themanufacturing process because upstream an ownstreamcosts can account for a signi-cant portion of total life#cyclecosts

The most crucial way to manage these costs is at theesign stage of the prouct an the manufacturing process


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Life-Cycle Costing #continued(

0ecision-ma)ing at the design stage is

critical "ecause decisions at this point

commit a !rm to a given production%mar)eting% and service plan% and loc) inmost of the products total life cyclecosts$


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Life-Cycle Costing,.ample

#ccoring to the traitional prouct-line state!entsbelow< #$I-3 appears to be the !ore profitable prouct


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Life-Cycle Costing ,.ample#continued(

owever< when upstrea! an ownstrea! *i=e=< life-cycle+costs are consiere< #$I-> is actually !ore profitable


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StrategicPricing

Strategic pricing decisions requireinformation from:

a) The cost life#cycle

b) The sales life#cycle

The cost information for pricing iscommonly "ased on one of four

methods:3ull manufacturing cost plus mar&up"ife#cycle cost plus mar&up3ull cost an esire gross margin percent

3ull cost plus esire return


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Strategic Pricing #continued(

Strategic pricing depends on the position of theproduct or service in the sales life-cycle

%hase 2

!ntro#

%ricing is set relativel high to recover development costsand take advantage of ne"product demand

%hase

Broth

%ricing is likel to sta relativel high as the firm attemptsto build profitabilit

%hase

Maturit

5he firm becomes more of a price taker than a pricesetter and attempts to reduce upstream and donstream

costs

%hase :

Decline

5he firm becomes more of a price taker than a pricesetter and attempts to reduce upstream and donstreamcosts


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*arget costingetermines the allowable (i:e:,0target1) cost for a prouct or service, givena competitive mar&et price an a target pro-t

The target costing approach involves -vesteps6

Determine the mar&et priceDetermine the esire pro-t

Calculate the target cost(mar&et price lessesire pro-t)/se value engineeringto reuce cost/se kai+en costingan operational controlto

further reuce costs

Chapter )u!!ary


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Chapter )u!!ary *continue+

*Thetheory of constraints (TOC) focuses onimproving spee at the constraints, which causesa ecrease in overall cycle time

* 3ive steps in TOC6

< 'entify the constraint< Determine the most pro-table prouct mix

given the constraint< %aximi2e the ow through the constraint< A capacity to 0relax1 the constraint< 7eesign the manufacturing process for

exibility an faster cycle#time


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Chapter )u!!ary *continue+

Life-cycle costingprovides a more completeperspective of product costs and product orservice profitabilit because it considers the

entire cost life ccle of the product or service

Management accountants prepare informationfrom both the perspective of the cost life"ccle

and the sales life"ccle to help managementmake strategic pricing decisions

chap013 target costing constraint

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