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The Advantages of Target Costing Essay

Introduction

Mobi Plus Ltd produces mobile phones for sale in various shops and supermarkets. In today’s competitive market where mobile phones have a short product life cycle, it is important for producers to develop and market products that not only meet the customers demand for features and applications at a certain price level but also generate the desired profits to make it a viable business model. This essay analyses the benefits and limitations of using target costing and life-cycle costing systems over the costing and performance measures currently being utilised by the company. The techniques currently being used by the company are useful for keeping costs under control, but they do not give an indication of the maximum costs the company can allow for designing new product features or profits over the total life cycle of a product.

Target costing.

Target costing is a pricing method used by companies as a cost management tool to determine the maximum cost at which a product must be produced to generate the required rate of return to earn the required profit margin The cost control techniques that are currently being used by the company are useful in managing costs during the initial production stage, however, moving cost management from the production stage to the product development stage generates increased profits due to lower costs . This is particularly useful for companies producing goods for the re-sale market as the re-seller (shops and supermarkets etc) drive tougher bargains as they have their own profit margin to include in their sell on price. The planning, design and development stage of a product is critical to a companies’ cost management process, particularly in an industry where product lifestyles are short.

The benefits of target costing are increased if specific targets for costs and product features are established earlier in the product development cycle rather than during the production process. Cost analysis in the early stages of the product design and development may indicate whether it is feasible to produce a mobile phone that will meet customers’ expectations of price and quality whilst generating the desired level of profit. The target costing concept may prove less effective should Mobi Plus Ltd decide to focus on meeting fast time-to-market demands. This would lead to a shorter time-scale to launch a new mobile phone, and therefore impact on the amount of time available for design and development stages. It is also difficult to forecast future price and costs to rapid technology developments in the mobile phone market and changes in the demands of customers.

Life-cycle costing systems

The competitive nature of the mobile phone sector means that equipment manufacturers have to work with lower profit margins and shorter product lifecycles, whilst investing a significant amount of their budget on the production and development of new products and technologies. This means that costing methods such absorption costing systems are less useful, because they neglect research and development costs in evaluating profitability of a product and only look at actual production costs.

Life-cycle costing systems give a more accurate evaluation of costs and profitability, as they look at costing from the initial research and development phase right through to the eventual conclusion of a product’s life. This is a particularly effective cost management tool for a company such as Mobi Plus Ltd to use to forecast the overall profits from a product like a mobile phone that has high development costs.

The major challenge that Mobi Plus ltd would face using the life-cycle costing system is that, due to the constant need for developments in mobile phone technology, and the number of competitors constantly releasing newer products, it is very difficult to forecast the exact lifestyle of a particualr product.

Conclusion

Target costing would be an effective tool for Mobi Plus ltd to use in place of the current costing and performance techniques used, as it would enable them to forecast the maximum costs available during the design and development phase, making it easier to effectively cost products to generate the required level of profits. Life-cycle costing is useful as it would incorporate the high development costs and short product lifecycle in determining the feasibility of a product.


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