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Target Costing and other costing methods

This is a draft cheat sheet. It is a work in progress and is not finished yet.


Price should cover costs + profit margin
In compet­itive market, price determined by supply and demand
Target Cost = Market Price - Desired Profit

Target Costing Steps

1 - Find Market Niche
2 - Find Target Price
3 - Determine Target Cost
4 - Assemble team to design product & meet target

Target Costing / Other Methods

Target Costing
Other costing Methods
Price set by market
Price set by firm
Cost is residual after price + profit margin
Price is residual after cost + profit margin
Cost control is key

Total Cost-Plus Pricing

When there is little or no compet­ition
Cost base = DL + DM + OH + S&A
- Markup % = Desired ROI Unit / Cost Base
- Target Selling Price = Cost Base + Markup x Cost Base
- Selling Price = Cost Base Unit + Desired ROI Unit
- Easy to calculate
- Does not consider demand side
- FC Unit vary with volume change
- Lower sales volume = Higher price

Variable Cost-Plus Pricing

Cost base = DL + DM + VOH + VS&A
- Markup % = (Desired ROI Unit + FOH + FS&E) / Cost Base
- Target Selling Price = Cost Base + Markup x Cost Base
- Help management decision maker
- Variable cost unit doesn't vary with volume
- Price may be set too low
- Requires higher markup %

Absorption Cost-Plus Pricing

Cost base = DL + DM + OH
- Markup % = (Desired ROI Unit + S&A) / Cost Base
- Target Selling Price = Cost Base + Markup x Cost Base

Time-a­nd-­Mat­erial Pricing

Cost-plus pricing variation with 2 rates:
- One for DL (labour + benefits)
- One for DM (material + handling costs)
Widely used in services
- Labor Hourly Charge = (Wages+OH) / Hours
- Material Loading Charge = (Estimated purcha­sing, receiv­ing.../­Es­timated cost of part) + Desired Profit Margin on materials
Job Charge= Labor + Material + Material Loading

Transfer Pricing for Internal Sales

Vertically Integrated Companies
Minimum Transfer Price = VC Unit + Opport­unity Cost
Transfer price policy object­ives:
- Promote Goal Congruence
- Maintain divisional autonomy
- Provide accurate perfor­mance evaluation
No excess capacity:
- Lost CM is opport­unity cost of transfer
Excess capacity:
- No opport­unity cost

Other Techniques for Transfer Price

Negotiated transfer price:
- Agreement between division
- Concep­tually best method
- Problems: Mistrust, different pricing strategy btw divisions
Cost-based transfer price: (most used)
- Cost incurred by the producing division as cost base
- Based on VC or VC+ FC
- Can result in improper transfer prices, easy to use
Market­-based transfer price:
- Based on actual market prices
- Considered best approach
- Can lead to bad decisions if excess capacity