Strategic Cost Management · Target Costing

Target Costing with Kaizen and Life-Cycle Costing

Updated 11 October 2026 · Fact-checked

Target costing sets the allowable cost before launch: target cost = target price − target profit. Kaizen costing then cuts cost every year after launch. Life-cycle costing tracks cost across the whole life, since most cost is committed at design. Suppliers help meet targets at each stage. Solve by finding the gap, then closing it.

Understand Target Costing with Kaizen and Life-Cycle Costing

Target costing works backwards from the market. You find the price customers will pay, subtract the profit the firm needs, and what is left is the target cost. The design team must meet that cost. If the current estimate is higher, the difference is the cost gap, and it must be closed through value engineering and supplier help.

Kaizen costing starts after launch. Design is frozen and the product is in production. Here the firm sets a fixed cost-reduction target, often a percentage per year, on the cost of the current period. Gains come from small improvements in the process: less waste, less rework, better layouts, and cheaper purchases. Target costing is about the product design stage. Kaizen costing is about the manufacturing stage.

Life-cycle costing looks at all costs of a product from research and design through production, distribution, service and disposal. Most of the life-cycle cost is committed (locked in) during design, though it is spent later. That is why target costing puts the effort into design. Kaizen then works on the costs that are still open to change in the production phase. A target cost should therefore be a life-cycle target, not only a manufacturing cost target.

Supplier involvement matters because bought-in parts are often the largest part of cost. Suppliers join the design team early, suggest cheaper specifications, and share cost data. The buyer and supplier agree a target price for each part. After launch, the supplier is asked for yearly price reductions, usually tied to a shared kaizen target. In return the buyer offers longer contracts and a share of the savings.

The ideas also apply to services. A bank, hospital or telecom firm can set a target cost per account, per patient day or per customer, by deciding the price the market will pay and the margin needed. The difference is that service costs are mostly people and process costs, so the savings come from redesigning the process rather than the material.

Key rules to remember

Target cost: Target cost = Target selling price − Target profit; Target profit may be given as an amount or as a % of selling price or of cost. Read the base carefully.
Cost gap: Cost gap = Estimated current cost − Target cost; A positive gap must be closed by value engineering, supplier negotiation or process change.
Kaizen cost target: Kaizen target cost for the year = Previous year's actual cost × (1 − kaizen reduction %); Applied to the cost base of the existing product. Check whether the % applies to total cost or to a single cost item.
Life-cycle cost: Life-cycle cost = Upstream cost (R&D, design) + Manufacturing and distribution cost + Downstream cost (service, warranty, disposal); Per-unit life-cycle cost = Total life-cycle cost ÷ Total units over the life.
Target life-cycle profit check: Life-cycle profit = Total life-cycle revenue − Total life-cycle cost; The product is viable only if this meets the required profit over the whole life, not just in one year.

How to solve Target Costing with Kaizen and Life-Cycle Costing questions

Use this method for numerical and descriptive questions that link target costing, kaizen and life-cycle costing.

1Read the question and mark what is given: price, profit requirement, current cost, kaizen rate, life and volumes.
2Compute the target cost: target price − target profit. Get the profit base right before you subtract.
3Find the cost gap: current estimated cost − target cost. State if it is favourable or if cost reduction is needed.
4Break the gap into parts: design change, supplier price, process saving. Use the data in the question for each part.
5For kaizen, apply the yearly % to the previous year's cost, year by year, not on the original cost, unless the question says so.
6For life-cycle questions, total all phases (upstream, production, downstream) and divide by lifetime units. Include the cost of disposal if given.
7Give a clear recommendation: go ahead, redesign or drop. Add one line on supplier role or the effect on cost commitment.
8Check units, rupees and years before writing the final answer.

Quickest way: Gap first, then phase

When to use it: Use this when time is short and the question has price, profit, current cost and a reduction plan in one scenario.

Write target cost = price − profit in one line.
Write the gap = current cost − target cost.
Check whether the planned savings (supplier, design) cover the gap. Add them up.
If kaizen is asked, multiply year by year by (1 − rate).
End with one line: proceed, redesign or reject.

Common mistakes in Target Costing with Kaizen and Life-Cycle Costing

Calculating profit as a % of cost when the question gives it as a % of selling price.
Students rush and apply the percentage to the wrong base.
Fix: Underline the base word (on sales / on cost). If on sales, target cost = price × (1 − profit %). If on cost, target cost = price ÷ (1 + profit %).
Treating kaizen costing as the same as target costing.
Both aim at cost reduction, so they look alike.
Fix: Remember the stage. Target costing is before launch and starts from price. Kaizen is after launch and starts from last year's actual cost.
Applying the kaizen % on the original cost every year.
Students forget that each year's base is the previous year's cost.
Fix: Compound the reduction: Year 2 cost = Year 1 target × (1 − rate).
Ignoring upstream and downstream costs in life-cycle numericals.
Students focus on production cost only, as in standard costing.
Fix: List all phases: R&D, design, production, marketing, warranty, disposal. Add them before dividing by units.
Saying life-cycle cost is mostly spent in design.
Confusing committed cost with incurred cost.
Fix: Say that most of the cost is committed at design but incurred later, in production and service.
Describing the supplier only as a source of discounts.
Students think of purchasing, not design.
Fix: State that suppliers join the design team, share cost data, agree part-level target prices and take part in yearly kaizen reductions.

Worked examples

Example 1

Sundaram Appliances plans a mixer-grinder. The market price is ₹4,800. The firm needs a profit of 20% on selling price. The current design costs ₹4,100 per unit, of which bought-in parts are ₹2,300. Value engineering is expected to save ₹200 in design and the supplier agrees to cut the part cost by 6%. Find the target cost, the cost gap, and whether the target is met.

Show the solution

Target profit = 20% × ₹4,800 = ₹960.
Target cost = ₹4,800 − ₹960 = ₹3,840.
Cost gap = ₹4,100 − ₹3,840 = ₹260.
Supplier saving = 6% × ₹2,300 = ₹138.
Design saving = ₹200.
Total saving = ₹200 + ₹138 = ₹338.
New cost = ₹4,100 − ₹338 = ₹3,762, which is below ₹3,840.

Answer: Target cost is ₹3,840 and the cost gap is ₹260. Planned savings of ₹338 bring the cost to ₹3,762, so the target is met with a margin of ₹78. Proceed with launch.

Example 2

After launch, Sundaram Appliances adopts kaizen costing. The actual cost at the end of Year 1 is ₹3,762 per unit. The firm sets a kaizen target of 2% reduction per year on the previous year's cost. Find the target cost for Year 2 and Year 3, and the total life-cycle cost per unit if the life-cycle has R&D and design of ₹1,20,00,000, disposal cost of ₹30,00,000 and total sales of 50,000 units (use only these items and the Year 1 cost of ₹3,762 for the manufacturing cost of all units, ignoring kaizen savings).

Show the solution

Year 2 target = ₹3,762 × 0.98 = ₹3,686.76.
Year 3 target = ₹3,686.76 × 0.98 = ₹3,613.0248, about ₹3,613.02.
Manufacturing cost = 50,000 × ₹3,762 = ₹18,81,00,000.
Total life-cycle cost = ₹1,20,00,000 + ₹18,81,00,000 + ₹30,00,000 = ₹20,31,00,000.
Per unit = ₹20,31,00,000 ÷ 50,000 = ₹4,062.

Answer: Kaizen targets are ₹3,686.76 for Year 2 and about ₹3,613.02 for Year 3. Life-cycle cost is ₹4,062 per unit, which is above the ₹3,840 manufacturing target, so the upstream and downstream costs must be recovered in the price or reduced.

Exam tips

In a descriptive question on differences, use a short table-like list: stage, starting point, focus, who is involved. Write at least four points.
In numericals, show the cost gap line separately. Marks are given for it even if later steps are wrong.
When a case scenario mentions suppliers, link the answer to early involvement, part-level targets and shared savings.
For service-industry questions, use process cost per customer or per transaction as the cost unit, and suggest process redesign as the saving.
For MCQs, check if the profit base is sales or cost before you read the options.

Practice questions from Target Costing

Target Costing with Kaizen and Life-Cycle Costing: frequently asked questions

What is the difference between target costing and kaizen costing?

Target costing is applied at the design stage and works backwards from the market price. Kaizen costing is applied in production and works from the previous year's actual cost. One sets the cost for a new product, the other keeps lowering it after launch.

How are target costing and life-cycle costing related?

Life-cycle costing shows that most cost is committed at design. Target costing uses that fact by controlling cost early, ideally on a whole-life basis. Together they ensure the product earns its required profit over its entire life.

What is the role of suppliers in target costing?

Suppliers join the design team early and suggest cheaper materials or parts. They agree part-level target prices and share cost data. After launch they take part in yearly cost reduction, often in return for longer contracts.

Can target costing be used in service industries?

Yes. A service firm sets the price the customer will accept, deducts the margin needed, and gets a target cost per unit of service. It then redesigns processes, uses technology or reduces steps to reach it.