ACCA Applied Knowledge · Management Accounting · Cost reductions and value enhancement
A company's target cost for a product is $45 per unit. The current estimated cost is $52 per unit. What is the cost gap, and what action does target costing require?
The cost gap is $7 per unit, and the company must close it by reducing costs, for example through value engineering or redesign. Target costing takes the market price as given, so raising the price is not the intended response.
- A$7 gap; reduce the estimated cost through redesign or process changesCorrect
- B$7 gap; raise the selling price by $7
- C$45 gap; abandon the product immediately
- DNo gap; the estimated cost is acceptable
Explanation
Cost gap = estimated cost - target cost = $52 - $45 = $7. Target costing treats price as fixed by the market, so the gap must be closed by cost reduction such as value engineering, not by raising price.
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