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ACCA Strategic Professional · Advanced Performance Management · Strategic management accounting

Kestrel Devices uses target costing for a new smartwatch. Market research shows customers will pay $200 and the required margin is 25% of selling price. Initial estimated cost is $165. Which statement is correct?

The target cost is $150 and the cost gap is $15. Market price of $200 less a 25% margin of $50 leaves $150, compared with the estimate of $165. Target costing closes this gap through redesign and supplier negotiation rather than raising the price set by the market.

  1. AThe target cost is $150, so the cost gap is $15 to be closed through design and supplier changesCorrect
  2. BThe target cost is $160, so the cost gap is $5
  3. CThe target cost is $150, so the product should be priced at $215 to recover the gap
  4. DThe target cost is $165, because it is the cost estimate already built from current methods

Explanation

Target cost = price less required margin = 200 − (25% × 200 = 50) = $150. Cost gap = 165 − 150 = $15. Target costing keeps price fixed by the market and closes the gap through value engineering, not by raising price. $160 wrongly uses a margin of 20%, and $165 ignores the target logic.

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