Procurement Glossary
Target cost accounting: definition, methods and strategic application in Procurement
January 19, 2025
Target costing is a strategic cost management tool that is based on the desired market price and derives the maximum permissible product costs from this. In procurement, this method enables precise cost control and supports buyers in the optimal selection of suppliers and contract negotiations. Find out below what exactly target costing means, which methods are used and how you can use them strategically in Procurement .
Key Facts
- Market-oriented cost planning: Derivation of target costs from the target sales price minus the desired profit margin
- Proactive cost control: Influencing costs early on in the development and procurement phase
- Supplier integration: Systematic integration of suppliers into the target cost process for joint cost optimization
- Continuous monitoring: regular comparison between target and actual costs to ensure target achievement
- Competitive advantages: Increased marketability through cost-optimized procurement strategies
Contents
Definition: Target cost accounting
Target costing is a market-oriented approach to cost planning that differs fundamentally from traditional costing methods.
Basic principles of target cost accounting
In target costing, the allowable costs are not determined by adding up the individual costs, but are derived from the target market price. The formula is: target costs = market price - profit margin. This approach forces companies to systematically analyze their cost drivers and identify optimization potential.
Target cost accounting vs. traditional cost accounting
While traditional methods determine the costs and set the sales price on this basis, target costing reverses this process. It is primarily based on market conditions and customer requirements. This reversal leads to a stronger market orientation and forces a critical examination of existing cost structures.
Importance of target costing in Procurement
In the area of procurement, target costing enables precise control of procurement costs and supports strategic decisions. Purchasers can use should-costing analyses to conduct realistic price negotiations and optimize the total cost of ownership.
Methods and procedures
The successful implementation of target cost accounting requires structured methods and systematic procedures that are tailored to the specific requirements of the procurement sector.
Target costing process
The target costing process is divided into several successive phases. First, the market analysis is carried out to determine the achievable sales price, followed by the determination of the profit margin and the derivation of the target costs. The current costs are then determined and compared with the target costs in order to identify cost gaps.
Cost splitting and functional analysis
The systematic breakdown of total costs into sub-areas enables targeted cost control. Cost break-down analyses are used to identify cost drivers and uncover optimization potential. The functional analysis evaluates the value contribution of individual components and supports prioritization decisions.
Supplier integration and collaboration
Involving suppliers in the target cost process is crucial for success. Joint workshops for value analysis and regular cost discussions create transparency and promote innovative solutions. This collaboration leads to sustainable cost reductions and strengthens the partnership between Procurement and suppliers.
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Key figures for controlling target cost calculations
Effective key figures enable systematic monitoring and control of target cost accounting in the procurement area.
Degree of target cost achievement
The target cost achievement ratio measures the relationship between actual and planned costs. This key figure shows the extent to which the set cost targets have been achieved. A value below 100% indicates cost overruns, while values above 100% indicate successful cost reductions. Regular analyses of this key figure enable corrections to be made at an early stage.
Cost gap closure rate
This key figure evaluates the progress made in closing identified cost gaps. It is calculated as the ratio of the cost gap already closed to the originally identified cost gap. A high closure rate indicates effective cost optimization measures and helps to evaluate the savings realized.
Supplier target cost performance
Supplier performance in terms of target cost achievement is evaluated using specific performance indicators. These include adherence to delivery dates for cost reductions, the quality of cost transparency and innovation contributions to cost optimization. These indicators support strategic supplier development and selection.
Risk factors and controls for target cost calculations
The application of target cost accounting entails specific risks that must be minimized by means of suitable control mechanisms.
Unrealistic targets
Overly aggressive cost targets can lead to quality losses or supplier problems. A realistic assessment of market prices and cost potential is essential. Regular market analyses and price inquiries with various suppliers help to define realistic target costs and avoid unrealistic expectations.
Quality risks due to cost pressure
The focus on cost reduction can be at the expense of product quality. Clear quality standards and regular checks are essential. The integration of quality indicators into the target cost system and the consideration of follow-up costs due to quality defects create a balanced relationship between costs and quality.
Supplier dependencies
Intensive cooperation with a small number of suppliers can lead to critical dependencies. A balanced supplier strategy with alternative sources of supply reduces this risk. Regular supplier evaluations and the development of backup suppliers secure the supply even in the event of failures or problems with main suppliers.
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Practical example
An automotive supplier implements target costing for a new component. The target market price is 50 euros with a desired profit margin of 15%, resulting in target costs of 42.50 euros. The current calculation shows costs of 48 euros, which means a cost gap of 5.50 euros. Through systematic supplier discussions, material optimization and process improvements, it is possible to reduce the costs to 41 euros and thus fall below the target costs.
- Market price analysis and target cost definition
- Identification of the cost gap through actual/target comparison
- Systematic cost optimization with suppliers
- Successful undercutting of target costs by 3.5%
Current developments and effects
Target costing is constantly evolving and is influenced by new technologies and changing market conditions.
Digitalization and AI integration
Artificial intelligence is revolutionizing target costing through automated data analysis and predictive analytics. AI systems can analyze market prices in real time, predict cost trends and suggest optimal target costs. These technologies enable dynamic adjustment of target costs to changing market conditions and significantly improve the accuracy of cost forecasts.
Sustainability integration
Environmental and social costs are increasingly being integrated into target costing. Companies are not only considering direct procurement costs, but also sustainability aspects such as CO2 emissions and social impacts. This holistic approach leads to an expanded definition of the total landed cost and influences supplier selection and procurement strategies.
Agile cost control
Increasing market dynamics require flexible and quickly adaptable target cost systems. Agile methods enable continuous review and adjustment of target costs. Short planning cycles and iterative improvements replace rigid annual planning and enable responsive cost control in volatile markets.
Conclusion
Target costing is a powerful tool for strategic cost management in Procurement . With its market-oriented approach, it enables proactive cost control and promotes close cooperation with suppliers. Success depends largely on realistic targets, systematic implementation and continuous monitoring. Modern technologies such as AI significantly expand the possibilities and make target costing an indispensable tool for competitive procurement strategies.
FAQ
What is the difference between target costing and conventional costing?
Target costing is market-oriented and derives the allowable costs from the target sales price, whereas conventional costing determines the costs and sets the price based on them. This reverse approach forces a critical view of costs and market orientation.
How are realistic target costs determined in Procurement ?
Realistic target costs are created through well-founded market analyses, benchmarking with competitors and detailed cost transparency with suppliers. Should-costing analyses and regular price comparisons support the realistic assessment of achievable cost levels.
What role do suppliers play in target costing?
Suppliers are key partners in the target cost process. They must create cost transparency, participate in joint optimization projects and develop innovative solutions to reduce costs. Successful target costing requires close cooperation between Procurement and suppliers.
How often should target costs be reviewed and adjusted?
Target costs should be reviewed regularly, at least quarterly or in the event of significant market changes. Volatile markets require more frequent adjustments, while stable markets allow for longer planning cycles. Continuous monitoring of market developments is essential.
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