1. Market-Driven Pricing Philosophy
Traditional manufacturing uses a cost-plus pricing model: Cost + Profit Margin = Selling Price. This approach works poorly in competitive modern markets, where prices are set by global supply and demand. Target Costing flips this sequence, forcing engineering and design choices to adapt to market pricing realities.
2. The Target Costing Equation
Target costing determines the maximum allowable cost for a product during its design phase:
Target Cost = (Target Market Selling Price) − (Target Required Profit)
 Traditional Cost-Plus: [ Product Cost ] ------------------> Add Margin -------> [ Selling Price ]
 Target Costing:        [ Target Market Price ] -----------> Subtract Margin --> [ Allowable Target Cost ]

3. Value Engineering and the Cost Gap
If a product’s initial design cost is higher than its allowable target cost, the difference is labeled a Cost Gap. Management uses Value Engineering to close this gap before mass production begins:
  • Re-designing components to share standard parts with existing product lines.
  • Removing features that add cost but provide little value to the final customer.
  • Collaborating with suppliers to reduce material procurement expenses.

 
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