Target Costing

for Flexible Manufacturing Systems

—A FAST Approach
N Raviswaran* and R Gandhinathan**

New Product Development (NPD) process has undergone revolutionary

changes during the past few years due to global economic policies. The
organizations have made their manufacturing systems flexible and agile to
adapt to changing customer needs. However, with ever increasing demand
on lower prices, the NPD process is under constant pressure today to deliver
products at lowest possible cost. Target Costing (TC) has emerged as one
primary tool backed by conventional NPD tools like Value Engineering (VE),
Quality Function Deployment (QFD) and Design For Manufacture (DFM) to
facilitate the manufacturer in this emerging economic scenario. The primary
objective of this work is to study the influence of Value Engineering on Target
Costing process. The case of an Indian Auto manufacturer has been taken
up and a Target Costing process aided by Value Engineering has been applied.
The approach and results have been discussed in this paper.

1. Introduction
The new economic policies and revolutionary liberalization has made competition to
reach heights that were never seen before. Globalization has opened up fantastic
opportunities for the Indian industries. Nevertheless, the Indian manufacturers are
witnessing a bewildering scene where the products with best quality and least cost
alone can survive. With this scenario, a paradigm shift is required in the approach of
manufacturers towards cost management.

With markets opened to all and having lean and flexible manufacturers worldwide,
cutting cost and becoming cheaper is vital to become market leader. A case of an
Indian auto component (Air-horn) manufacturer has been taken up in this work. A
target cost was set, based on market conditions and the same has been achieved through
a structured Value Engineering approach.
* Senior Lecturer, Department of Mechatronics Engineering, Kongu Engineering College,
Perundurai, Erode, Tamil Nadu, India. E-mail: ravish@kongu.ac.in; raviswarann@yahoo.co.in
** Assistant Professor, Department of Mechanical Engineering, PSG College of Technology,
Coimbatore, Tamil Nadu, India.

© 2005 The ICFAI University Press. All Rights Reserved.

Target Costing for Flexible Manufacturing Systems—A FAST Approach 43
2. Target Costing and Value Engineering
Cooper and Slagmulder [12] define Target Costing as “a structured approach to
determine the life cycle cost at which a proposed product with specified functionality
and quality must be produced to generate the desired level of profitability over its life
cycle when sold at its anticipated selling price”. A Target Costing model proposed by
Cooper and Slagmulder is given in Figure 1.

Figure 1: Target Costing Model

Market-driven
Costing

Target Target
Market selling profit Allowable
conditions price margin cost

Strategic
cost
reduction Component-level
challenge Target Costing
Target Costing
Product–level

Product Function Component

level level level Suppliers
target cost target cost target cost

Target cost
reduction
objective

Current
cost

2.1 Need for Value Engineering

Value Engineering emerged from the industrial community during World War-II. Since
its development by Lawrence D Miles, a staff Engineer of General Electric in 1947,
Value Engineering has evolved through years and in today’s market has proven itself
to be one of the soundest economic ventures. L D Miles defines Value Engineering as
“a philosophy implemented by the use of specific set of techniques, a body of knowledge
and a group of learned skills. It is an organized creative approach, which has for its
purpose the efficient identification of unnecessary costs, i.e., costs which provide neither
quality, nor use, nor appearance and nor customer feature” [3].
2.2 Value Engineering Enabled Target Costing
Target Costing enables the manufacturer to identify the product level as well as
component level target cost requirements. To create intensive pressure on the product

44 The ICFAI Journal of Operations Management, May 2005

designers to reduce costs, product level target costing focuses designer creativity on
reducing the costs to their target levels [2]. These targets are set so that they can be
achieved only if the product designers expend considerable efforts to design for cost.
Value Engineering is the primary technique used to find ways to decrease product
costs, while maintaining the functionality quality and the customer demands. As such
Value Engineering is an integral part of target costing.

3. Setting Up the Target Price

M/s Jaishree Industries (name disguised) make air-horn for trucks and buses and
they were faced with stiff competition in the market by three leading horn manufacturers.
The manufacturer decided to develop and launch a single frequency air-horn, which
is already picking momentum in the market.

The selling prices of different competitors were collected from various dealers and
are listed in Table I. (The prices and costs indicated in this paper are in “Indian
Rupees” and denoted as cost units in all places, for the benefit of readers in other
countries).

Table I: Selling Price of Competitors

S. No Competitors Selling Price to Dealers (in Cost Units)
1 A 63.00
2 B 60.00
3 C 61.50

Minimum available price to market = 60.00 cost units (from table I)

For Jaishree Industries to enter, a 12% reduction on existing market price was
decided by marketing team.

Therefore, selling price for M/s Jaishree Industries = 60.00 – 7.20 = 52.80

= 53.00 cost units (Approximately)

3.1 Arriving at the Target Cost
The methodology involved in arriving at the target cost is given in Table II.
Table II: Arriving at the Target Cost
Parameters Cost in
Cost Units
Target selling price to dealer (A) 53.00
Less excise duty @ 16% on manufacturer’s invoice price (B) 7.50
Invoice price of manufacturer (C) = (A) – (B) 45.50
Profit @ 12% on selling price for manufacturer
(company’s policy decision) (D) 5.50
Target Cost (C) – (D) 40.00

Target Costing for Flexible Manufacturing Systems—A FAST Approach 45

 The challenge ahead of the company now is to make a single frequency air-horn at
a cost of 40.00 cost units meeting all customer needs.

4. Value Engineering for Achieving Target Cost

A structured Value Engineering approach as detailed below was followed to achieve
the set Target Cost.
(a) Collection of existing cost details
(b) Pareto analysis to short list items to be taken up for Value Engineering
(c) FAST diagram for Air-horn
(d) Function-cost worth analysis
(e) Evaluation of short listed ideas
(f) Summery of savings and presentation
4.1 Product Cost Based on Company’s Existing Design and Technology
The Bill of Material details of various components in the product are shown in Table III.

Table III: Existing Cost Data

S. No. Components Qty Operational Material Material Processing Compo-
Target (if any) Cost in Cost in nent’s
Cost Units Cost Units Total Cost
in Cost
Units
(A) (B) (A)+(B)
1 Main body 1 Black colored Al. with 7.50 Machining 11.00
outside painting -1.50 and
Paint-2.00
2 Back cover 1 Black colored Al. with 3.25 Machining- 5.75
outside painting 1.25 and
Paint-1.25
3 Trumpet 1 Dia. of 80mm Polypro- 8.00 Moulding – 12.50
and 350mm long pylene 4.00
with tensile strength
of 12N/mm2
4 Spring 1 5 turns, 1mm dia Phosper 1.25 Coiling and 2.00
and tensile strength bronze heat treat-
of 1900N/mm2 wire ment – 0.75
5 Diaphragm 1 0.25mm thickness Phosper 2.00 0.25 2.25
and tensile strength bronze
of 30N/mm2 sheet
6 Seal 1 24 hrs-water Hi – nitrile 4.00 - 4.00
immersed test rubber
7 Fasteners 6 50 hrs – salt Mils steel, 2.40 - 2.40
spray test Zn. green (6 x .40)
passivation

46 The ICFAI Journal of Operations Management, May 2005

Product cost from Table III = 39.90 cost units
Assembly and inspection charges = 5.50 cost units
Supervision cost @ 0.50 cost units per horn = 0.50 cost units
Packing and finished product storing cost = 0.30 cost units
Selling expenses @ 1.20 cost units per horn = 1.20 cost units
Transportation and freight insurance = 1.00 cost units
(@ 1.00 cost units per horn)
Total cost of the product = 48.40 cost units
Target cost to be achieved = 40.00 cost units
Drifting cost = 8.40 cost units

4.2 Pareto Analysis to Shortlist Items

A Pareto Chart was constructed based on existing cost details of an Air-horn product
and is given in Figure 2.
Based on the pareto chart, Figure 2: Pareto Chart for Air-horn
the items were short listed
Pareto Chart
for further work.
Cost in Cost Units

Product cost = 39.90 cost

units. According to Pareto’s
80-20 principle, 80 % of the
product cost = 39.90 x 80/
100 = 31.92 cost units.

The short listed items

Trumpet

Main body

Back cover

Fastener

Diaphragm
Seal

Spring

which contribute to 80% of

the total cost of the Horn are
Trumpet, Main body, Back
cover and Seal.
4.3 FAST Diagram for Air-horn
FAST is an advanced technique developed by Charles Bytheway to determine the
relationship between functions in the analysis of an entire system, process or a
complicated assembly, and gives a better understanding or the interrelation of
functions and their costs [7]. This technique basically finds answers to three questions
about each function performed by the product or service, Why? How? and When?
The FAST diagram constructed for the Air-horn taken up for this study is shown in
Figure 3.

Target Costing for Flexible Manufacturing Systems—A FAST Approach 47

48
Figure 3: FAST Diagram for Air-horn

Facilitate Supply Air

Sound Level:
Mounting
120±5 dBA
How? Freq: 400±20 Hz Why?
Leak Proof Provide Prevent
Aesthetics Leakage

Hold
All time parts
functions
Vibrate Provide
Vibrate Parts
air
diaphragm
Safe Warn column Stiffen Provide
Transmit
Riding approach sound diaphragm tension

Amplify Create Enclose

sound resonance parts

Add
weight
Induce Withstand Strengthen
vibration vibration trumpet
Unwanted
function
Unwanted
function
VE Scope

The ICFAI Journal of Operations Management, May 2005

4.4 Function—Cost Worth Analysis
A brainstorming was conducted involving personnel from various departments and
several alternate proposals are analyzed. The final proposals short listed were tested
for their functional worthiness and most of the proposals were found to be acceptable.
The details of analysis are tabulated in Table IV.

Table IV: Function—Cost Worth Analysis

Item Possible Cost of Function Value
S. Cost Alternatives of Alternatives Worth (Cost Gap
No Items Function(s) in
Cost Achieving the in Cost of Least Cost in
Function(s) Alternative) Cost
Units Units
in Cost Units Units
1 Trumpet (i) Create (a) 400 mm
resonance(B) Trumpet in
(ii) Withstand polypropylene 12.50
vibration(S) material
(iii) Provide (b) 400 mm
aesthetics(S) 12.50 Trumpet in 9.50 9.50 3.00
HDPE material
2 Main (i) Hold and (a) Al. body with
body Enclose parts(B) black outer
(iii) Facilitate painting 11.00
mounting(B) (b) Al. body with
(iv) Prevent black plating 10.00
leakage(B) (c) Plastic –
(v) Supply (Nylon 6) body
air(B) 11.00 in black color 6.00 6.00 5.00
(vi) Provide
aesthetics(S)
3 Back (i) Hold and (a) Al. body with
cover Enclose parts(B) black outer
(iii) Prevent painting 5.75
leakage(B) (b) Al. body with
(iv) Supply black plating 5.00
air(B) (c) Plastic –
(v)Provide (Nylon 6) body
aesthetics(S) 5.75 in black color 3.00 3.00 2.75
4 Seal Prevent 4.00 (a) Hi-Nitrile 4.00
leakage(B) rubber seal 2.00 2.00
(b) Natural
rubber seal 2.00
Total 20.50 12.75

Legends: B—Basic function, S—Secondary Function.

4.5 Evaluation Phase

Various alternatives from Table IV were evaluated and tested. The details of evaluation
is given in the Table V.

Target Costing for Flexible Manufacturing Systems—A FAST Approach 49

 Table V: Evaluation of Alternatives
S. Proposed
Acceptance Criteria Outcome
No Items Concept
1 Trumpet Change trumpet (a) To withstand vibration All the conditions satisfied
material to test as per IS-specification and hence acceptable
HDPE (IS-1884) (since no dimensional
(b) To be mouldable in changes are done, sound
existing die-set function requirements
(c) No appreciable change remain unaltered)
in outer finish
2 Main Change Main (a) To withstand 8 kg/cm2 Concept acceptable
body body material to pressure
Nylon 6 (b) No air leakage/change
in sound after 100 hrs of
continuous operation @ 7
kg/cm2
3 Back Change Back (a) To withstand 8 kg/cm2 Due to creep loading, the
cover cover material to pressure Back cover bulges out after
Nylon 6 (b) No air leakage/change 20 hrs of operation and
in sound after 100 hrs of hence the idea is rejected
continuous operation @ 7
kg/cm2
Do black plating No appreciable change in Concept acceptable based
instead of painting outer finish (based on on marketing feed back
on back cover marketing feed back)
4 Seal Change Seal (a) To withstand water Concept acceptable
material to immersion test for 24 hrs
Natural rubber (b) No air leakage

4.5 Summary of Savings

Based on the Evaluation phase, a cost saving of 10.75 cost units, which is more than
the required drifting cost was attained. The savings are summarized in the Table VI.

Table VI: Summary of Savings

S. No Items Existing Proposed Change Proposed Savings
Cost (Acceptable Concept) Cost (Cost Units)
1 Trumpet 12.50 HDPE 9.50 3.00
2 Main body 11.00 Nylon 6 6.00 5.00
3 Back cover 5.75 Al. body with black plating 5.00 0.75
4 Seal 4.00 Natural rubber 2.00 2.00
Total Cost Saving 10.75

5. Conclusion
Based on the case study, the following are concluded:
• A cost reduction of 10.75 cost units, which is more than the drifting cost, has been
achieved and hence the Target cost requirements are satisfied.

50 The ICFAI Journal of Operations Management, May 2005

• A functional approach gives lot of insight about the product, which paves way for
value enhancement of this product and similar products.

• Target costing appears to be heavily relying on Value Engineering methodology

for an effective implementation.

• The study indicates this methodology may well be extended for similar type of
industries (Auto component manufacturers) and FMS. O

Reference # 07J-2005-05-03-01

6. References

1. Andrew Williamson, February 1997, “Target and Kaizen Costing”, Manufacturing

Engineer, pp. 22-25.

2. Gandhinathan R, Raviswaran N and Suthakar M, January 2004, “QFD Enabled

Target Costing – A VE Approach”, proceedings of the international conference on
Responsive Supply Chain, RSC 2004.

3. Harold G Tufty, 1982 , “Compendium on Value Engineering”, The Indo-American

Society.

4. ICWAI Southern India Regional Council, “Target Costing”, www.icwai.com/sirc/

features/target.asp

5. Larry W Zimmerman and Glen D Hart, 1982, “Value Engineering “, Van Nostrand
Reinhold Company Inc.

6. J O Quirmbach, M Wilke and E Igenbergs, “Cost Engineering with a Model

Based Design Process for Satellite Systems”, www.dutlsisa.lr.tudelft.nl/seinternet/
Lectures/PDCpapers/paper11.pdf

7. Jagannathan G, “Getting More at Less Cost—The Value Engineering Way”, TMH,

New Delhi, 1997.

8. Raviswaran N and Gandhinathan R, December 2002, “Re-Cyclable Packing—A

Value Engineering Approach to Achieve Target Cost in Automotive Industries”,
Proceedings of the International Conference on Operations Research Development
(ICORD), College of Engineering (Anna university), Chennai.

Target Costing for Flexible Manufacturing Systems—A FAST Approach 51

 9. Raviswaran N and Gandhinathan R, January 2003, “Achieving Competitive Edge
Through Value Engineering—A Toyota Based Target Costing Approach for Indian
Manufacturing Industries”, Proceedings of the International Conference on Digital
Aided Modeling and Simulation (DAMS).

10. Richard C Chen and Chen H Chung, Winter 2002, “Cause-Effect Analysis for
Target Costing”, Management Accountant quarterly.

11. Robin Cooper and Regine Slagmulder, Summer 1999, “Develop Profitable New
Products with Target Costing”, Sloan Management Review, pp. 23-33.

12. Robin Cooper and Regine Slagmulder, 1992, Target Costing and Value
Engineering, Productivity Press.

13. Yasuhiro Monden, 1992, Cost Management in the New Manufacturing Age,
Productivity Press.

52 The ICFAI Journal of Operations Management, May 2005