P2 - 3. Profit Enhancement Techniques Flashcards
What is a target cost?
A product cost estimate derived by subtracting a desired profit margin from a competitive market price
What is target costing?
An activity which is aimed at reducing the life cycle costs of new products, while ensuring quality remains the same
What are the 3 steps in target costing?
- Determine the sales volume and target price through market research
- Identify the required profit level
- Ensure the product can be produced at a cost which is less or equal to the difference between 1 and 2
What is the target profit level in target costing usually based on?
An overall corporate required return on investment
What are the 3 problems with target costing in a service industry?
- Hard to predict demand at concept stage
- Cost is almost all labour (hard to reduce)
- Services can be unique so would need to reapply target costing every time
What are the 5 main options for closing a target cost gap?
- Redesign the product
- Redesign the production process
- Renegotiate with suppliers
- Improve staff efficiency
- Use cheaper staff
What is life cycle costing?
Monitoring costs by product over the different phases of the products life to identify the total profitability of a product
What are the 3 main uses of life cycle costing?
- Provides better info about success of product development
- Gives focus on the design development stage, where most costs are incurred, so provides a clearer basis for cost reduction
- Gives importance to lengthening product life cycle and shorter lead time from R&D spend and launch
What are the 2 limitations of life cycle costing?
- Requires more detailed analysis of costs so is more time consuming/costly
- Doesn’t provide information for financial reporting
What are the 6 main categories of cost incurred throughout the product lifecycle?
- R&D
- Market research
- Staff training + production
- Distribution
- Marketing
- Decomissioning
What are the 5 product life cycle phases?
- New product development
- Market introduction
- Growth
- Maturity
- Decline
What is the pattern of price through introduction to decline stage?
- > Introduction strategy based
- > Declines due to/to prevent competition
- > Stable/promotions
- > Reduced to sell off
What is the pattern of production cost through introduction to decline stage?
- > High (low volume/training)
- > Reduces, economies of scale and bulk buying
- > Constant
- > Increases (low volume, less interest)
What is the pattern of sales and marketing spend through introduction to decline stage?
- > Low to medium (awareness)
- > High (reach customers)
- > Reduced (word of mouth/established)
- > Reduce (focus elsewhere)
What is the pattern of profitability through introduction to decline stage?
- > Loss making
- > Approaching breakeven
- > Steady profits
- > Reduced/possible losses
