Wham limited assembles and sells many types of android smart phones. It is considering extending its product range to include window phones. These smart phones produce a better sound quality than traditional key pad (Yam) phones and have a large number of potential additional features not possible with the previous technologies (station scanning, more choice, one touch tuning, station identification text and song identification text etc.).
Android smart phones are produced by assembly workers assembling a variety of components. Production overheads are currently absorbed into product costs on an assembly labor hour basis. Wham limited is considering a target costing approach for its new window phone product.
Required:
i) Briefly describe the target costing process that Wham limited should undertake in order to successfully introduce its new window phone. (3 marks)
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Identification of a product
Target costing begins by specifying a product an organization wishes to sell. This will involve extensive customer analysis, considering which features customer’s value and which they do not. Ideally only those features valued by customers will be included in the product design.
Determination of the selling price
The price at which the product can be sold at is then considered. This will take in to account the competitor products and the market conditions expected at the time that the product will be launched. Hence a heavy emphasis is placed on external (competitor) analysis before any consideration is made of the internal cost of the product.
Determination of the target cost
From the above price a desired margin is deducted. This can be a gross or a net margin. This leaves the cost target. An organization will need to meet this target if their desired margin is to be met. Costs for the product are then calculated and compared to the cost target mentioned above.
Determination of the cost gap
If it appears that this cost cannot be achieved then the difference (shortfall) is called a cost gap. This gap would have to be closed, by some form of cost reduction, if the desired margin is to be achieved. (Any 3 points)
ii) Assuming a cost gap was identified in the process, outline possible steps Wham limited could take to reduce the target cost gap. (3 marks)
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Review features (Value engineering)
Remove features from the new window phones that add to cost but do not significantly add value to the product when used by the customer. This should reduce cost but not the achievable selling price. This can be referred to as value engineering or value analysis.
Team approach (brainstorming)
Cost reduction works best when a team approach is adopted. Wham limited should bring together members of the marketing, design, assembly and distribution teams to allow discussion of methods to reduce costs. Open discussion and brainstorming are useful approaches here.
Review the whole supplier chain
Each stage in the supply chain should be reviewed, possibly with the aid of staff questionnaires, to identify areas of likely cost savings. Areas which are identified by staff as being likely cost saving areas can then be focused on by the team. For example, the questionnaire might ask ‘are there more than five potential suppliers for this component?’ Clearly a ‘yes’ response to this question will mean that there is the potential for tendering or price competition.
Review component costs
Wham limited should look at the significant costs involved in components. New suppliers could be sought or different materials could be used. Care would be needed not to damage the perceived value of the product. Efficiency improvements should also be possible by reducing waste or idle time that might exist. Avoid, where possible, non-standard parts in the design.
Assembly workers
Productivity gains may be possible by changing working practices or by de-skilling the process. Automation is increasingly common in assembly and manufacturing and Wham limited should investigate what is possible here to reduce the costs. The learning curve may ultimately help to close the cost gap by reducing labour costs per unit. Clearly reducing the percentage of idle time will reduce product costs. Better management, smoother work flow and staff incentives could all help here. Focusing on continuous improvement in production processes may help.
Overheads
Productivity increases would also help here by spreading fixed overheads over a greater number of units. Equally ,Wham limited should consider an activity based costing approach to its overhead allocation, this may reveal more favorable cost allocations for the new window phone product or ideas for reducing costs in the business. (Any 3 points)