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Chapter 8
Measuring Life-Cycle
Costs
1
Source: Institute of Management Accountants, Cases from Management Accounting Practice,
Instructors Manual, Volume 15. Adapted with permission.
272
Chapter 8: Measuring Life-Cycle Costs
that Mercedes is a company that had never lost money until 1993. They
simply built the best car their engineers could design and priced it above cost.
Demand often exceeded supply. As a result, cost had never been a primary
consideration. Changes include:
cost competition;
product innovation;
new segments (sports utility vehicle);
new market niches.
(b) How has MB reacted to the changing world market for luxury
automobiles?
(c) Using Coopers cost, quality, functionality chart, discuss the factors on
which MB competes with other automobile producers such as Jeep, Ford,
and GM.
An interesting point to discuss is that Mercedes does not produce the most
expensive sports utility vehicle. This distinction is reserved for the Land
Rover; however, they strategically placed themselves toward the luxury end
of the spectrum. Also, unlike many Japanese examples, Mercedes does not
2
Robin Cooper, When Lean Enterprises Collide, Boston: Harvard Business School Press, 1995.
273
Atkinson, Solution Manual t/a Management Accounting, 6E
use target costing as a strict cost control mechanism to produce the lowest
priced product in its class.
(d) How does the AAV project link with MB strategy in terms of market
coverage?
The new introductions expand the product line of the traditionally luxury-
oriented manufacturer. Recent product introductions include the following:
A Class;
C Class;
SLK;
E Class;
M Class.
These new introductions include new sports cars and off-road vehicles. The C
Class is a mid-sized vehicle sometimes referred to as the baby-Benz.
Lets discuss the elements of the target costing model and how these
elements are developed.
At this point in the discussion I usually write the target costing formula on
the board and ask students to consider sources of various inputs:
target selling price;
target profit margin;
target cost.
What are the sources of input for the projected target selling price?
Students will most likely identify the following sources of information:
customer focus groups;
comparable products:
- existing,
- potential.
What factors are considered when developing the required target profit
margin?
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Chapter 8: Measuring Life-Cycle Costs
The MB case suggests the target cost is alive. Is this consistent with the
ideals of target costing?
I generally emphasize that Mercedes did not consider the target cost to be
locked in. It was a moving target. As engineering changes became
necessary, the target cost was allowed to move. However, before making a
change, market forces were considered. For example, changes included the
addition of side airbags. In addition, the European press was critical of a
simulated wood-grain part. Management decided the part would remain
plastic because costs could not be passed on to the consumer. The main
point to emphasize is the design of the vehicle is dynamic, thus costs must
evolve to reflect the changing design characteristics.
The instructor can make slides of Tables 1-5 to facilitate discussion. Index
development is an important element in the early conceptualization phase of
the AAV. The indexes help to quantify some very abstract concepts.
Table 2 represents a rough estimate of the target cost by function group and
the relative percentage of each group of total target costs. The information is
used later to create a target cost index.
Table 5 results in a target cost index for each function group that attempts to
capture cost and benefit trade-offs. As discussed in the case, this index may
indicate a cost in excess of the perceived value of a function group. Thus,
opportunities for cost reduction (aligned with customer requirements) may be
identified.
(g) How do suppliers factor into the target costing process? Why are they so
critically important to the success of the MB AAV?
From the conceptual phase through the production phase, the suppliers of
systems for the AAV truly were partners. Suppliers attended regular meetings
with the cost planners throughout the entire process. Thus, suppliers were:
design and development partners from very early stages of
development,
responsible for meeting cost targets.
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Chapter 8: Measuring Life-Cycle Costs
The facility uses a JIT production system. In fact, many suppliers deliver
directly to the assembly line, rather than to a small warehouse.
The Black Warrior River separated Mercedes and a major system supplier.
This supplier built a new production facility on the same side of the river
as the Mercedes Benz plant to avoid possible delays associated with
accidents on a major bridge.
(h) What role does the accounting department play in the target costing
process?
Stress the fact that accountants were watchdogs in the target costing process.
Their primary responsibility was to ensure costs did not exceed targets during
the production phase. Thus, the accountants role was as follows:
cost control;
actual costs versus target costs:
- development stage,
- production stage.
277