What Are Target Costs in Cost Center Accounting and Why Should You Calculate Them?

  • by Janet Salmon, Product Manager, SAP AG
  • March 15, 2004
Many reports that monitor cost center performance are incomplete because they account for the planned output rather than the actual output of the cost center. The author demonstrates how to use adjusted costs called target costs. Calculating target costs will provide you with a report that more accurately reflects the performance of your cost centers.

Ask most people to define Cost Center Accounting (CO-OM-CCA) and they will tell you that it is the process of assigning expenses to cost centers and monitoring these figures over time. Ask them how they monitor cost center performance and these people will tell you that they compare the actual costs with the planned costs for the period and analyze the variance. They typically work with reports like the one shown in Figure 1, with a line-by-line explanation of the over/under absorption on the cost center. (For information on reports in Business Information Warehouse [BW], see the sidebar, "Analyzing Target Costs in Business Information Warehouse.")

Figure 1
Plan/actual comparison for cost center group (click on image for full- screen

However, while everyone is familiar with this sort of report, it has its limitations. To understand how their cost centers are performing, some companies go a step further and adjust their planned costs to reflect the actual output of the cost center. They then compare these adjusted costs — SAP calls them target costs — with their actual costs to calculate variances. This gives them a more accurate picture of how efficiently their cost centers have been working, because it accounts for variations in cost center output. Using five cost centers in a fictitious manufacturing company, I will show you why companies use target costs instead of planned costs to judge their cost centers' performance and what impact this business requirement has on their planning process.

Janet Salmon

Janet Salmon joined SAP in 1992. After six months of training on R/2, she began work as a translator, becoming a technical writer for the Product Costing area in 1993. As English speakers with a grasp of German costing methodologies were rare in the early 1990s, she began to hold classes and became a product manager for the Product Costing area in 1996, helping numerous international organizations set up Product Costing. More recently, she has worked on CO content for SAP NetWeaver Business Warehouse, Financial Analytics, and role-based portals. She is currently chief product owner for management accounting. She lives in Speyer, Germany, with her husband and two children.

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