These two methods are often confused because both deal in a planned, predetermined cost. But they pull in opposite directions across the product's life. Target costing acts before production even begins, in design, to engineer the cost down to whatever the market will allow. Standard costing acts during and after production, to measure what actually happened against a standard set in advance. One is proactive and market-driven; the other is reactive and control-focused. This page sets them side by side and shows when each is the right tool.
Target costing and standard costing differ in when they act and who sets the number. Target costing (Japanese genka kikaku), pioneered at Toyota from the late 1950s, acts before production: the market sets the price, the firm subtracts its required profit, and the allowable cost (Target Cost = Target Price - Target Profit) becomes a design constraint that value engineering must meet, at the stage where most cost is locked in. Standard costing, with roots in scientific management, sets predetermined standards from internal engineering and then reports variances - price, efficiency, volume - of actual against standard during and after production, and it supports the absorption costing required under IFRS (IAS 2) and US GAAP. Use target costing during product development; use standard costing for ongoing control and statutory inventory valuation. They are complementary across the lifecycle. ---
The core difference
The cleanest way to see the difference is to ask when each method acts and who sets the cost.
Target costing
Target costing acts before production, in design, and lets the market set the cost. It inverts the old cost-plus logic. Instead of building a product, totting up its cost and adding a margin, the firm starts from the price the market will bear, subtracts the profit it needs, and treats whatever is left as the cost it is allowed to incur. That allowable figure becomes a hard design constraint. Value engineering then attacks the product at the design stage, because that is where roughly 80 to 90 per cent of a product's cost is locked in. It is proactive, forward-looking and market-driven, and kaizen costing is its production-phase complement.
standard costing
Standard costing acts during and after production, and lets internal engineering set the standard. It establishes a predetermined cost for materials, labour and overhead, then compares actual results against it and explains the gaps through variance analysis - price, efficiency and volume variances. It is reactive in nature, built for control and for valuation rather than for designing cost out, and the standards come from inside the firm, not from the market.
Side by side
| Dimension | Target costing | Standard costing |
|---|---|---|
| Origin | Post-war Japan, pioneered at Toyota from the late 1950s/1960s | Scientific management (Taylor); G. Charter Harrison ~1911 |
| When it actsKey row | Before production, at the design stage | During and after production |
| Who sets the cost | The market (top-down) | Internal engineering (predetermined standards) |
| Core logic | Target Cost = Target Price - Target Profit | Actual vs standard, explained by variances |
| Direction | Proactive, forward-looking, market-driven | Reactive, control-and-valuation, internally-set |
| Main lever | Value engineering at design, where ~80-90% of cost is locked in | Variance analysis (price, efficiency, volume) |
| Statutory role | Not a valuation method | Supports absorption costing under IFRS (IAS 2) and US GAAP |
| Best used | Product development, especially assembly manufacturing | Ongoing cost control and inventory valuation |
A worked contrast
Take an illustrative product at CaP Manufacturing (figures illustrative).
Target costing starts with the market. Research says the product must sell at EUR 200 to win its segment. CaP needs EUR 50 of profit per unit to justify the investment, so the target cost is EUR 150. The current design, however, would cost EUR 175 to make. Target costing turns that EUR 25 gap into a design brief: the cross-functional team uses value engineering to redesign components, simplify assembly and renegotiate inputs until the design can be built for EUR 150 - all before the first unit is produced.
Standard costing picks up later. Once the product is in production, CaP sets a EUR 150 standard cost and runs the line against it. When the actual material price comes in higher than planned, standard costing reports a EUR 5 unfavourable material price variance against the standard, flags it for management, and feeds the EUR 150 standard into inventory valuation for the statutory accounts. Target costing designed the EUR 150; standard costing then defends it and measures every deviation from it.
When to choose which
Reach for target costing during product development, and especially in assembly manufacturing such as automotive and electronics, where a product is built from many components and most of its cost is committed the moment the design is frozen. If you want to influence cost, you have to act before production, and target costing is the discipline that does it.
Reach for standard costing for ongoing cost control once a product is in production, and for statutory inventory valuation, because standard costing supports the absorption costing required under IFRS (IAS 2) and US GAAP. It is the workhorse of reporting and routine control in Anglo-Saxon manufacturing.
In practice the two are complementary, not competing, because they occupy different points on the product lifecycle. Target costing engineers the cost in during development; standard costing controls and values it during production and reporting. A well-run manufacturer uses both.
Frequently asked questions
Is target costing the same as standard costing with a tougher target?
No. Standard costing sets an internal benchmark and measures actual against it during production. Target costing sets the allowable cost from the market price before production, and uses value engineering to design the product down to that figure. One designs cost out at the start; the other measures variance once production has begun.
Why does target costing focus on the design stage?
Because roughly 80 to 90 per cent of a product's cost is locked in at design. Once components, materials and assembly are fixed, most cost is committed and hard to change. Target costing acts where the leverage is - before production - which is exactly where standard costing does not operate.
Which method does IFRS require for inventory?
Neither requires target costing. Statutory inventory valuation under IFRS (IAS 2) and US GAAP relies on absorption costing, and standard costing supports that by providing the predetermined production costs used to value inventory. Target costing is a management discipline for development, not a valuation method.
Can a firm use target costing and standard costing together?
Yes, and well-run manufacturers do. The two occupy different stages of the lifecycle: target costing during development to engineer the cost in, standard costing during production and reporting to control and value it. They are complementary rather than alternatives.
Where did each method come from?
Target costing (genka kikaku) was pioneered at Toyota in post-war Japan from the late 1950s and 1960s, and was later documented by Cooper and Slagmulder (1997), Monden (1995) and Sakurai (1989). Standard costing has roots in scientific management, with G. Charter Harrison credited with an early system around 1911, and it became dominant in Anglo-Saxon manufacturing for control and reporting.
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