You are the Management Accountant of a small engineering company, which is a member of a large engineering group. The Managing Director has recently joined the company and has little experience of the engineering sector. He has recently returned from the group’s annual management conference. The Managing Director found the seminars very useful but he is a little confused about two topics.

One of the presentations discussed the use of Target Costing within the group. The Managing Director had previously thought that Target Costing would not be appropriate for an engineering group, because he thought it could only be used in an organisation that manufactured similar products. He now realises that he may be confusing Target Costing and Standard Costing. He seeks your help in explaining Target Costing and how it differs from Standard Costing.

Another presentation discussed alternative investment appraisal techniques. The presenter used an example that compared three investments that were evaluated using incremental profit, accounting rate of return, payback and net present value. The presenter argued that net present value is theoretically superior to the other methods. The Managing Director seeks your help in understanding why the net present value technique is superior to the alternative investment appraisal techniques.

Required:

Prepare a report to the Managing Director that:

(a) explains Target Costing and how it differs from Standard Costing;

(b) explains why net present value is superior to the three other investment appraisal techniques stated above.