Sony Corporation

(Case Analysis)

(I) Executive Summary

Sony, a market leader in the portable stereo segment with its Walkman range faced a pricing
challenge since the purchase behaviour of its customers in the domestic market (where high
volumes weren’t achieved at the lowest price point but at a price moderately higher than
the lowest) were much removed from that of their customers in the USA and the UK (where
classical theory of economics followed with highest volumes guaranteed at lowest prices).

To be able to bring to market products that would ensure their profit margin targets were
achieved, Sony worked backwards from the target price they believed were the most
attractive to customers to arrive at the target cost. This target costing was accompanied by
product costing in an iterative process where a choice of changes to the product and profit
margins were made to ensure that the overall group profit margins were achieved either by
changing product inputs to reduce costs or by ensuring higher margin products offset the
lower model ones within the group.

(II) Problem Statement

To achieve the desirable profit margins for the audio group of which Sony Walkman models
are a part of by pricing the models at the most suitable “magic price points”.

To project this profit margin through an iterative process where a combination of target costing
and product costing are used for different models, and to ensure higher margins from some
models make up for lower margins from others, ensuring overall group profit margins are
achieved.

(III) Costing Methodologies Adopted

a) Target Costing
In Target Costing, Sony estimated what should be the ideal/target cost of a product, based
on previously identified “magic price points”. These magic price points were set a little
below whole numbers (like 19,800 instead of 20,000), to attract more customers as their
surveys had shown that consumer interest peaked at these points. Once this price was
decided, Sony subtracted wholesaler and dealer margins plus 10% in order to determine
what price it needs to be selling at. From this, it subtracted its target margin for the product,
to arrive at the target cost. This was followed by estimating the actual cost, so that the target
cost and estimated cost could be compared.

The target margin was set by following an iterative process, in which an entire group’s
margins were negotiated so they could play around with the margins of individual products
under their category, in order to maintain the group target margin. This flexibility became
especially necessary when one product’s estimated cost was much higher than its target
cost while another product had the reverse phenomenon.

If the group’s target margins weren’t being met even after all the playing around with
margins, key individual decisions were reviewed. Alternatives used by Sony are as
follows:-

(i) Reduce product cost

(ii) Increase price & reduce functionality of low-margin products
(iii) In case the product was crucial and no alternative could be reached,
everyone accepted low profitability on that product, as it drove a different
purpose

b) Product Costing
Sony had short development cycles with low capital investments, which allowed them to
constantly innovate & experiment with new technologies in short runs. This made Sony’s
superior technology - and not its price point - its competitive advantage. Hence, whenever
a competitor decided to cut costs, Sony generally responded by accelerating a new product
launch to pique interest. It was therefore imperative for them to set the price of a product
by a working process .

To cost products, Sony used a system that distinguished direct costs from indirect costs.
 (i) Direct costs, like touch labour and purchased parts, were assigned to the product
directly and as accurately as possible since these were directly related to the
development of that product itself.
(ii) Indirect costs were of two types, one that could be associated with a product
and one that couldn’t
a. Those that could be associated included cost of moulding & other major
equipment used, along with cost of all engineering activities. These total
costs were assigned to the whole product batch, so that each individual
product had equal cost from this component
b. Those that couldn’t be assigned directly included R&D, engineering,
service, administration, marketing and other corporate expenses. These
combined expenses were charged to the entire general audio group and then
divided among all the product lines under them.

A new product in Sony is first conceptualised with a hand-made model to know which parts
need to be mass productionised and assembled for the product. Based on this information,
the target and estimated costs were calculated using the methodology described above.
Using this comparison as the driving factor, Sony chose to either:-

(i) Launch the product as manufacturing costs were in line with the selling price
(ii) Redesign the entire product from scratch to reduce price significantly, in case
there was enough time to do so
(iii) Use an iterative process to remove many small costs, when there was a time-
crunch to meet the target launch deadline