Managerial accounting, 5th by jiambalvo test bank ch07

CHAPTER The Use of Cost Information in Management Decision-Making Summary of Questions by Objectives and Bloom’s Taxonomy Item SO BT Item True-False Statements 1 K K K K 10 K 11 K 12 Multiple Choice Questions 28 K 49 29 1,2 K 50 30 1,2 K 51 31 1,2 C 52 32 1,2 K 53 33 C 54 34 K 55 35 1,2 K 56 36 1,2 C 57 37 1,2 K 58 38 1,2 K 59 39 K 60 40 K 61 41 K 62 42 K 63 43 AP 64 44 C 65 45 1,2 K 66 46 AP 67 47 AP 68 48 AP 69 Matching 131 1,2,3 K Exercises 132 1,2 K 136 133 AP 137 134 1,2 AP 138 135 AP 139 Challenge Exercises 150 1,2,4 AP 151 Short-Answer Essays 154 K 156 155 1,2 K 157 SO BT Item SO BT Ite m SO BT 1 1,2 K K K K K C 13 14 15 16 17 18 1,2 1,2 1,2 3 K K K K K K 19 20 21 22 23 *24 3 4 A1 K K K K K C 1 1 1 1 1 1 1,3 1,3 1,3 1 AP AP AP AP AP AP AP AP AP AP AP AP AP AP AP AP AP AP AP AP K 70 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 *89 *90 3 3 3 3 3 3 4 1,2 1,2 1,2 1,2 1,2 A1 A1 K C K C K C C K C K AP AP K K K AP AP AP AP K K *91 *92 93 94 95 96 97 98 99 100 101 102 103 104 105 106 107 108 109 110 111 A1 A1 1,3 1,3 1,3 1 1 1 1 1 1 1 K K C AP C AP AP AP AP AP AP AP AP AP AP AP AN AP AP AP AP 1 1,2 AP AP AP AP 140 141 142 143 1,2 1,2 1,2 C AP AP AP 144 145 146 147 3 AP AP AP AP 1,2 AP 152 1,2 AP 153 1,2 AP 1 C C 158 159 K K 160 161 A1 A1 K C Item SO BT *25 *26 *27 A1 A1 A1 K K K 112 113 114 115 116 117 118 119 120 121 122 123 124 125 126 *127 *128 *129 *130 3 3 3 3 3 3 3 A1 A1 A1 A1 AP AP AP AP AP AN AP AP AP AP AP AP AP AP AP AP AP AN AP 148 149 A1 A1 AP AP NN 7-2 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition TRUE-FALSE Incremental profit is the additional revenue received as a result of selecting one decision alternative over another Sunk costs are incremental costs because they increase or decrease with the choice of one alternative over another Differential costs are relevant in decision-making In deciding whether to sell or process further, the costs that have been incurred to process the product to the split-off point are incremental costs In a make-or-buy decision, direct materials and direct labor are usually incremental costs In a make-or-buy decision, the original purchase price of equipment that is currently used in the manufacturing process is usually a relevant cost because the equipment can be sold for its salvage value Avoidable fixed costs are incremental in a make-or-buy decision Avoidable costs are always relevant Decision alternatives that provide the largest incremental profit are always the best option 10 The proper way to analyze the decision to drop a product line is to compare sunk costs to incremental costs 11 Common costs are not directly traceable to an individual product line 12 If a company decides to eliminate a product, fixed costs allocated to that product line will be avoided 13 When deciding whether to eliminate a segment, the segment should be dropped if its contribution margin less the avoidable fixed costs is positive 14 Opportunity costs represent the benefits foregone by selecting one alternative over another 15 Avoidable costs are always incremental to business decisions 16 Fixed costs are always sunk costs 17 Two or more products which result from common inputs are called cut-off products 18 The best way to allocate the cost of common inputs to joint products is based on the physical quantities of the outputs 19 Allocating joint costs to products based on physical quantities will make all of the products have the same gross margin ratio if they are sold at the split-off point 7-3 Chapter The Use of Cost Information in Management Decision Making 20 The stage of production at which individual products are identifiable is referred to as the spin-off point 21 One advantage of using an outside supplier is the possibility that the outside supplier is particularly efficient at manufacturing the needed part or component 22 The qualitative aspects of a decision must receive the same careful attention as the quantitative aspects 23 A primary disadvantage of using an outside supplier is that the supplier may not be able to deliver the needed parts or components on a timely basis *24 When applying the theory of constraints, management attempts to improve throughput in factory bottlenecks *25 A manufacturing company will have a binding constraint unless the capacity in all its departments exceeds the demand of its products *26 According to the theory of constraints, everything else should be subordinate to the binding constraint *27 Throughput is the amount of inventory produced in a period Material from the appendix to the chapter is marked with an asterisk (*) Answers F F T F T 10 F T T F F 11 12 13 14 15 T F F T T 16 17 18 19 20 F F F F F 21 22 23 *24 *25 T T T T T *26 T *27 T 7-4 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition MULTIPLE CHOICE 28 Which of the following is quite often not incremental? A Direct labor B Direct material C Variable manufacturing overhead D Fixed manufacturing overhead 29 Which of the following is never considered in incremental analysis? A Incremental revenue B Sunk costs C Incremental profit D Differential costs 30 Which of the following is a cost that does not differ between decisions? A Controllable costs B Opportunity costs C Unavoidable costs D Incremental costs 31 Which one of the following is the preferred alternative when deciding between two alternatives? A No opportunity or sunk costs exist B Revenues are greater than under the other alternatives C Expenses are less than under the other alternatives D Incremental profit is greater than under the other alternatives 32 Which of the following is a cost that was incurred in the past that will never be incremental? A Sunk costs B Opportunity costs C Avoidable costs D Relevant costs 33 A company is trying to decide whether to sell partially completed goods in their current state or incur additional costs to finish the goods and sell them as complete units Which of the following is not relevant to the decision? A The selling price of the completed units B The costs incurred to process the units to this point C The selling price of the partially completed units D The costs that will be incurred to finish the units 34 A company is trying to decide whether to keep or drop the organic foods department in its grocery store If organic foods are dropped, the manager will be laid off What is the manager's salary in relation to the decision to keep or drop the department? A An opportunity cost and therefore relevant B Avoidable and therefore incremental C Sunk and therefore not relevant D The same for all alternatives and therefore not relevant 7-5 Chapter The Use of Cost Information in Management Decision Making 35 Which of the following is most likely relevant in a make-or-buy decision? A Unavoidable costs B Sunk costs C Incremental revenues D Opportunity costs 36 Wilson is currently producing a component for one of its products Wilson has received an offer to buy the component from an outside supplier A machine is currently being rented to manufacture the component If the company buys the component, the rental will be cancelled What is the rent on the machine, in relation to the decision to make or buy the component? A Sunk and therefore not relevant B Avoidable and therefore not relevant C Avoidable and therefore relevant D Unavoidable and therefore relevant 37 Costs that will be eliminated if a particular course of action is undertaken are called A sunk costs B opportunity costs C accounting costs D avoidable costs 38 The value of benefits foregone by selecting one decision alternative over another is a(n) A unavoidable cost B incremental benefit C differential revenue D opportunity cost 39 A product line should be dropped when A it has a positive contribution margin B it has unavoidable fixed costs C there will be a positive change in income if the product line is dropped D All of these answer choices are correct 40 Which of the following statements is(are) true concerning common costs? I They are costs that are directly traceable to an individual product line II They are normally avoidable A I only B II only C Both I and II D Neither I nor II 41 Which of the following is a direct cost of a specific department in a retail store? A Supplies used in cleaning the store B Rent of the store C Utilities used by the store, such as electricity D Cost of the department manager’s salary 7-6 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 42 When a department or product line is dropped, the common fixed costs that had been allocated to that department A are eliminated B become variable costs C are allocated to the remaining departments or product lines D become sunk costs 43 Harrison Enterprises currently produces 8,000 units of part B13 Current unit costs for part B13 are as follows: Direct materials Direct labor Factory rent Administrative costs General factory overhead (allocated) Total $12 10 $45 If Harrison decides to buy part B13, 50% of the administrative costs would be avoided All of the company’s items, including part B13, are manufactured in the same rented production facility The company has an offer from a wholesaler that wishes to sell the part to Harrison for $31 per unit What will occur if the company accepts the offer? A The cost for this part will increase by $5 per unit B The cost for this part will be the same C The cost for this part will decrease by $14 per unit D The cost for this part will decrease by $10 per unit 44 You have tickets to go to Jamaica over spring break Just this week your best friend informs you that he (she) is getting married over spring break Your friend would like you to stay back in the city and be the wedding attendant The tickets to Jamaica are nonrefundable Which of the following is a sunk cost relating to your decision of attending the wedding or going on the trip to Jamaica? A The cost of the airline tickets to Jamaica B The cost of wedding gift C The cost of the clothing you will have to buy/rent to be in the wedding D The cost of the rent on your apartment for the month 45 Which of the following statements regarding opportunity costs is true? A Opportunity costs are recorded as an expense since they are a cost of accepting another option B Opportunity costs are always incremental C Opportunity costs are unavoidable D The same decision will be reached whether or not opportunity costs are considered in an incremental analysis 7-7 46 Chapter The Use of Cost Information in Management Decision Making Samson Designers produces a lady’s handbag that normally sells for $120 The company produces 800 units annually but has the capacity to produce 1,100 units An order from a customer has been received for 200 handbags at $85 each that would not disrupt current operations Current costs for the handbag are as follows: Direct materials Direct labor Variable overhead Fixed overhead Total $23.00 45.00 7.00 12.00 $87.00 In addition, the customer would like to add a monogram to each bag which would require an additional $4 per bag in additional labor costs Samson would also have to purchase a piece of equipment to create the monogram which would cost $800 This equipment would not have any other uses Which statement is true with regard to this situation? A Incremental revenues will exceed incremental costs by $400 B Incremental revenues will exceed incremental costs by $1,200 C Incremental costs will exceed incremental revenues by $1,200 D Incremental costs will exceed incremental revenues by $2,000 47 Speedo produces signature goggles which it sells for $35 The company produces 15,000 pairs of these goggles annually but has the capacity to produce 20,000 An order for manufacturing and selling 1,000 pairs at $25 has been received from the U.S Olympic swim team that would not disrupt current operations Current costs for the signature goggles are as follows: Direct materials Direct labor Variable overhead Fixed overhead Total $ 6.00 10.00 3.00 8.00 $27.00 In addition, the Olympic coach would like to add the U.S Olympic logo to each pair which would require an additional $2 per pair of goggles in additional labor costs The company would also have to rent a logo stamper to stamp the logo which would cost $600 Which statement is true with regard to this order? A Incremental profit will be $4,000 B Incremental costs will be $27,000 C Incremental costs will be $21,600 D Incremental costs will exceed incremental revenues by $4,600 48 Denray Deli has two locations, downtown and in the town mall During March, the company reported total net income of $144,000 with sales of $1,200,000 The contribution margin in the downtown store was 30% The contribution margin in the town mall store is $80,000 Total fixed costs are allocated as $110,000 in the downtown store and $90,000 in the town mall location How much are sales at the downtown location? A $880,000 B $1,146,667 C $254,000 D None of these answer choices are correct 7-8 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 49 Mel’s Diner owns a single restaurant, which has a cantina primarily used to seat patrons while they wait on their tables The company is considering eliminating the cantina Segmented contribution income statements are as follows and fixed costs applicable to both segments are allocated on the basis of square footage Sales Variable costs Direct fixed costs Allocated fixed costs Net income Restaurant $800,000 475,000 50,000 212,500 $ 62,500 Cantina $200,000 160,000 15,000 37,500 ($ 12,500) Total $1,000,000 635,000 65,000 250,000 $ 50,000 What effect will occur if Mel’s Diner eliminates the cantina if there is no effect on restaurant sales? A Net income will increase by $12,500 B Net income will decrease to $37,500 C Net income will decline by $25,000 D Net income will be $62,500 50 The Book Rack has two locations, downtown and on campus During March, the company reported net income of $164,000 and sales of $1.2 million The contribution margin in the downtown store was $320,000 (32% of sales) The contribution margin in the campus store is $110,000 Direct fixed costs are $90,000 in the downtown store and $93,000 in the campus location How much are total variable costs? A $953,000 B $770,000 C $680,000 D $430,000 51 Abacus has 800 obsolete calculators that are carried in inventory at a cost of $1,920 If these calculators are upgraded at a cost of $3,100, they could be sold for $4,500 Alternatively, the calculators could be sold “as is” for $1,600 What is the net advantage or disadvantage of reworking the calculators? A $1,400 advantage B $2,900 advantage C $5,440 disadvantage D $200 disadvantage 52 Swell Computers has 12 obsolete computers that are carried in its inventory at a cost of $13,200 If these computers are upgraded at a cost of $7,500, they could be sold for $15,300 Alternatively, the computers could be sold “as is” for $9,000 What is the net advantage or disadvantage of upgrading the computers? A $6,300 advantage B $1,200 disadvantage C $5,400 disadvantage D $3,000 advantage 7-9 53 Chapter The Use of Cost Information in Management Decision Making The following are production and cost data for two products, buckets and pails, produced in batches of 600 each Contribution margin per batch Machine set-ups needed per batch Buckets $360 14 Pails $250 The company can only perform 9,450 set-ups each period, yet there is unlimited demand for each product What is the maximum contribution margin for the year? A $366,000 B $243,000 C $1,050 D $262,500 54 The following are production and cost data for two products, A and B, produced in batches of 100 units Contribution margin per batch Machine set-ups needed per batch Product A $450 25 Product B $340 20 The company can only perform 12,000 set-ups each period yet there is unlimited demand for each product What is the incremental profit from producing Product A instead of Product B for the year? A $216,000 B $204,000 C $12,000 D $54,000 55 Marshal Costumes owns two stores and management is considering eliminating the Mandarin store due to declining sales Common fixed costs are allocated on the basis of sales Contribution income statements are as follows: Arlington Mandarin Total Sales $300,000 $200,000 $500,000 Variable costs 160,000 130,000 290,000 Direct fixed costs 40,000 20,000 60,000 Allocated fixed costs 80,000 65,000 145,000 Net Income $ 20,000 $ (15,000) $ 5,000 Marshal’s management feels that if they eliminate the Mandarin store, that sales in the Arlington store will increase by 10% If the Mandarin store is closed, what is the incremental effect on profit for Marshal Costumes? A Increase by $17,000 B Decrease by $36,000 C Increase by $22,000 D Decrease by $20,000 7-10 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 56 Publix has 2,700 pounds of bananas with a total cost of $864 Because the bananas have become too ripe, Publix is contemplating whether it should use the bananas to bake banana bread or sell the bananas ‘as is’ to the homeless center for $1,485 In addition to the cost of the bananas, it would cost $2,565 to convert the bananas into bread, which could then be sold for a total of $4,480 However, a special oven to bake the bread will have to be rented for an additional $300 What is the incremental effect on income if Publix converts the bananas to banana bread? A Increase of $130 B Increase of $430 C Decrease of $734 D Increase of $1,615 57 Fanatic Footwear has two store locations, midtown and at the beach During October, the company reported net income of $80,000 on sales of $450,000 Sales in the midtown store were $170,000 and variable costs in the beach store were 40% of sales The contribution margin in the midtown store was $85,000 If total direct fixed costs are $40,000, how much are total fixed costs for Fanatic Footwear? A $93,000 B $150,000 C $370,000 D None of these answer choices are correct 58 Watson Wheels currently makes 6,000 wheels annually that are used in other products it manufactures Current unit costs for the wheels are as follows: Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead Total $22.00 16.00 12.00 15.00 $65.00 The company has an offer from a manufacturer to produce the wheels for $60 per wheel If the company decides to buy the wheels, the empty warehouse space could be rented for $22,000 annually In addition, half of the fixed manufacturing overhead costs would be avoided if the company decides to buy the wheels If the company decides to accept the offer, what is the incremental effect on the company’s net income? A A savings of $7,000 B A savings of $37,000 C A decrease in net income of $15,000 D An increase in net income of $52,000 59 Trebecker Construction plans to discontinue its roofing segment which last year generated a contribution margin of $65,000 and incurred $70,000 in fixed costs If the segment is discontinued, half of the fixed costs will be avoided What effect is expected to occur to the company’s overall profit? A A decrease of $5,000 B A decrease of $30,000 C A decrease of $5,000 D An increase of $30,000 7-33 134 Chapter The Use of Cost Information in Management Decision Making An employee of SaniTan has found some partially completed units of Model 45 in a dusty corner of the warehouse A job ticket attached to the units indicates that a total of $600 in manufacturing costs have been used to bring the materials to this point in the manufacturing process The units can be sold in their current condition for $200 to a scrap metal dealer If SaniTan spends $180 to complete the units, they can be sold for $500 a b Answer a b 135 What should SaniTan? Justify your answer Identify a sunk cost in this problem SaniTan should finish the units The incremental revenue of $300 ($500 – $200) is greater than the incremental cost of $180 Profit increases by $120 The $600 in costs incurred is sunk and not relevant Each year, Randall Data Source surveys 5,000 former and prospective customers regarding satisfaction and brand awareness For the current year, the company is considering outsourcing the survey to Sanderson Data, a company that has offered to conduct the survey and summarize results for $50,000 Randall Wince, the president of Randall Data Source, believes that Sanderson will a higher-quality job than his company has been doing, but is unwilling to spend more than $12,000 above current costs The head of bookkeeping for Randall has prepared the following summary of costs related to the survey in the prior year Mailing Printing (done by Sanderson Data) Salary of part-time employee who stuffs envelopes and summarizes survey data (130 hours × $16) Share of depreciation of computer and software used to track survey responses and summarize results Share of electricity/phone/etc based on square feet of space occupied by the part-time employee Total $27,000 9,000 2,080 1,200 600 $39,880 Prepare an incremental analysis in good form to determine the impact on net income of hiring an outside company versus conducting the survey in house Will Randall Data Source accept the Sanderson offer? Why or why not? Answer Cost of Sanderson Data Less cost savings: Mailing Printing Salary of part-time employee Incremental cost of hiring Sanderson Data ($50,000) $27,000 9,000 2,080 38,080 ($11,920) The incremental cost is less than $12,000, so Randall Data Source should accept the Sanderson Data offer 7-34 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 136 Starwood Aviation produces an executive jet for which it currently manufactures an airflow lever The cost of each lever is indicated below: Variable costs Direct material Direct labor Variable overhead Total variable costs Fixed costs Depreciation of equipment Depreciation of building Supervisory salaries Total fixed costs Total cost $300 200 150 $650 120 80 140 340 $990 The company has an offer from Lans Levers to produce the part for $700 per unit and is able to supply the 600 levers needed in the coming year If the company accepts this offer and shuts down production of levers, supervisors will be reassigned to other areas needing their services The equipment cannot be used elsewhere in the company, and it has no market value However, the space occupied by the production of the lever can be used by another production group that is currently leasing space for $21,000 per year Prepare a single column incremental analysis in good form to determine if the company should make or buy the lever Answer Incremental cost to buy (600 × $700) Incremental cost savings: Direct material (600 × $300) Variable overhead (600 × $150) Direct labor (600 × $200) Leasing cost reduction Incremental additional cost to buy 137 ($420,000) $180,000 90,000 120,000 21,000 411,000 ($ 9,000) Deason Distributors has decided to discontinue manufacturing its Venus model blender Currently, the company has 4,600 partially completed blenders on hand The government has taken the blades off the market that the company uses in the blender, so each base must be reworked to accommodate a new style of blades The company has spent $110 per unit to manufacture these blenders to their current state Reworking each blender will cost $20 for material and $20 for direct labor In addition, $7 of variable overhead and $32 of allocated fixed overhead (relating primarily to depreciation of plant and equipment) will be allocated per unit If Deason completes the blenders, it can sell them for $160 per unit On the other hand, another manufacturer is interested in purchasing the partially completed blenders for $104 each and converting them into choppers In good form, prepare an incremental analysis per unit to determine if Deason should complete the blenders or sell them in their current state Answer Incremental revenue per unit ($160 – $104) Incremental costs: Materials Direct labor Variable overhead Incremental benefit per blender $56 ($20) (20) (7) (47) $ 7-35 138 Chapter The Use of Cost Information in Management Decision Making Football Fanatics sells logo sports merchandise and does custom embroidery The company is contemplating whether or not to continue the embroidery service All of the company’s direct fixed costs can be avoided if a segment is dropped The following information is available for the segments Sales Variable costs Contribution margin Direct fixed costs Allocated common fixed costs Net income a b c Answer a 139 Embroidery $60,000 30,000 30,000 22,000 12,000 ($ 4,000) Apparel $250,000 110,000 140,000 40,000 50,000 $ 50,000 What will be the impact on net income if the embroidery segment is dropped? Assume that if the embroidery segment is dropped, apparel sales will increase 10% What is the impact on contribution margin and net income solely for the apparel ? Identify one cost that is not relevant in this analysis If the embroidery segment is dropped, the contribution margin of $30,000 will be lost and only the direct fixed costs of $22,000 will be saved, so there will be a decrease of $8,000 in net income b For the apparel segment: Contribution margin = 140,000 × 10% = $14,000 increase Net income = $140,000 × 10% = $14,000 increase c The common fixed costs are not relevant since they will exist in either option Sausalita’s Cantina has been approached by Luck & Dewey that wants to hold an employee recognition dinner next month The restaurant manager agreed to a charge of $50 per person for food, wine, and dessert for 90 people The manager estimates that the cost of the food will be $17 per person and beverages will be $15 per person To be able to accommodate the group, the restaurant must be closed for dinner that night Typically, 100 people with an average bill of $44 per person would be served each evening, with the cost of food estimated at $14 per person and beverages at $11 per person No additional staff will need to be hired to accommodate the group from Luck & Dewey a b In good form, prepare an incremental analysis to determine the effect on net income associated with accepting the Luck & Dewey group What is the opportunity cost of accepting the Luck & Dewey group? Answer a Incremental revenue ($50 × 90) Cost of food and beverage ($32 × 90) Lost revenue ($44 × 100) Cost savings for food and beverage ($25 × 100) Incremental decrease in profit b $4,400 – $2,500 = $1,900 $4,500 (2,880) (4,400) 2,500 ($ 280) 7-36 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 140 Acer Computing manufactures tablets The manufacturing process uses a processor that Acer currently manufacturers The resource officer of Acer has been asked to determine if it is advisable to purchase the processors rather than make them internally (the current practice) Identify which of the following items are relevant to the resource officer’s decision by circling the number preceding each relevant item The original cost of equipment currently used to manufacture the processors The market value of equipment currently used to manufacture the tablets The cost of buying processors from suppliers Rent revenue for the space freed up if the processors are not manufactured internally The salary of the president of Acer Computing The quality of the processors made internally The quality of the processors purchased from suppliers Depreciation on equipment used to manufacture the processors The labor contract with production workers 10 The selling prices of tablets Answer 2, 3, 4, 6, 7, and 141 Rocking Express manufactures rocking chairs Recently, the company began manufacturing and marketing a chair with an automatic rocker Demand for this rocker is very strong and the CEO of Rocking Express is considering dropping production of the company’s original rocker This will give the company increased capacity to devote to the new model Identify which of the following items are relevant to the CEO’s decision by circling the number preceding each relevant item The original cost of equipment used to manufacture the old rocker Depreciation of the equipment used to manufacture the old rocker (ignore taxes) The rent on the warehouse used to store the completed inventory and materials The time it takes to manufacture each rocker The factory janitor’s salary The selling price of the new rocker The variable cost of producing the new rocker The cost of retraining personnel to make the newer rocker Depreciation of the factory building allocated to the old rocker Answer 4, 6, 7, and 7-37 142 Chapter The Use of Cost Information in Management Decision Making Sandford Electronics sells desktops and notebook computers Currently, the desktop product line takes up approximately 50 percent of the company’s retail floor space The president of the company is trying to decide whether the company should continue offering desktops or just concentrate on notebooks If the desktop product line is dropped, salaries and other direct fixed costs can be avoided In addition, sales of notebooks will increase by 10 percent Allocated fixed costs are assigned based on labor hours Sales Less cost of goods sold Contribution margin Less direct fixed costs: Salaries Other Less allocated fixed costs: Rent Insurance Cleaning President’s salary Other Total costs Net income Notebooks Desktops $1,200,000 $800,000 700,000 500,000 500,000 300,000 175,000 60,000 14,118 3,529 4,117 76,470 7,058 340,292 $ 159,708 Total $2,000,000 1,200,000 800,000 175,000 60,000 350,000 120,000 9,882 2,471 2,883 53,530 4,942 308,708 ($ 8,708) 24,000 6,000 7,000 130,000 12,000 649,000 $ 151,000 Prepare an incremental analysis in good form to determine the incremental effect on net income of discontinuing the desktop computer line Answer Incremental drop in desktop revenue Incremental cost savings on desktops: Cost of goods sold Salaries Other Incremental increase in revenue of notebooks (10% × $1,200,000) Incremental increase in variable costs of notebooks (10% × $700,000) Incremental decrease in profit ($800,000) 500,000 175,000 60,000 120,000 (70,000) ($ 15,000) 7-38 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 143 Dairy Fresh makes a variety of dairy products During June, 45,000 gallons of raw milk were processed at a joint cost of $36,000 This produced 36,000 gallons of skim milk and 4,000 gallons of cream The cream could be processed further into butter and the skim milk could be processed further into farmer's cheese Information on these items follows: Skim Milk Cream a b c Answer a Sales Value At Split-off Point $94,500 40,500 Estimated Further Processing Cost $10,000 40,000 Sales Value After Processing $115,000 70,000 Assume that the joint cost is allocated to the products based on the physical quantity of output of each product How much joint cost should be assigned to each product? How much joint cost should be assigned to each product if the relative sales value allocation method is used? Which products should be processed further? Skim milk = (36,000 ữ 40,000) ì $36,000 = $32,400 Cream = (4,000 ÷ 40,000) × $36,000 = $3,600 b Skim milk = $94,500 ữ ($94,500 + $40,500) ì $36,000 = $25,200 Cream = $40,500 ữ ($94,500 + $40,500) ì $36,000 = $10,800 c Skim milk should be processed further since the additional revenue ($115,000 – $94,500) of $20,500 is greater than the additional cost of $10,000 Cream should not be processed further since the additional revenue ($70,000 – $40,500) of $29,500 is less than the additional cost of $40,000 144 Sanders Products produces two joint products, A and B Prior to the split-off point, the company incurred costs of $12,000 Product A weighs 10 pounds and product B weighs 30 pounds Product A sells for $50 per pound and product B sells for $25 per pound Based on a physical measure of output, allocate joint costs to products A and B Answer Product A Product B Total 10 pounds 30 pounds 40 pounds Product A allocation: 10/40 × $12,000 = $3,000 Product B allocation: 30/40 × $12,000 = $9,000 7-39 145 Chapter The Use of Cost Information in Management Decision Making Mexo Products produces two joint products, A and B Prior to the split-off point, the company incurred costs of $12,000 Product A weighs 100 pounds and product B weighs 300 pounds Product A sells for $50 per pound and product B sells for $25 per pound Mexo uses a physical measure of output to allocate joint costs to products A and B Comment on the profitability and recommend if the products should be sold at the indicated prices or not Answer Sales - Product A: $50  100 Product A allocation: $12,000 ì (100 ữ 400) Product A profit $5,000 3,000 $2,000 Sales - Product B: $25  300 Product B allocation: $12,000 ì (300 ữ 400) Product B loss $7,500 9,000 ($1,500) Product A generates a profit margin of about 40%, while product B generates a loss of 20% While the selling price of Product A is adequate to cover the cost of Product A, the selling price of Product B does not cover the cost of Product B Product A should be sold at the $50 per pound selling price Product B should not be sold at the $25 per pound selling price 146 Mexo Products produces two joint products, A and B Prior to the split-off point, the company incurred costs of $12,000 Product A weighs 100 pounds and product B weighs 300 pounds Product A sells for $50 per pound and product B sells for $25 per pound a b Answer a Based on relative sales values at the split-off point, allocate joint costs to the two products Under what condition will the cost allocated using relative sales values be greater than the selling price of a joint product? Product A (100 pounds  $50) Product B (300 pounds  $25) Total $ 5,000 7,500 $12,500 Product A allocation: ($5,000 ữ $12,500) ì $12,000 = $4,800 Product B allocation: ($7,500 ữ $12,500) ì $12,000 = $7,200 b The only time the allocated cost of a joint product will be greater than the sales value will be if the total revenue of all joint products is less than the joint costs, in which case, the company should drop all of the joint products 7-40 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 147 For each of the following situations, indicate a qualitative factor that should be considered prior to making the decision: a b c Answer a *148 A company that produces and sells bottled water is considering outsourcing its bottling operation The company will still sell the water and deliver it to wholesalers A wine producer is considering dropping its premium brand wine and concentrating exclusively on less costly wines A software company currently has a large facility for producing videos used in games and advertisements The company is considering shutting down the facility and using resources provided by other companies Will there be a quality assurance program at the company that will the bottling? Will the bottled water be delivered timely? Will the supplier increase its selling prices in the future? b Will customers abandon all of the company’s products in favor of competitors? c Will quality decline? Will talented workers depart to competitors? Will the media view the shut down detrimental to the community? Sport Luck makes baseballs and soccer balls in a three-step process The sewing machine has been identified as the bottleneck in the process Each soccer ball has a contribution margin of $6.00 and each baseball has a contribution margin of $2.00 The sewing machine can make 10 soccer balls or 25 baseballs in one hour a If demand for both products is unlimited and the sewing machine capacity cannot be expanded, which product should be produced? b If demand for each ball is limited to 6,000 balls and there are 3,000 hours available on the machine, how many of each product should be produced? Answer a b Soccer balls: Contribution margin/hour ($6.00 × 10) = $60.00 Baseballs: Contribution margin/hour ($2.00 × 25) = $50.00 Make soccer balls only Produce 6,000 baseballs using 240 hours: 6,000 × 0.04 hours = 240 hours Produce 27,600 soccer balls using the remaining 2,760 hours: 2,760 ÷ 0.10 = 27,600 soccer balls 7-41 149 Chapter The Use of Cost Information in Management Decision Making At Express Production, the engraving department is a bottleneck The company is considering hiring an extra worker whose salary will be $51,000 per year, to mitigate the problem With the extra worker, the company will be able to produce and sell 6,000 more units per year The selling price per unit is $15 The cost per unit currently is $7.85 as follows: Direct material Direct labor Variable overhead Fixed overhead (primarily depreciation of equipment) Total $3.50 1.10 0.45 2.80 $7.85 Calculate the annual financial impact of hiring the extra worker Answer Selling price per unit Less variable costs per unit: Direct material $3.50 Direct labor 1.10 Variable overhead 0.45 Contribution margin per unit Incremental units Incremental profit before cost of additional worker Cost of additional worker Profit increase of hiring an additional worker $ 15.00 5.05 9.95 6,000 59,700 51,000 $ 8,700 7-42 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition CHALLENGE EXERCISES 150 Seats Galore sells models of deck chairs: Blue Magoo, Red Ahead, and Green Seen Operating results for June are below: Units sold Revenue Variable departmental costs Direct fixed costs Allocated fixed costs Net income a b c d Blue Magoo 4,000 $36,000 14,000 6,000 8,000 $ 8,000 Red Ahead 4,500 $22,500 13,500 4,000 9,000 ($ 4,000) Green Seen 3,500 $35,000 17,500 5,000 7,000 $ 5,500 Total 12,000 $93,500 45,000 15,000 24,000 $ 9,500 If Red Ahead is discontinued, management estimates that sales of Blue Magoo will increase by 20% In good form, prepare an incremental analysis to determine if Red Ahead should be discontinued What qualitative factors should Seats Galore’s managers consider? Should Red Ahead be discontinued based solely on quantitative aspects? Briefly justify your response Without creating new income statements, and using your results from your analysis in part A, determine the amount of the company’s new net income if Red Ahead is discontinued Show your calculations Answer a In Effects on Red Ahead: Lost sales Variable departmental cost savings Direct fixed cost savings Effects on Blue Magoo: Increase in revenue (20% × $36,000) Increase in variable departmental costs (20% × 14,000) Incremental decline in profit if Red Ahead is dropped ($22,500) 13,500 4,000 7,200 (2,800) ($ 600) b Will some customers who favor the Red Ahead chairs be lost to competitors? Will terminated employees obtain other jobs or contribute to unemployment in the local community? How will the suppliers who used to supply materials for Red Ahead chairs be affected? c Based solely on financial aspects, Red Ahead should not be discontinued because profit will drop by $600 d $9,500 – $600 = $8,900 7-43 151 Chapter The Use of Cost Information in Management Decision Making Lance, Inc produces a line of products, which includes umbrellas During 2014, there are 4,400 umbrellas budgeted for production Total material costs for the umbrellas are budgeted at $7,700 and direct labor is $5,500 Overhead costs are $2.15 per unit of which $0.95 is variable Fortyfive percent of the fixed overhead is allocated and unavoidable Supplier, Inc has contacted Lance, Inc with an offer to sell the umbrellas to Lance, Inc for $4.50 each a b Prepare an incremental analysis to assess the decision Explain the nature of the ‘allocated’ fixed overhead Why is this amount considered to be ‘unavoidable’? Answer a Incremental cost to buy ($4.50 × 4,400) Incremental cost savings: Direct materials Direct labor Variable overhead ($0.95 × 4,400) Fixed overhead [($2.15 – $0.95) × 55% × 4,400] Incremental increase in net income if umbrellas are bought ($19,800) 7,700 5,500 4,180 2,904 $ 484 b Allocated fixed overhead consists of fixed costs that cannot be traced to a particular product or service provided The costs are grouped together in a cost pool and then allocated to all products using a basis on which the company thinks will distribute the costs to the products that use the resources If a product is eliminated, the total allocated costs not change, and any cost that was allocated to the eliminated product must be reallocated to the remaining products In total, there is no cost reduction of allocated fixed overhead 7-44 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 152 For each situation listed as items through 3, identify the type of decision situation that is presented, and recommend the appropriate action assuming only the financial impact is considered Justify your choice Scenario Blockbuster has product lines Compact Discs (CDs) have a loss of $4,000 for last year, while the other lines are profitable If the CD product line is dropped, allocated costs are unavoidable The allocated costs exceed the operating loss of the CD product line Type of Decision Appropriate Action The incremental cost to make widgets for June is $3,380 The incremental cost to buy from a supplier is $3,200 Answer Comments Dropping products/product lines causes profits to decline due to fixed costs that must be allocated Cost to buy ($3,200) + cost savings $3,380 = $180 incremental profit if widgets are bought Type of Decision Drop a product or product line (i.e., Keep or drop) Appropriate Action Make or buy Buy from supplier Do not drop; Keep the CD product line 7-45 153 Chapter The Use of Cost Information in Management Decision Making PaperPro produces staplers, which it regularly sells for $11.25 each The following unit cost data are based on a normal production of 7,800 staplers produced each year: Direct materials Direct labor Factory overhead (70% variable) $2.60 1.32 4.40 PaperPro has received an order from a new customer who wants to buy 1,200 staplers The customer is willing to pay $10.00 per stapler, but also wants its logo imprinted on each stapler The logo imprint will cost $0.40 per stapler a b c Answer a How much is the minimum price that PaperPro should charge for the entire order if its factory has the capacity to produce 10,500 staplers annually? How much is the minimum price that PaperPro should charge for the entire order if its factory has the capacity to produce 8,500 staplers annually? Why does the answer to part b differ from part c? Unit variable cost = $2.60 + $1.32 + ($4.40 × 70%) = $7.00 Incremental costs = Minimum sales revenue = [($7.00 + $0.40) × 1,200] = $8,880 b Unit variable cost = $2.60 + $1.32 + ($4.40 × 70%) = $7.00 Opportunity cost = (8,500 – 7,800) × ($11.25 – $7.00) = $2,975 Incremental costs + Opportunity cost = Minimum sales revenue [($7.00 + $0.40) × 1,200] + $2,975 = $11,855 c In order to provide the 1,200 staplers to the new customer, Paper Pro will have to turn down sales of 700 staplers to its current customers, which cause Paper Pro to give up the contribution margin the company could earn if it does not accept the order PaperPro will want to recover not only its incremental costs, but also its opportunity cost related to the 700 staplers SHORT-ANSWER ESSAYS 154 What are the components of incremental analysis that are used to calculate incremental profit or incremental loss? Answer Incremental analysis uses incremental revenues and incremental costs to calculate the incremental profit or the incremental loss 155 What are avoidable costs? Which costs are usually avoidable in a make-or-buy decision? Answer Avoidable costs are those costs that can be avoided, or eliminated, if a particular action is undertaken If a company chooses to buy an item, rather than make it, direct materials, direct labor, variable overhead, and perhaps a portion of fixed manufacturing overhead are usually avoidable costs 7-46 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 156 What is the cause of the cost allocation death spiral? Answer The cost allocation death spiral is caused by not realizing that when a department that appears to be unprofitable is dropped, the common fixed costs that had been allocated to that department will need to be allocated to other departments This may make these departments appear to be unprofitable If these departments are dropped, the same costs will continue to be allocated to fewer and fewer departments 157 What is the role of opportunity costs in a make-or-buy decision? Answer Opportunity costs are always incremental costs and should be considered in a make-or-buy decision If some components are purchased instead of made, the space and other resources that are used for the production of these components can be used to generate additional profit 158 What are joint costs and how are these costs allocated? Answer Joint costs are the costs of the common inputs (materials and processing) when two or more products result from the common input The costs can be allocated to the resulting products using the physical quantities method or the relative sales value method 159 List three disadvantages of using an outside supplier Answer *160 There is a loss of control over the production process, so quality control specifications and delivery schedules may not be met The outside supplier may raise prices significantly in the future Employee morale may suffer if employees are transferred or terminated when an outside supplier is used List the steps in the theory of constraints process Answer Identify the binding constraint Optimize use of the binding constraint Subordinate everything else to the binding constraint Break the constraint Identify the new binding constraint 7-47 *161 Chapter The Use of Cost Information in Management Decision Making Explain what is meant by “subordinate everything else to the binding constraint.” Give an example of what this means Answer This means that process improvements should be focused on increasing the throughput at the binding constraint, and not on increasing it in other areas For example, goods should be inspected before reaching the binding constraint so that time is not wasted on defective units Material from the appendix to the chapter is marked with an asterisk (*) ... Footwear’s net income? A Increase by $9,000 B Decrease by $56,000 C Decrease by $11,000 D Increase by $56,000 7-24 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 109 Diva Footwear... profits will decrease by $48,000 C Overall profits will decrease by $16,000 D Overall profits will decrease by $120,000 7-22 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 104... the store C Utilities used by the store, such as electricity D Cost of the department manager’s salary 7-6 Test Bank to accompany Jiambalvo Managerial Accounting, 5th Edition 42 When a department