Requirement 3 When figuring the incremental cost of the more expensive car, the relevant costs would be the purchase price of the new car net of the resale value of the old car and the i
Trang 1CHAPTER 19 RELEVANT COSTS FOR DECISION MAKING
I Questions
1 Quantitative factors are those which may more easily be reduced in terms
of pesos such as projected costs of materials, labor and overhead Qualitative factors are those whose measurement in pesos is difficult and imprecise; yet a qualitative factor may be easily given more weight than the measurable cost savings It can be seen that the accountant’s role in making decisions deals with the quantitative factors
2 Relevant costs are expected future costs that will differ between alternatives In view of the definition of relevant costs, historical costs are always irrelevant because they are not future costs They may be helpful in predicting relevant costs but they are always irrelevant costs per se
3 The differential costs in any given situation is commonly defined as the change in total cost under each alternative It is not relevant cost, but it
is the algebraic difference between the relevant costs for the alternatives under consideration
4 Analysis:
Less: Proceeds from
disposal, net 1,000
The original cost of the old truck is irrelevant but its disposal value is relevant It is recommended that the truck should be rebuilt because it will involve lesser cash outlay
II Exercises
Trang 2Exercise 1 (Identifying Relevant Costs)
Not Relevant Relevant
Not Relevant
a Sales revenue X X
b Direct materials X X
c Direct labor X X
d Variable manufacturing
overhead X X
e Book value – Model E7000
machine X X
f Disposal value – Model E7000
machine X X
g Depreciation – Model E7000
machine X X
h Market value – Model F5000
machine (cost) X X
i Fixed manufacturing
overhead X X
j Variable selling expense X X
k Fixed selling expense X X
l General administrative
overhead X X
Exercise 2 (Identification of Relevant Costs)
Requirement 1
Fixed cost per mile (P3,500* ÷ 10,000 miles) P0.35 Variable operating cost per mile 0.08 Average cost per mile P0.43
* Depreciation P2,000 Insurance 960 Garage rent 480 Automobile tax and license 60 Total P3,500
Requirement 2
The variable operating costs would be relevant in this situation The
Trang 3depreciation would not be relevant since it relates to a sunk cost However, any decrease in the resale value of the car due to its use would be relevant The automobile tax and license costs would be incurred whether Ingrid decides to drive her own car or rent a car for the trip during summer break and are therefore irrelevant It is unlikely that her insurance costs would increase as a result of the trip, so they are irrelevant as well The garage rent
is relevant only if she could avoid paying part of it if she drives her own car
Requirement 3
When figuring the incremental cost of the more expensive car, the relevant costs would be the purchase price of the new car (net of the resale value of the old car) and the increases in the fixed costs of insurance and automobile tax and license The original purchase price of the old car is a sunk cost and
is therefore irrelevant The variable operating costs would be the same and therefore are irrelevant (Students are inclined to think that variable costs are always relevant and fixed costs are always irrelevant in decisions This requirement helps to dispel that notion.)
Exercise 3 (Make or Buy a Component)
Requirement 1
Per Unit Differential Costs 15,000 units
Cost of purchasing P200 P3,000,000 Direct materials P 60 P 900,000 Direct labor 80 1,200,000 Variable manufacturing overhead 10 150,000 Fixed manufacturing overhead, traceable1 20 300,000 Fixed manufacturing overhead, common 0 0 0 0 Total costs P170 P200 P2,550,000 P3,000,000 Difference in favor of continuing to make
the parts P30 P450,000
1 Only the supervisory salaries can be avoided if the parts are purchased The remaining book value of the special equipment is a sunk cost; hence, the P3 per unit depreciation expense is not relevant to this decision Based on these data, the company should reject the offer and should continue to produce the parts internally
Requirement 2
Trang 4Make Buy
Cost of purchasing (part 1) P3,000,000 Cost of making (part 1) P2,550,000 Opportunity cost—segment margin forgone on a
potential new product line 650,000 Total cost P3,200,000 P3,000,000 Difference in favor of purchasing from the outside
supplier P200,000 Thus, the company should accept the offer and purchase the parts from the outside
supplier
Exercise 4 (Evaluating Special Order)
Only the incremental costs and benefits are relevant In particular, only the
variable manufacturing overhead and the cost of the special tool are relevant
overhead costs in this situation The other manufacturing overhead costs are
fixed and are not affected by the decision
Per Total Unit 10 bracelets
Incremental revenue P3,499.50 P34,995.00 Incremental costs:
Variable costs:
Direct materials 1,430.00 14,300.00 Direct labor 860.00 8,600.00 Variable manufacturing overhead 70.00 700.00 Special filigree 60.00 600.00 Total variable cost P2,420.00 24,200.00 Fixed costs:
Purchase of special tool 4,650.00 Total incremental cost 28.850.00 Incremental net operating income P 6.145.00 Even though the price for the special order is below the company’s regular
price for such an item, the special order would add to the company’s net
operating income and should be accepted This conclusion would not
necessarily follow if the special order affected the regular selling price of
bracelets or if it required the use of a constrained resource
Exercise 5 (Utilization of a Constrained Resource)
Trang 5Requirement 1
(1) Contribution margin per unit P18 P36 P20 (2) Direct labor cost per unit P12 P32 P16 (3) Direct labor rate per hour 8 8 8 (4) Direct labor-hours required per unit (2) ÷ (3) 1.5 4.0 2.0 Contribution margin per direct labor-hour (1) ÷ (4) P12 P 9 P10
Requirement 2
The company should concentrate its labor time on producing product X:
Contribution margin per direct labor-hour P12 P9 P10 Direct labor-hours available × 3,000 × 3,000 × 3,000 Total contribution margin P36,000 P27,000 P30,000 Although product X has the lowest contribution margin per unit and the
second lowest contribution margin ratio, it has the highest contribution
margin per direct labor-hour Since labor time seems to be the company’s
constraint, this measure should guide management in its production
decisions
Requirement 3
The amount Jaycee Company should be willing to pay in overtime wages for
additional direct labor time depends on how the time would be used If there
are unfilled orders for all of the products, Jaycee would presumably use the
additional time to make more of product X Each hour of direct labor time
generates P12 of contribution margin over and above the usual direct labor
cost Therefore, Jaycee should be willing to pay up to P20 per hour (the P8
usual wage plus the contribution margin per hour of P12) for additional labor
time, but would of course prefer to pay far less The upper limit of P20 per
direct labor hour signals to managers how valuable additional labor hours are
to the company
If all the demand for product X has been satisfied, Jaycee Company would
then use any additional direct labor-hours to manufacture product Z In that
case, the company should be willing to pay up to P18 per hour (the P8 usual
wage plus the P10 contribution margin per hour for product Z) to
Trang 6manufacture more product Z.
Likewise, if all the demand for both products X and Z has been satisfied, additional labor hours would be used to make product Y In that case, the company should be willing to pay up to P17 per hour to manufacture more product Y
Exercise 6 (Sell or Process Further)
Product A Product B Product C
Sales value after further processing P80,000 P150,000 P75,000 Sales value at split-off point 50,000 90,000 60,000 Incremental revenue 30,000 60,000 15,000 Cost of further processing 35,000 40,000 12,000 Incremental profit (loss) P(5,000) 20,000 3,000 Products B and C should be processed further, but not Product A
III Problems
Problem 1 (Accept or Reject an Order)
Product A Product B
Less Variable costs/unit:
0.80 1.08
Multiplied by number of units to be sold 21,000 units 30,000 units
Product B should be accepted because its total contribution margin is higher than that of Product A
Problem 2 (Eliminate or Retain a Product Line)
Requirement 1
No, production and sale of the round trampolines should not be discontinued Computations to support this answer follow:
Trang 7Contribution margin lost if the round trampolines
are discontinued P(80,000) Less fixed costs that can be avoided:
Advertising – traceable P41,000
Line supervisors’ salaries 6,000 47,000 Decrease in net operating income for the
company as a whole P(33,000) The depreciation of the special equipment represents a sunk cost, and therefore it is not relevant to the decision The general factory overhead is allocated and will presumably continue regardless of whether or not the round trampolines are discontinued; thus, it is not relevant
Requirement 2
If management wants a clear picture of the profitability of the segments, the general factory overhead should not be allocated It is a common cost and therefore should be deducted from the total product-line segment margin A more useful income statement format would be as follows:
Trampoline Total Round Rectangular Octagonal
Sales P1,000,000 P140,000 P500,000 P360,000 Less variable expenses 410,000 60,000 200,000 150,000 Contribution margin 590,000 80,000 300,000 210,000 Less fixed expenses:
Advertising – traceable 216,000 41,000 110,000 65,000 Depreciation of special
equipment 95,000 20,000 40,000 35,000 Line supervisors’
salaries 19,000 6,000 7,000 6,000 Total traceable fixed
expenses 330,000 67,000 157,000 106,000 Product-line segment
margin 260,000 P 13,000 P143,000 P104,000 Less common fixed
expenses 200,000
Net operating income
(loss) P 60,000
Problem 3 (Product Mix)
Requirement 1
Trang 8Product Line
Divided by no of hours required
for each unit 5 hrs 10 hrs 4 hrs 1 hr
Product ranking:
Based on the above analysis, first priority should be given to Product D The company should use 4,000 out of the available 96,000 hrs to produce 4,000 units of product D The remaining 92,000 hrs should be used to produce 9,200 units of Product B Hence, the best product combination is 4,000 units
of Product D and 9,200 units of Product B
Requirement 2
If there were no market limitations on any of the products, the company should use all the available 96,000 hours in producing 96,000 units of product D only
The difference in profit between the two alternatives is computed as follows: Contribution margin of combination (1)
Product D (4,000 x P 4.00) P 16,000
Product B (9,200 x P15.00) 138,000
Total contribution margin of D and B P154,000
Less contribution margin of D only
Difference, excess over profit in combination (1) P230,000
Problem 4 (Accept or Reject a Special Order)
Trang 9Requirement 1
The company should accept the special order of 4,000 @ P10 each because this selling price is still higher than the additional variable cost to be incurred Whether or not variable marketing expenses will be incurred, the decision is still to accept the order
Supporting computations:
(a) Assume no additional variable marketing cost will be incurred
Less variable manufacturing costs:
Multiplied by number of units of order 4,000 units
(b) Assume additional variable marketing cost will be incurred
Less variable costs (P8.75 + P0.25) 9.00
Multiplied by number of units of order 4,000 units Total increase in contribution margin P4,000
Requirement 2
P8.75, the total variable manufacturing cost
Requirement 3
Variable factory overhead 0.75
Total cost of inventory under direct costing P8.75
Requirement 4
Present contribution margin
[10,000 units x (P15 - P9)] P60,000
Less proposed contribution margin
Trang 10[(P14 - P9) x 11,000 units] 55,000
Decrease in contribution margin P 5,000
The company should not reduce the selling price from P15 to P14 even if volume will go up because total contribution margin will decrease
Problem 5 (CVP Analysis used for Decision Making)
Requirement (a)
Units sold per month No of months Probability
Requirement (b)
Production 4,000 units 5,000 units 6,000 units
Sales (4,000 x P40) P160,000 P160,000 P160,000 Less variable costs
Production cost @ P25 100,000 125,000 150,000 Purchase cost @ P45 -
- -
Contribution margin P 60,000 P 35,000 P 10,000
Sales (5,000 x P40) P200,000 P200,000 P200,000 Less variable costs
Production cost @ P25 100,000 125,000 150,000 Purchase cost @ P45 45,000 - -
Contribution margin P 55,000 P 75,000 P 50,000 Sales (6,000 x P40) P240,000 P240,000 P240,000 Less variable costs
Production cost @ P25 100,000 125,000 150,000 Purchase cost @ P45 90,000 45,000 0
Trang 11Contribution margin P 50,000 P 70,000 P 90,000
Requirement (c)
Sales Order Contribution Margin Probability Expected Value
Problem 6 (Pricing)
Requirement A:
2005 2006
Operating Result at Full Capacity
Less Variable cost 130,000 520,000 624,000 Contribution margin (P 30,000) (P120,000) (P144,000) Less Fixed cost 40,000 40,000 40,000 Net income (loss) (P 70,000) (P160,000) (P184,000) The company had been operating at a loss because the product had been selling with a negative contribution margin Hence, the more units are sold, the higher the loss will be
Requirement B: P60.14
Requirement C: P74.29
Requirement D: P56.58
Problem 7 (Make or Buy)
Cost of Making Cost of Buying
Variable manufacturing overhead 10,000
Fixed manufacturing overhead* 15,000
Trang 12* 1/3 x P45,000 = P15,000
Therefore, the annual advantage to make the parts is P20,000
IV Multiple Choice Questions
Supporting computations for nos 16 - 29:
16 Sales [(100,000 x 90%) x (P5.00 x 120%)] P540,000 Less: Variable costs (P300,000 x 90%) 270,000
18 Relevant cost to make (10,000 x P24) P240,000
Less: Savings in manufacturing cost P45,000
Avoidable fixed overhead 50,000 95,000
Difference in favor of “buy” alternative P 35,000