Chapter 11 - Differential Analysis:

incremental cost

an increase in cost between two alternatives

constraint

anything that prevents you from getting more of what you want

bottleneck

constraint in the system determined by step that limits total output because it has smallest capacity

vertically integrated

when a company is involved in more than one activity in entire value chain

Relaxing (or elevating) the constraint

when a manager increases the capacity of the bottleneck

sunk cost

A cost that has already been incurred and that cannot be changed by any decision made now or in the future Sunk costs have no impact on future cash flows and remain the same; therefore, they are irrelevant and should be ignored when making decisions

differential cost

A future cost that differs between any two alternatives ALWAYS RELEVANT COST

vertical integration advantages

less dependent on its suppliers smoother flow of parts and materials for production

joint products

two or more products that are produced from a single raw material input

the capacity of a bottleneck can be effectively increased by:

working overtime on bottleneck subcontracting some of the processing that would ordinarily be done at bottleneck investing in additional machines at bottleneck shifting workers from processes that aren't bottlenecks to process in bottlenecks focusing business process improvement efforts on bottleneck reducing defective units

what is the first step in decision making

define alternatives being considered

avoidable cost

a cost that can be eliminated by choosing one alternative over another

make or buy decision

a decision concerning whether an item should be produced internally or purchased from an outside supplier

differential revenue

future revenue that differs between any two alternatives RELEVANT BENEFIT

special order

one-time order no considered part of company's normal ongoing business

opportunity cost

potential benefit given up when one alternative is selected over another

isolating relevant costs is desirable because

rarely will enough info be available to prepare a detailed income statement for both alternatives mingling irrelevant costs may cause confusion from info that is really critical

relevant costs and relevant benefits

should be considered when making decisions

idle space that has no alternative use has an opportunity cost of what

zero