Managerial Chapter 6- Short-Term Decision Making
Relevant Cost anlysis
- only considering costs that differ across options **when choosing between options, what changes? What is different **if fixed cost remains regardless of options, it is not relevant** **however, if you incur a fixed cost just with ONE option, then it is relevant**
What is the opportunity cost of excess demand? **come back to make sure right**
- postive -because we have to let go of some profitable opportunites, have to choose which ones to let go of
For planning decisions we use what to measure profit?
-CM (Sales price-VC) ** leaving Gross-margin behind because that is GAAP** ** In short-run FC can't be changed, so profit (pi)= CM **
What is capacity?
-Capacity is the MAXIUM volume of activity that can be sustained at a point in time with the available Resources
Price Gouging:
-When company raises prices during a time of high excess demand -usually when selling at a much higher price than is considered fair -example: hardware store has sold shovels at $15 for 20 years and suddenly raises price morning of snow-storm
Knapsack problem:
-a backpack can hold maximum weight -you have to chose which items to fill it with
What is excess supply (aka excess capacity)?
-available supply exceeds demand ** when capacity > demand**
What is excess demand?
-demand exceeds available supply **When capacity < demand**
Longer-term consequences of decision making
-our reputation -short-run decision might affect long-run likelihood of obtaining/ keeping customers -focusing only on short-run profit could anger customers (example Price gouging) and affect long-term profit
How to deal with excess demand:
-raise prices -meet additional demand by outsourcing production -Alter product mix to focus on the most profitable product
How to deal with excess supply:
-running promotions -processing special orders -lower price (to stimulate demand) -use extra capacity to make other stuff in house (making parts vs. purchasing them from outside supplier)
Example of a stadium's capacity:
-stadium has capacity of 20,000 people -your time
What is opportunity cost (review):
-value of NEXT BEST option
Make buy decisions for excess capacity is all about ....
... OPPORTUNITY COSTS
When capacity is a scare resource you're basically solving...
... a knapsack problem! ** need to figure out contribution margin PER unit of CAPACITY ** ** maximizing CM per unit of capacity**
fixed Costs in short-term decision making analysis are....
... irrevant **sunk costs--> already been spent**
Longer term decisions become more about ...
... profit (CM-FC) ** because fixed costs can be changed in long-run**
So far we have only focused on short-term decision-making to maximize short-term profit but...
... there are longer-term consequences **short-run, focuses more on CM**
Contribution margin tells us...
... what price should we change to cover at least our variable costs
What is the opportunity cost of excess capacity (supply)?
0 -because there is no other profitable use for available capacity **therefore, any use of this excess capacity that generates a positive contribution margin (revenues in excess of variable costs) is worth considering**
How to solve these capacity resource problems
1. find revenue per capacity (such as revenue per hour0 2. see which one yields the highest and use more of your capacity here, then allocate accordingly to the next and next categories with the best revenue/ capacity
IN the short run bussiness's have ____ capacity
IN the short run business's have FIXED capacity -deal with TEMPORARY gaps between the demand and supply of available capacity **short-run capacity deals with time-varying demand (changes in demand)**
