Chapter 7: Incremental Analysis for Short Term Decision Making

Make or buy decisions can also be called

insourcing versus outsourcing decision

Bottleneck

Constrained resource; occurs when a limited resource restricts a company's ability to satisfy demand.

Keep or Drop Segments can also be called

Continue or discontinue decisions

Sunk costs

Costs that have been incurred in the past

Relevant costs are also called

Differential, incremental, or avoidable costs

Steps in the Decision Making Process

1. Identify the decision problem 2. Determine the decision alternatives 3. Evaluate the costs and benefits of the alternatives 4. Make the decision 5. Review the results of the decision

Two Criteria for a Relevant Cost

1. Occurs in the future 2. Differs between decision alternatives

Make or buy decision

A decision too perform a particular activity or function in-house or purchase from an outside supplier has traditionally been called a make-or-buy decision

Opportunity Cost

Benefit that is given up when one alternative is selected over another

Relevant Costs

Have the potential to influence a decision

When analyzing a special order, on what costs and benefits are relevant?

Incremental

Keep or Drop Segments

Managers must sometimes decide whether to eliminate a particular division or segment of the business

Special Order

One-time order that is outside the scope of normal sales.

Two Important Cautions in Qualitative Analysis

Should be used only for one-time or special orders The results of this analysis are valid only if the company has excess, or idle, capacity

Irrelevant Costs include

Sunk costs and costs that are the same regardless of the alternative chosen

Irrelevant Costs

Those that will not influence a decision