Relevant Costs

How to calculate the lost CM given up from regular sales:

(CMPU of regular sales)(Units of regular sales) _________________________________________________________________ Units given up in the Special Order

In the Special order decision, if the actual selling price of the special order is > Minimum selling price of the special order

Accept

Opportunity costs are:

Always relevant

Relevant Costs/Costs to Consider

Avoidable Costs and Opportunity Costs

Relevant Costs:

Avoidable costs Opportunity costs

In the make or buy decision, if Avoidable Costs + Opportunity Costs > Outside Purchase Price

Buy

CM per unit of scarce resource formula:

CM per unit/Scarce Resource Needs Per Unit

Special Order Decision Rule

Compare Actual selling price of the special order to the minimum selling price of the special order

Make or Buy Decision Rule

Compare Avoidable Costs + Opportunity Costs to Outside purchase price

Keep or Drop Decision Rule

Compare Avoidable Fixed Costs + Opportunity Costs to Lost Contribution Margin

Sell or Process Further Decision Rule:

Compare the sales value from processing further - additional processing costs to the sales value at the split off point.

Tactical Decision Making

Consists of choosing among alternatives with an immediate or limited end in view Compare a handful of alternatives by analyzing the costs of each alternative The 'least-cost' alternative is chosen

Avoidable Cost

Cost that can be eliminated, in whole or in part, by choosing one alternative over another

Relevant Cost

Cost that differs between alternatives Only relevant costs should be considered in tactical decision making

Joint Costs:

Costs incurred prior to the split-off point

Examples of avoidable costs

Direct Materials Direct Labor All variable costs Some fixed costs

Special Order Decision

Do we accept or reject the special order

In the Keep or Drop decision, if Avoidable fixed costs + Opportunity Costs > Lost CM

Drop

Product Mix Decision

If a company sells more than one product, how many of each type should they produce?

What are joint costs effects on NI

Joint costs are considered in NI but are not relevant costs They are expenses, and still used in calculating net income

In the Keep or Drop decision, if Avoidable fixed costs + Opportunity Costs < Lost CM

Keep

In the make or buy decision, if Avoidable Costs + Opportunity Costs < Outside Purchase Price

Make

5 Types of Tactical Decision Making decisions

Make or Buy Keep of Drop Accept/Reject Special Orders Sell or Process Further Product Mix

Example of a sunk cost

Original price of a building

In the sell or process decision, If the sales value from processing further - additional processing costs > sales value at split off point

Process further

In the Special order decision, if the actual selling price of the special order is < Minimum selling price of the special order

Reject

Examples of Allocated Costs

Rent & Administrative Salaries

Tactical decisions tend to be:

Short run in nature

Keep or Drop Decision

Should we keep or drop a segment of the business

Sell or Process Further:

Should we sell the partially completed products @ split off point or should we process them further?

Make or Buy Decision

Should you produce the product internally, or should it be purchased from the outside supplier

Examples of unavoidable costs:

Some fixed costs depending on the situation

What kind of costs are joint costs? Are they relevant?

Sunk costs, not relevant

Joint Products:

Two or more products produced from the same raw material input

Non Relevant Costs/Costs to ignore

Unavoidable Costs Allocated Costs Some Fixed Costs Sunk Costs

Costs to be ignored/Irrelevant Costs:

Unavoidable costs Allocated Costs Sunk Costs

When there is more than one resource constraint in the product mix decision:

Use linear programming

How to calculate minimum selling price of special order:

VCPU of special order + CM lost from 'given up' regular sales

Avoidable costs are:

always relevant

Opportunity Costs:

benefit given up by choosing an alternative over another

Sunk costs

cost that has been incurred and cannot be recovered by some future action

Allocated Costs

costs that cannot be directly linked to a product or activity

Unavoidable Costs

costs that exist under all decision alternatives

In the product mix decision, the company should produce the product that

has the highest CM per unit of scarce resource

Sunk costs are:

never relevant

Unavoidable costs are:

never relevant

Split off point:

the point in manufacturing where each joint product can be recognized as a separate product