Ch. 12 - Final Exam ACCT

*A CM Approach: to Adding/Dropping Segments

-Decision Rule: Drop/Add the segment ONLY if its Profit would increase CM Lost if dropped/eliminated - Avoidable Fixed Expenses = Net Advantage (Disadvantage)

Vertical Integration *Advantages* *

-(Can ensure) Smoother flow of parts & materials -Better quality control -Realize profits

*Joint Costs

-2 or more products produced from a Common Input -A Number of End products are produced from a Single raw material input

*Relevant Cost

-A (future) cost that DOES differ between the two alternatives (in a decision) -*Relevant* Costs *should* be considered when making decisions -*Irrelevant* Costs *should NOT* be considered when making decisions (Ignore them) -2 categories of costs are *irrelevant* in Any decision: Sunk Costs & A future cost that does NOT differ between the two alternatives -Can be in part OR in whole -Costs that are Relevant in one decision situation may NOT be Relevant in another context -In each decision situation, the manager must examine the data & isolate the Relevant Costs -Avoidable Costs = Relevant Costs -Unavoidable Costs = Irrelevant Costs

*Special Orders

-A *one-time* order that is NOT considered part of the company's normal ongoing business -When analyzing a special order, *only the incremental costs & benefits are relevant* -Existing FOH Costs are NOT Relevant (since they would NOT be affected by the order(bc incremental only))

*Relevant Benefit

-A Benefit that differs between the two alternatives (in a decision) -*Relevant* Benefits *should* be considered when making decisions -*Irrelevant* Benefits *should NOT* be considered when making decisions (Ignore them) -Differential Revenue is an example of a Relevant Benefit

Financial Advantage

-A Financial Advantage exists if: the alternative's future cash *inflows* > its future cash *outflows* -For ALL types of decision making

Financial Disadvantage

-A Financial Disadvantage exists if: the alternative's future cash *outflows* > its future cash *inflows* -For ALL types of decision making

*Avoidable Cost

-A cost that can be Eliminated (in whole OR in part) by choosing one alternative over another (i.e. If you choose the other alternative, you won't have to pay that cost) -2 categories of costs are *irrelevant* in Any decision: Sunk Costs & A future cost that does NOT differ between the two alternatives -Avoidable Costs = Relevant Costs (i.e. avoidable costs are always relevant costs) -Unavoidable Costs = Irrelevant Costs (i.e. unavoidable costs are always irrelevant costs)

Sunk Cost

-A cost that has Already been incurred & Cannot be avoided regardless of what a manager decides to do -Sunk Costs have NO impact on future cash flows & they remain the same no matter what alternatives are being considered -Sunk Costs are Irrelevant & should be Ignored when making decisions -Any Depreciation Expense relating to the sunk cost is also Irrelevant (because Depreciation is a noncash expense that has NO effect on future cash flows)

*Make or Buy Decision

-A decision to carry out one of the activities in the value chain *internally*, rather than to buy Externally from a supplier is called a "Make or Buy" decision -Often, these decisions involve whether to buy a particular part OR make it internally -Involves decisions concerning whether to outsource development tasks, after-sales service, or other activities

*Adding/Dropping Segments

-A decision to drop an old segment or add a new one is going to hinge primarily on *the impact the decision will have on NOI* -To assess this impact, it is necessary to carefully *analyze the costs*

Differential Cost (& Benefit)

-A future cost that DOES differ between the two alternatives -Differential Costs are ALWAYS Relevant Costs (& Avoidable Costs) -Main focus is on Quantitative differential costs (& benefits): those that have readily measurable impacts on future cash flows

Differential Revenue

-A future revenue that DOES differ between the two alternatives -Differential Revenue is an example of a Relevant Benefit

*Managing Constraints

-A manager can increase the capacity of a Bottleneck (which is called Relaxing (or elevating) the Constraint) in numerous ways such as: 1)Working overtime on the bottleneck. 2) Subcontracting some of the processing that would be done at the bottleneck. 3) Investing in additional machines at the bottleneck. 4) Shifting workers from non-bottleneck processes to the bottleneck. 5) Focusing business process improvement efforts on the bottleneck. 6) Reducing defective units processed through the bottleneck.

Value Chain

-All activities from development, to production, to after-sales service -The series (steps) of activities through which a product or service is created & delivered to customers -Some companies control all the activities in the value chain from producing basic raw materials right up to the final distribution of finished goods & provision of after-sales service (completely vertically integrated) -Other companies are content to integrate on a smaller scale by purchasing many of the parts & materials that go into their finished products -^^^^ These are "Make or Buy" Decisions

Differential Approach

-Focusing on the future costs & benefits that differ between the alternatives (Relevant) -Everything else is irrelevant & is ignored -Differential Approach & Total Cost Approach will have the same answers (if done correctly)

Total Cost Approach

-Includes ALL costs & benefits, Relevant or NOT -Differential Approach & Total Cost Approach will have the same answers (if done correctly)

*Bottleneck

-The Machine or Process that limits overall output because it had the Smallest Capacity, is called the Bottleneck - *it is the Constraint* -The cause

*Opportunity Cost

-The benefit that is foregone as a result of pursuing some course of action (-i.e. it is whatever must be given up to obtain some item) -Opportunity costs are NOT actual cash outlays & are NOT recorded in the formal accounts of an organization -Opportunity costs NEED to be Considered (They are a type of Differential cost)

*Constraint

-The company *has a Constraint* when: A *limited resource* of some type restricts the company's ability to satisfy demand -Anything that prevents you from getting what you want -Fixed Costs are NOT affected by how a Constraint is used -Favor the products that provide the Highest CM per unit of the Constrained Resource

*Split-Off Point

-The point in the manufacturing process where each Joint Product can be *recognized as a separate product*

*Vertically Integrated (Vertical Integration)

-When a company is involved in More than one activity in their entire Value Chain -A decision to Carry Out one of the activities in the Value Chain internally, OR to Buy Externally from a supplier is called a "Make or Buy" decision (i.e. Do we Make it our selves OR Buy it externally?)

Vertical Integration *Disadvantages* *

-When using *External Suppliers*: By pooling demand from numerous companies, a supplier may be able to enjoy the *economies of scale advantage* -While the *economies of scale* factor can be appealing, a company must be careful to retain control over activities that are essential to maintaining its competitive position -Economies of Scale: Lower prices to sell More?

*Incremental Cost (& Benefit)

-An *increase* in cost between the 2 alternatives (in a decision) -When analyzing a Special Order, ONLY the incremental costs & benefits are Relevant -Incremental Costs are always Relevant Costs