Chapter Title
10-1
Adapted by Cynthia Fortin, CPA, CMA
Introduction to Managerial Accounting, Brewer,
Garrison,Noreen
PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W. Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA
Cynthia J. Rooney, Ph.D., CPA
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
http://video.wileyaccountingupdates.com/20
11/03/29/incremental-analysis-andmanagements-decision-making-process/
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Costs and benefits that differ between alternatives
Costs that are avoidable
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Incremental : added costs or revenues
Differential : difference of costs and revenue between alternatives
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1.
only on relevant costs
2. Ignore sunk costs and future costs and benefits that do not differ between the alternatives.
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3. Consider qualitative information is vital to decision-making.
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Costs that are relevant in one decision situation may not be relevant in another context.
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Each decision situation requires the manager to examine the data at hand and isolate the relevant costs.
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1. Only rarely will enough information be available to prepare detailed income statements for both alternatives.
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2. Mingling irrelevant costs with relevant costs may cause confusion and distract attention away from the information that is really critical .
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1. Calculate Contribution margin that would disappear if segment is dropped . Put results as negative.
2. Calculate fixed costs that would disappear if segment is dropped.
3. Add (1) to (2). If result is negative
4. Evaluate significant qualitative consequences.
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10-12 or
1. Calculate Contribution margin that would disappear if segment is dropped. Put results as negative.
2. Calculate fixed costs that would disappear if segment is dropped.
3. Add (1) to (2). If result is negative
4. Evaluate significant qualitative consequences.
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The management of Bayside Company is considering whether one of the departments in its retail stores should be eliminated.
The contribution margin in the department is $150,000 per year.
Fixed expenses allocated to the department are $130,000 per year .
It is estimated that $120,000 of these fixed expenses will be eliminated if the department is discontinued.
Part (a)
Which costs are irrelevant to this decision?
The common fixed costs of $10,000 (or
$130,000 - $120,000) are irrelevant to this decision.
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Part (b)
If the department is eliminated, what will be the impact on the company’s overall net operating income?
CM that would be lost if department is discontinued $(150,000)
Less fixed costs that can be avoided if department is discontinued 120,000
Increase (decrease) in net operating income (30,000)
Based on this information alone, because the company’s net operating income would decrease by $30,000 per year, management should this department.
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Outsourcing :
• Purchasing goods or services from outside vendor or supplier.
Insourcing :
• Producing goods or services within an organization
• May require expanding to increase capacity
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1. Calculate total amount to pay supplier.
2. Calculate total differential costs if company chooses to make.
3. Calculate difference between the 2 options.
4. Select lowest cost option.
5. Analyze qualitative factors
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• Logistical considerations
distance from plant
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•
Dependance on supplier can increase risk:
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Idle space (caused by outsourcing) that has no alternative has an opportunity cost of $ 0.
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• No longterm implications
• There is existing idle capacity
• Usually the price is lower than the regular product
•There are variable and fixed relevant costs incurred
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•Company must decide if the decision creates incremental net operating income
• Fixed costs are sunk costs, therefore irrelevant
• Absorption costing is not appropriate in the decision
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1.
Calculate total revenue generated by special order
2.
Calculate total incremental costs
3.
3. (1) – (2) => if positive
accept
the order
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4. Will this impact regular customers?
5. Is there potential future business?
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Effectively managing the constraint is the key to success .
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1. Identify the weakest link.
2. Allow the weakest link to set the tempo.
Only actions that strengthen the weakest link in the “ chain ” improve the process.
3. Focus on improving the weakest link.
4. Recognize that the weakest link is stronger.
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1.
Calculate each product’s Contribution
Margin (CM) per unit.
2.
Identify constraining resource and the quantity of that resource that is consumed by the unit.
3.
Divide (CM) by unit of constrained resource.
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4.
Rank products from highest CM to lowest CM.
5.
The CM must be viewed in relation to the amount of the constrained resource each product requires.
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Increase the capacity of a bottleneck, called relaxing constraint, 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.
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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.
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Colonial Heritage makes reproduction colonial furniture from select hardwoods.
Selling price per unit
Chairs Tables
$80 $400
Variable cost per unit $30 $200
Board feet per unit 2 10
Monthly demand 600 100
The company’s supplier of hardwood will only be able to supply 2,000 board feet this month. Is this enough hardwood to satisfy demand?
a. Yes b. No
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Colonial Heritage makes reproduction colonial furniture from select hardwoods.
Chairs Tables
Selling price per unit $80 $400
Variable cost per unit $30 $200
Board feet per unit
Monthly demand
2
600
10
100
The company’s supplier of hardwood will only be able to supply 2,000 board feet this month. Is this enough hardwood to satisfy demand?
a. Yes b. No (2
600) + (10
100 ) = 2,200 > 2,000
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Selling price per unit
Chairs Tables
$80 $400
Variable cost per unit $30 $200
Board feet per unit
Monthly demand
2
600
10
100
The company’s supplier of hardwood will only be able to supply 2,000 board feet this month.
What plan would maximize profits?
a. 500 chairs and 100 tables b. 600 chairs and 80 tables c. 500 chairs and 80 tables d. 600 chairs and 100 tables
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Selling price per unit
Chairs Tables
$80
Chairs Tables
Selling price $200 80 $ 400
2
Monthly demand 600
Contribution margin
10
100
30
$ 50
200
$ 200
The company’s supplier of hardwood will only be able to supply 2,000 board feet this month.
10
$ 20
What plan would maximize profits?
a. 500 chairs and 100 tables
600
Board feet required 1,200 b. 600 chairs and 80 tables
Board feet remaining 800 c. 500 chairs and 80 tables d. 600 chairs and 100 tables
10
80
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As before, Colonial Heritage’s supplier of hardwood will only be able to supply 2,000 board feet this month. Assume the company follows the plan we have proposed. Up to how much should Colonial Heritage be willing to pay above the usual price to obtain more hardwood?
a. $40 per board foot b. $25 per board foot c. $20 per board foot d. Zero
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The additional wood would be used to make hardwood will only be able to supply 2,000 additional wood will allow the company to earn an additional $20 of contribution margin and willing to pay above the usual price to obtain more hardwood?
profit.
a. $40 per board foot b. $25 per board foot c. $20 per board foot d. Zero
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When 2 or more products are produced from a common input.
Split-off point is when the diffferent products are separated.
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Joint
Input
Oil
Common
Production
Process
Gasoline
Split-Off
Point
Chemicals
Petroleum refining industry, a large number of products are extracted from crude oil: gasoline, jet fuel, home heating oil, lubricants, asphalt, and various organic chemicals.
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Joint
Input
Joint costs are incurred up to the split-off point
Common
Production
Process
Oil
Gasoline
Separate
Processing
Final
Sale
Split-Off
Point
Chemicals
Separate
Processing
Separate
Product
Costs
Final
Sale
Final
Sale
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Joint costs
are
irrelevant
From the split-off point they cannot be avoided
.
Joint costs are common and should not be included in making decisions
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1.Sales
value if processed further minus
Sales value at the split-off point.
2. Cost of further processing beyond the split-off point.
3. (1) – (2). If positive then Process further
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Chapter 10: Applying Excel
Data
Exhibit 10-6 Santa Maria Wool Cooperative
Cost of wool
Cost of separation process
Sales value of intermediate products at split-off point:
Undyed coarse wool
Undyed fine wool
Undyed superfine wool
$200 000
$40 000
$120 000
$150 000
$60 000
Costs of further processing (dyeing) intermediate products:
Undyed coarse wool $50 000
Undyed fine wool
Undyed superfine wool
Sales value of end products:
$60 000
$10 000
Dyed coarse wool
Dyed fine wool
Dyed superfine wool
$160 000
$240 000
$90 000
Enter a formula into each of the cells marked with a ? below
Example: Joint Product Costs and the Contribution Approach
Analysis of the profitability of the overall operation:
Combined final sales value
Less costs of producing the end products:
Cost of wool
Cost of separation process
Combined costs of dyeing
Profit
$ 200 000
40 000
120 000
$ 490 000
360 000
$ 130 000
Analysis of sell or process further:
Final sales value after further processing
Less sales value at the split-off point
Incremental revenue from further processing
Less cost of further processing (dyeing)
Profit (loss) from further processing
The company would be better off selling the undyed coarse wool and processing further the fine and superfine.
Coarse
Wool
$ 160 000
120 000
40 000
50 000
(10 000)
Fine
Wool
$ 240 000
150 000
90 000
60 000
30 000
Superfine
Wool
$ 90 000
60 000
30 000
10 000
20 000
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