http://www.scribd.com/doc/60189531/Chapter14-Decision-Making-Relevant-Costs-and-Benefits
Pearson
1.
What is the validity of the following statements?
(1) When deciding between alternative courses of action past costs should always be ignored.
(2) When deciding between alternative courses of action all future costs should always be taken
into account.
A
B
C
D
Statement
(1)
(2)
True
True
True
False
False
True
False
False
Your Answer: C
Correct Answer: D
Some future costs (for example, those that do not vary with the decision) can be ignored,
whereas all past costs should be ignored as they cannot be affected by the decision. Thus both
statements are false.
2.
Lynher Ltd has been offered a contract that requires the use of specialised equipment that it
has owned for three years. The specialised equipment is no longer used by the company but
can be rented to another company. The accountant of Lynher Ltd has provided the following
data concerning the machine:
Net realisable value
£
18,000
Acquisition cost
25,000
Future rental income from
machine
28,000
Replacement cost
32,000
What is the relevant cost of the machine when considering the new contract?
Your Answer: £32,000
Correct Answer: £28,000
The replacement cost is irrelevant as the machine is no longer used and the acquisition cost is a
sunk cost (which is also irrelevant). The net realisable value is below the future rental value
and so will not represent the opportunity foregone.
3.
The following data relates to 20 tonnes of chemical X105 that is currently in stock and can be
used to fulfil a contract.
Purchase cost
£
2,800
Replacement cost
3,200
Net realisable value
3,000
The material is no longer used for production and so, unless it is used in this contract it will be
converted into 15 tonnes of chemical X106 at a cost of £400. This chemical is widely used in
the production process and such a quantity has a cost of £3,500.
What is the relevant cost of chemical X105 when considering the viability of the contract?
Your Answer: £3,100
4.
Yealm (Boat builders) Ltd has been asked to refit a boat for a customer.
Skilled labour costing £8 per hour will be required for the refit. The workers will have to be
taken off the production of canoes for resale for a total of 240 hours. The canoes are sold for
£200 each and take 12 hours of skilled labour. The material cost of each canoe is £60.
What is the relevant cost of labour when assessing the viability of the refit contract?
Your Answer: £1920
Correct Answer: £2,800
The relevant cost of labour is:
Opportunity cost
[20 x £(200 - 60)]
5.
=
£2,800
Tamar Builders Ltd has been asked to build a conservatory for a customer.
The conservatory will require 15 hours supervision time by a foreman who is paid £10 per hour.
The foreman has spare capacity during normal working hours but it is estimated that 10 hours
of the supervision will have to undertaken outside normal working hours and will be paid at £12
per hour.
Semi-skilled workers will be required for the job for 150 hours in total. The current rate per
hour is £7. The company has some spare capacity, at present, and so these workers have been
undertaking jobs that are normally undertaken by unskilled workers. If the semi-skilled workers
are required to build the conservatory, they will be taken off the unskilled jobs that will be done
by unskilled workers who are normally paid £5 per hour. However, because the unskilled
workers are already fully occupied, they will do the jobs outside normal working hours at an
overtime rate of £6 per hour.
What is the relevant cost of labour when assessing the viability of the conservatory contract?
Your Answer: £920
Correct Answer: £1,020
The relevant cost of labour is:
£
10 hours @£12
per hour
150 hours @£6
per hour
120
900
1020
6.
Consider the following types of cost:
1.
2.
3.
4.
sunk costs
committed costs
opportunity costs
outlay costs
Which of the above will always be irrelevant when considering a particular course of action?
Your Answer: 1 only
Correct Answer: 1 and 2
Sunk costs are past costs and committed costs are, in effect, past costs.
7.
Exmouth Marine Engineers Ltd owns a cruiser yacht that is in need of repair. The cruiser yacht
was taken in lieu of payment for an unpaid bill for £3,400. The company is working to full
capacity but is considering refurbishing the yacht for resale. Workers who are paid £10 per hour
will carry out the refurbishment and it is estimated that 100 hours work is required. The normal
labour charge for customers is £20 per hour. The company believes that the cruiser yacht could
be sold for £3,100 in its current condition. Materials costing £500 would be required to carry
out the refurbishment. These materials are currently in stock as they are frequently used by the
business.
What is the minimum resale price that the business would have to charge to justify the
refurbishment?
Your Answer: £5,600
8.
Dursley Ltd is a research company that has invested £70,000 to date in developing a new type
of cream to arrest the effects of ageing on the skin. The research has not been entirely
successful as there has been no interest in the new cream from healthcare companies.
Recently, however, a cosmetics company has made enquiries about the cream and its potential
as a sun blocker.
Dursley Ltd believes that there is such potential for the cream, however, further research would
have to be carried out. The company would have to extend the research contracts of two
research chemists for a further year at a cost of £80,000. The research chemists are due to be
made redundant at a total cost of £30,000. However, if the contract is extended the
redundancy cost will be £40,000 at the end of the contract.
The further research that will have to be carried out will take up one quarter of the laboratory
space available within the company. The company rents the laboratory at an annual cost of
£60,000 per annum.
What is the minimum price that Dursley Ltd could charge the cosmetics company to justify the
additional research?
Your Answer: £105,000
Correct Answer: £90,000
The minimum price is:
£
Cost of research chemists contract 80,000
Additional redundancy payments
10,000
90,000
9.
Staverton Manufacturers Ltd has the following materials in stock:
No. of units held
Purchase cost per unit
Net realisable value
Replacement cost
Y50
100
£7
£6
£8
Y60
150
£12
£5
£4
The company has been asked to tender for a contract that requires 200 units of Y50 and 100
units of Y60.
Y50 cannot be used for any other purpose within the business except the new contract.
Y60 is in frequent use by the company.
What is the relevant cost of the materials for the purpose of pricing the contract?
Your Answer: £2,600
Correct Answer: £1,900
The relevant cost is:
Y50 100 units @ £6 each
100 units @ £8 each
Y60 100 units @ £5 each
£
600
800
500
1,900
10.
Thornbury Ltd has the following chemicals in stock:
No. of litres held
Purchase cost per unit
Net realisable value
Replacement cost
V20
180
£8
£10
V40
250
£15
£12
£16
The company has been asked to tender for a contract that requires 300 litres of V20 and 200
litres of V40.
V20 is very toxic and, if it is not used for this particular job, it will have to be disposed safely at
a cost of £200.
The company no longer uses V40.
What is the relevant cost of the materials for the purpose of pricing the contract?
Your Answer: £3,600
Correct Answer: £3,400
The relevant cost is:
V20
120 units @ £10
Disposal savings
V40
200 units @ £12
£
1,200
(200)
2,400
3,400