CH2

2-1 “Cost behavior is simply identification of cost drivers and their relationships to
costs.” Comment.

Cost driver is related to cost behavior because it causes a change in the cost and cost is
increased or decreased because of cost driver. It means that they complement each other.

2-2 Give two rules of thumb to use when analyzing cost behavior.

 A fixed cost is not immediately affected by changes in the cost-driver level. Total
fixed costs remain unchanged regardless of changes in the cost-driver.

 A variable cost changes in direct proportion to changes in the cost-driver level. The
per unit variable cost remains unchanged regardless of changes in the cost-driver.

2-3 Give three examples of variable costs and of fixed costs

Variable- labour cost, direct materials, utility costs

Fixed- insurance, depreciation, lease

2-4 Why is the word immediately used in the definition of fixed cost and not in the
definition of variable cost?

For example, to start a new business there are some investments required. If we take printing
t-shorts with different animated prints, we should buy a special equipment immediately to be
able to do so. That’s why word immediately used in the definition of fixed cost.

2-5 “It is confusing to think of fixed costs on a per-unit basis.” Do you agree? Why or
why not?

Fixed costs are that cost that does not change, however per-unit measurement may be affected
by cargo/volume increasement, fixed cost per unit would be smaller in that situation. I think it
is not confusing.

2-6 “All costs are either fixed or variable. The only difficulty in cost analysis is
determining which of the two categories each cost belongs to.” Do you agree? Explain

There are step and mixed costs as well. Step cost is a cost that changes abruptly at different
intervals of activity because the resources and their costs come in indivisible chunks. Some
part of costs are mixed costs, which contain elements of both fixed- and variable-cost
behavior. For decisions where the range of activity is limited to a single step of the cost
function, we consider the cost a fixed cost. For decisions where the range of activity
encompasses many steps, the cost behaves more like a vareiable cost.
2-7 “The relevant range pertains to fixed costs, not variable costs.” Do you agree?
Explain

The relevant range is the limit of cost-driver activity level within which a specific
relationship between costs and the cost driver is valid. Fixed cost will be fixed during the
budget time period. I disagree with the statement “The relevant range pertains to fixed costs,
not variable costs.”

2-8 Identify the major simplifying assumption that underlies CVP analysis?

Selling price, variable cost per unit, and total fixed costs remain constant through the relevant
range. This means that a company can sell more or fewer units at the same price and that the
company has no change in technical efficiency as volume changes. In multi-product
situations, the product mix is known in advance. Costs can be accurately classified into their
fixed and variable portions.

2-9 “Classification of costs into variable and fixed categories depends on the decision
situa- tion.” Explain.

I agree, fixed cost of some manufacturing equipment may become variable, depending on the
manufacturing products and decision making.

2-10 “Contribution margin is the excess of sales over fixed costs.” Do you agree?
Explain.

No, I fully disagree, it is sales over variable cost.

11 Why is break-even analysis a misnomer?

Break-even is the situation in which company faces no profit or no loses in economics called
stagnation. Instead of break-even analysis its name should be break-even point.

2-12 “Companies in the same industry generally have about the same break-even
point.” Do you agree? Explain.

I agree, because same type of companies almost has the same investment, same fixed assets,
almost the same sale price of a similar product due to competition in the market. Same type
of companies uses same type of the raw material for the similar products, because of that they
have near about same variable cost. Same fixed assets leads to same fixed costs.

2-13 “It is essential to choose the right CVP method—equation, contribution margin, or
graphical. If you pick the wrong one, your analysis will be faulty.” Do you agree?
Explain.

Yes, I agree, because if we take one of them the whole study might get fail. Wrong equation
can go for wrong profit, volume or cost. Wrong CM can go for wrong break even point,
wrong graphics can show wrong presentation of a company. This is why it is important to
know about the relevant range of the variable and fixed costs, to consider the right method.

2-14 Describe three ways of lowering a break- even point.

1. Reducing the fixed cost

2. Reducing variable cost
3. Increasing the sale price

2-15 “Incremental analysis is quicker, but it has no other advantage over an analysis of
all costs and revenues associated with each alternative.” Do you agree? Why or why
not?

Yes, incremental analysis is quicker and simpler. Simplicity is important because it keeps
analysis away from being clutteres be irrelevant data. This approach tells that study about the
merits and demerits. This information does not useful for other situations but for the present
situation it gives the better solution within the limited resources.

2-16 Define operating leverage and explain why a highly leveraged company may be
risky.

The ratio of fixed cost to variable cost is operating leverage. The companies with high fixed
cost and low variable cost are called highly leveraged companies. It can be risky as there is a
highest possible net income and highest possible net loss.

2-17 Suppose a company with high operating leverage is also operating at near capacity
for all its fixed-cost resources. How could an increase in sales volume result in
decreasing economies of scale for this company?

The reasons are: economies of scale is doing things more efficiently with increasing size of
operation; economies of scale often originate with fixed capital, which is lowered per unit of
production as design capacity increases; if a company is using high operating leverage, means
it uses high proportion of fixed assets and low proportion of current assets; if it will use more
fixed assets, the cost of the fixed assets per unit wil decrease as the volume of sales will
increase.

2-18 What is the relationship between the margin of safety and the break-even point?

Margin of safety is the amount extent by which actual or estimated sales exceed the break
even sales. It is useful to measuring risk. Margin of safety is the last revenue point up to
which sales can fall down.

2-19 “The contribution margin and gross margin are always equal.” Do you agree?
Explain.
No, I do not agree with the statement. Contribution margin and gross margin are not always
equal. CM ratio shows the percentage of contribution on its sales, it is a selling price of the
product minus its variable cost. Gross margin is excess of revenue over the COGS.
2-20 “CVP relationships are unimportant in nonprofit organizations.” Do you agree?
Explain.

I do not agree. No organization has unlimited resources, whether it is profit motive

organization or service motive organization. Limited resources force managers to do CVP
analysis in order to know what amount of cost and volume will give what effect on the profit.

2-21 Study Appendix 2A. A company sold two products. Total budgeted sales and total
actual sales in number of units were identical. Actual unit variable costs and sales prices
were the same as budgeted. Actual total contribution margin was lower than budgeted.
What could be the reason for the lower contribution margin?

It might be due to the different sales mix, different sales mixes can give different contribution
margin.

2-22 Study Appendix 2B. Given a target after- tax net income, present the CVP formula
for computing the income before income taxes.

Target income before taxes = Target after tax net income/ 1-Tax rate

2-23 Study Appendix 2B. Present the CVP formula for computing the effects of a change
in volume on after-tax income.

Change in the net income = (Change in the volume in units)*(CM per unit)*(1-Tax rate)

11-1 Capital budgeting has three phases: (a) identification of potential investments, (b)
selection of investments, and (c) post-audit of investments. What is the accountant’s role
in each phase?

a) An accountant has to evaluate all investments which can prove handy for this project,
accountant is required to study each and every project which is available in the market
and which can be used by him as a handy tool for his investment. He has to make
estimates about the future sales, monitor external environment regularly, do a SWOT
analysis of every option available.
b) An accountant is required to make a Capital Budget to check fund positions, if
borrowing is needed, accountant is required to check from where the funds can be
borrowed.
c) An accountant is required to compare the actual performance with the estimated
performance and to calculate deviations.

11-2 Why is discounted cash flow a superior method for capital budgeting?

DCF method of Capital Budgeting explicitly considers time value of money. It considers that
each dollar earned in the future is assumed to have the same value at each dollar invested
many years earlier.
CH3

3-1 What is a cost driver? Give three examples of costs and their possible cost drivers.

A cost driver is a variable,such as the level of activity or volume,which causally affects total
costs over a given time span. A change in the cost driver results in a change in the level of
total costs. For example,the number of vehicles assembled is a driver of the costs of steering
wheels on a motor-vehicle assembly line
Examples of cost drivers are as follows:
 Direct labor hours worked
 Number of customer contacts
 Number of engineering change orders issued

3-2 Explain linear-cost behavior.

Linear cost behavior is the relationship of cost given over a certain specific relevant range of
activity level or in terms of cost driver levels. Under such behavior the cost behave in a
straight line manner which is further cut through an intercept or a fixed cost estimate for the
future, along with the total costs that increases on a proportionate basis as the cost driver
activity increase.

3-3 “Step costs can be fixed or variable, depending on your perspective.” Explain.

A Step Cost has a constant level of cost for a range of output, then jumps to a higher level of
cost where it remains for a range of output. Step costs with narrow ranges of activity are
usually treated as a variable cost. Steps costs with steps that cover wide ranges of activity can
be treated as fixed costs. A step fixed cost is a cost that does not change within certain high
and low thresholds of activity, but which will change when these thresholds are breached.

3-4 Explain how mixed costs are related to both fixed and variable costs.

Mixed Costs: Mixed costs are costs that have both a fixed and a variable component.The
formula for a mixed cost is:
Total cost = Total fixed cost + Total variable cost
A mixed cost is a cost that contains both a fixed cost component and a variable cost
component. It is important to understand the mix of these elements of a cost, so that one can
predict how costs will change with different levels of activity. Typically, a portion of a mixed
cost may be present in the absence of all activity, in addition to which the cost may also
increase as activity levels increase.
3-5 How do management’s product and service choices affect cost behavior?

Managers can influence cost behavior through their decisions about such factors as product or
service attributes, capacity, technology, and policies to create incentives to control costs.

3-6 Why are fixed costs also called capacity costs?

They are able to attain a pre-defined level of production or they extend an intended level of
service, keeping the product or service attributes or key indicators intact such as quality, price
etc. Examples of capacity-related costs are depreciation on production equipment (the
capacity-related resource) and salaries paid to employees (the capacity-related resource) in a
consultancy. The cost of a capacity-related resource is often called a fixed cost because the
cost of there source is independent of how much of the resource is used.

3-7 How do committed fixed costs differ from discretionary fixed costs?

A discretionary fixed cost is an expenditure for a period-specific cost or a fixed asset, which
can be eliminated or reduced without having an immediate impact on the reported
profitability of a business. A discretionary fixed cost varies from a committed fixed cost, in
that a committed cost obligates a business to continue making payments over a certain period
of time (such as the lease on an office building). A discretionary fixed cost is also known as a
managed fixed cost.

3-8 Why are committed fixed costs the most difficult of the fixed costs to change?

Committed fixed costs are the most difficult to change because long-term commitments
generally have been made. These long-term commitments may involve legal contracts which
would be costly to renegotiate or dissolve. Committed fixed costs also are difficult to change
because doing so may mean greatly changing the way the organization conducts its activities.

3-9 What are the primary determinants of the level of committed costs? Discretionary
costs?

An organization’s capacity is the primary determinant of committed fixed costs.

Management’s choice is the main influence on discretionary fixed costs. The determinants of
both committed and discretionary fixed costs are elements of the organization's strategy
relating to capacity, product attributes, and technology. These elements will determine long-
term cost commitments (committed costs) and flexible spending responses to changes in the
environment (discretionary costs)

3-10 “Planning is far more important than day- to-day control of discretionary costs.”
Do you agree? Explain.

Both planning for and controlling discretionary costs are important. It is hard to say that one
is more important than the other, but certainly effective use of discretionary costs requires
prior planning. One would not know, however, if these costs had been effective in meeting
goals unless the organization has a reliable and timely control system -- a means of checking
accomplishments against goals

3-11 How can a company’s choice of technology affect its costs?

High technology production systems often mean higher fixed costs and lower variable costs.

3-12 Explain the use of incentives to control cost

Incentives to control costs are means of making cost control in the best interests of the people
responsible for making cost expenditures. A simple example will illustrate the use of
incentives to control costs. Assume that you are an executive who travels for business,
purchases professional literature, and keeps current with personal computer technology.
Under one incentive system, you simply bill the organization for all your travel and
professional expenses. Under another system, you are given an annual budget for travel and
professional needs

3-13 Why is it important for managers and accountants to measure cost functions?

Activity analysis is the process of identifying the best cost drivers to use for cost estimation
and prediction and determining how they affect the costs of making a product of service. This
is an essential step in understanding and predicting costs.

3-14 Explain plausibility and reliability of cost functions. Which is preferred? Explain.

3-15 What is activity analysis?

Activity analysis is the examination of the process steps within a selected area of an
organization. This analysis determines the following items:

 Which process steps are being executed

  Which personnel are involved with each step

 The amount of time required to complete each step

 The amount of resources consumed by each step

 Which process steps should be measured and which measurements to use

 The value produced by each step

3-16 What is engineering analysis? Account analysis?

 Engineering analysis is a logical analysis of the cost environment of the cost functions
that measures the cost behavior as per the costs that should be in an ongoing
continuous process. Engineering analysis involves a systematic evaluation of various
resources such as material, supplies, labor, facilities, and support services etc., which
are required during manufacturing of a product or rendering of a service.

 Account Analysis: Account analysis is another logical method for measuring the cost
functions whereby the analysts are more interested in acquiring information about
cost behavior. They classify each account in terms of valuable or fixed cost in relation
to a selected cost driver. The analysts evaluate each account balance carefully and
estimate the variable cost per unit of the cost driver activity or fixed cost incurred
during a stipulated period.

3-17 Describe the methods for measuring cost functions using past cost data.

 High low analysis

 Visual fit analysis
 Least square regression analysis

3-18 How could account analysis be combined with engineering analysis?

Engineering analysis and account analysis often are combined. One of the problems of
account analysis is that historical data may contain past inefficiencies. Therefore, account
analysis measures what costs were, not necessarily what they should be. Differences in future
costs may be desired and/or anticipated, and account analysis alone usually will not account
for these differences. Engineering analysis may be combined with account analysis to revise
account-based measures for desired improvements in efficiency and/or planned changes in
inputs or processes.
3-19 Explain the strengths and weaknesses of the high-low and visual-fit methods.

The strengths of the high-low method are also its weaknesses -- the method is simple to apply
since it does not require extensive data or statistical sophistication. This simplicity also means
that the method may not be reliable because it may not use all the relevant data that are
available, and choice of the two points to measure the linear cost relationship is subjective.
The method itself also does not give any measures of reliability.The visual-fit method is an
improvement over the high-low method because it uses all the available (relevant) data.

3-20 In the high-low method, does the high and low refer to cost-driver levels or to total
cost levels? Explain.

The cost-driver level should be used to determine the two data points to be used todetermine
the cost function. Why? Because the high- and low-cost points are more likely to have
measurement errors, an unusually high cost at the high-cost point and an unusually low cost
at the low-cost point.

3-21 Why is regression analysis usually preferred to the high-low method?

Regression analysis is usually preferred to the high-low method (and the visual-fitmethod)
because regression analysis uses all the relevant data and because easy-to-use computer
software does the analysis and provides useful measures of cost function reliability. The
major disadvantage of regression analysis is that it requires statistical sophistication to use
properly.

3-25 At a conference, a consultant stated, “Before you can control, you must measure.”
An executive complained, “Why bother to measure when work rules and guaranteed
employment provisions in labor contracts prevent discharging workers, using part-time
employees, and using overtime?” Evaluate these comments.

CH4

4-1 Define a cost management system and give its three purposes?

1) To provide Cost information for strategic management decisions

2) To provide cost information for operational control.
3) For measures of inventory value and cost of goods sold for financial reporting.

4-2 Cost management systems have three primary purposes. For each of the decisions
listed next, indicate the purpose of the CMS being applied?
 1) c- For measure of inventory value and cost of goods sold for financial reporting.

2) A- To provide cost information for operational control

4) B- To provide Cost information for strategic management decisions

4-3 Name four examples of cost objects?

1)Customers
2)Service
3)Departments
4)Product

4-4 “Products are the main cost objects. Departments are seldom cost
objects.” Do you agree? Explain.

Not agree, because internal structure of an organization requires departments management

and it costs. And organization may influence the departments.

4-5 What is the major purpose of detailed cost accounting systems?

Management decisions making and financial reporting.

4-6 What are the two major processes performed by a cost accounting system? Describe
both of them

Cos accumulation: Collecting costs by some ‘’natural’’ classification such as materials or

labour

Cost assignment: Tracing costs to one or more cost objectives.

4-7 Why are cost accounting systems critically important to managers?

Because only right structured accounting systems may lead to the good efficiently of an
organization. Only those decisions that were made under the right structured accounting
systems will lead to success in business.

4-8 Distinguish between direct, indirect, and unallocated costs.

Direct costs can be identified specially and exclusively with a given cost object

Indirect costs cannot be identifies identified specially and exclusively with a given cost object

Unallocated costs are not included in the calculation of cost of goods sol

4-9 “The same cost can be direct and indirect.” Do you agree? Explain.
I agree, it depends on the business direction, and for the one company cost it may be direct
whereas the same cost for another would be indirect.

4-10 How does the idea of economic feasibility relate to the distinction between direct
and indi- rect costs?

It is a condition of identification direct and indirect cost respectively.

4-11 What are four purposes for cost allocation?

 Predict economic effects of strategic and operational control decisions

 Provide desired motivation and feedback for performance evaluation
 Compute income and asset valuations for financial reporting
 Justify costs or obtain reimbursement

4-13 “A cost pool is a group of costs that accounting systems physically trace to the
appro- priate cost objective.” Do you agree? Explain.

Yes I agree, A cost pool is a grouping of individual costs , typically by department or

service center . Cost allocations are then made from the cost pool. For example, the cost
of the maintenance department is accumulated in a cost pool and then allocated to those
departments using its services.

4-14 List five terms that are sometimes used as substitutes for the word allocate

Distribute
Divide
Dispense
Share
Assign

4-15 “The typical traditional accounting system does not allocate costs associated with
value- chain functions other than production to units produced.” Do you agree?
Explain.

Yes, I agree because traditional system does not benchmarking products ,services and
activities to the best industry standards.

4-16 “It is better not to allocate some costs than to use a cost-allocation base that does
not make any sense.” Do you agree? Explain.

Yes, I agree. Because result of this allocation will not meet the expecting good result.
4-17 Production equipment maintenance, sales commissions, and process design costs
are part of a company’s costs. Identify which of these costs are most likely direct,
indirect, and unallocated with respect to the products manufactured.

equipment maintenance- inderect

sales commissions- Direct

process design-unallocated

4-18 “For a furniture manufacturer, glue or tacks become an integral part of the
finished product, so they would be direct material.” Do you agree? Explain.

The quantity of the direct material is strait forward related to the quantity of produced
product

4-19 “Depreciation is a period expense for financial statement purposes.” Do you agree?
Explain.

Yes, I agree however is only on of the possible view of the depreciation term and functions
4-20 Distinguish between costs and expenses.

Expenses are used for financial stetements (profit loss)

Costs are used in management accounting

4-21 Distinguish between manufacturing and merchandising companies. How do their

account- ing systems differ?

The manufacturing accounting system is more complicated since they are producing goods.
Manufacturing got more inventory volumes and kinds.
Whereas merchandising is a resale process.

4-22 Why is there a direct-materials inventory account but no direct-labor inventory

account on a manufacturing company’s balance sheet

Inventory has a material form while labour does not have one

4-23 “ABC systems are always more accurate than traditional costing systems.” Do you
agree? Explain.

Yes, I agree because it uses more evaluating criteria for company results measurements

4-24 Contrast activity-based costing (ABC) with activity-based management (ABM).

ABC is related to costs
ABM is using output of ABC system to improve operational control and strategic decision
making.

4-25 Explain how the layout of a plant’s produc- tion equipment can reduce non-value-
added costs.

Right layout decrease the non-valuable cost, e.g., the internal plant logistics.

4-26 Why do managers want to distinguish between value-added activities and non-
value- added activities?

Because the are differently affecting a product’s value to the customer.

4-27 What is benchmarking? What do companies use it for? How do they determine
benchmarks?

 Benchmarking is a tool to help an organization measure its competitive posture.

Benchmarks can come from within the organization, from competing organizations,
or from other organizations having similar processes.
 Benchmarking is the continuous process of comparing products, services, and
activities to the best industry standards.

4-28Why should caution be exercised when comparing company performance to

benchmarks?

Because while benchmarking an individual have to be concerned that he she is comparing the
same things.

4-29 Why are more organizations adopting ABC systems?

Because it has 8 main benefits,:

 set an optimal product mix

 estimate profit margins of new products
 determine consumption of shared resources
 keep pace with new product techniques
 keep pace with technological changes
 decrease costs associated with bad decisions
 take advantage of reduced cost of ABC
 Systems due to computer technology

4-30 (Appendix 4) Name four steps in the design and implementation of an ABC system

1)Activity Identification
2) Determination the relationships among cost objectives, activities, and resources.
3) Collect relevant data concerning costs and the physical flow of the cost-driver
units among resources and activities
4) Calculate and interpret the new activity-based information. Determine the traceable costs
for each of the activity cost pools. Determine the activity-based cost per account for each
customer class.

CH5

5-1 Describe the accountant’s role in decision making.

Primarily that of a technical expert on relevant information analysis, especially relevant costs.
The accountant is usually an information provider, not the decision maker, although the
accountant may be part of a management team charged with making decisions.

5-2 “Any future cost is relevant.” Do you agree? Explain.

No. Only future costs that are different under different alternatives are relevant to a decision.

5-3 Why are historical or past data irrelevant to special decisions?

Past data are unchangeable regardless of present or future action and thus would not differ
under different alternatives

5-4 Describe the role of past or historical costs in the decision process. That is, how do
these costs relate to the prediction method and the decision model?

Past costs may be bases for formulating predictions. However, past costs are not inputs to the
decision model itself because pastcosts cannot be changed by the decision.

5-5 “The distinction between precision and relevance should be kept in mind.” Explain.

Relevance is more crucial than precision in decision making, so may qualitative aspects
dominate quantitative (financial) impacts in many decisions. For example, the extreme
opposition of a militant labor union to new labor-saving machinery may cause a manager to
forgo installation of such machinery even if it would reduce manufacturing costs.

5-6 Distinguish between the quantitative and qualitative aspects of decisions.

Decisions may have both quantitative and qualitative aspects corresponding to the nature of
the facts being considered before deciding. Quantitative implications of alternative choices
can be expressed in monetary or numerical terms, suchas variable costs, initial
investment,etc. Other relevant features may not be quantifiable, such as the quality of life in a
choice between locating in Chicago or New York. These and other similar decisions would be
considered as qualitative.

5-7 What is the advantage of the contribution approach as compared with the
absorption
approach?

Contribution approach emphasizes on segregation of the total costs into fixed costs and
variable costs and uses variable and fixed cost behavior patterns and does not apply business
functions whereas absorption approach separates manufacturing costs from the non
manufacturing costs. In contribution approach variable costs are deducted from sales to arrive
at the contribution margin and further deduct fixed costs to attain the operating profit earned
by a firm for a specific prduct line.

5-8 “The primary classifications of costs are by variable and fixed-cost behavior
patterns, not by business functions.” Name three commonly used terms that describe
this type of income statement.

direct costing, variable costing contribution approach,

5-9 “There is a commonality of approach to various special decisions.” Explain.

The commonalty of approach is the focus on the differences between future costs and
revenues of different available alternatives.

5-10 “Fixed costs are not relevant costs.” Do you agree? Explain.

No. Avoidable costs are all costs (both variable and fixed) that will not continue if an ongoing
operation is changed or deleted.

5-11 Why are customers one of the factors influencing pricing decisions?

Because they can buy or do without the product, they can make the product themselves, or
they can usually purchase a similar product from another supplier.

5-12 “Basing pricing on only the variable costs of a job results in suicidal underpricing.”
Do you agree? Why?

Yes. Mainly because the manufacturing costs include both variable and fixed. Hence,
excluding other costs in the pricing strategy can lead to a huge loss for the company. In
addition, once you have established the prices of your product or service in the market which
would be based on variable costs, it would be suicidal to increase them in a short-run, as
customers would perceive the good overpriced.

5-13 Provide three examples of pricing decisions other than the special order.

An organization need to reflect on its pricing decisions in many situations, one of which is
when a special order is been entailed by the company. However, there are time and situations
when restructuring or reflection on the pricing issues becomes essential. Out of the many
influential causes related to the pricing decisions taken by any organization

5-14 List three popular markup formulas for pricing.

Cost-plus, absorption-cost and pricing formula.

5-15 Describe two long-run effects that may lead to managers’ rejecting opportunities to
cut prices and obtain increases in short-run profits.

If the product/service is aggressively marketed today, which increases the costs, would result
in higher profits and customer demands in the future. Short-run profits would increase the
company’s market share in the lon-run, as they would attract more customers and increase
their brand recognition among them. For instance, manufacturing overhead costs are a part of
variable cost. On the other hand, fixed costs are those costs that do not fluctuate, and are of
the level of business activity.

5-16 Give two reasons why full costs are more widely used than variable costs for
guiding pricing.

Full cost pricing is when both the variable and fixed cost is considered for pricing decisions
of a product. For understanding the nature of the costs variable costs are those costs which
vary in direct proportion with the level of production or quantity produced. They change in
proportion to the total activity of the business.

5-17 What is target cost per unit?

Target cost per unit is the estimated or predicted long run cost per unit of production of any
product or service that when sold at a desired target price would enable a company to achieve
or attain a predefined targeted income per unit.

5-18 What is value engineering?

Value engineering is a systematic and organized approach to providing the necessary

functions in a project at the lowest cost. Value engineering promotes the substitution of
materials and methods with less expensive alternatives, without sacrificing functionality. It is
focused solely on the functions of various components and materials, rather than their
physical attributes.

5-19 What is kaizen costing?

The Japanese term for continuous improvement during manufacturing.

5-20 “In target costing, prices determine costs rather than vice versa.” Explain.

It is considered as a cost management tool in order to curb or prune the total cost of the
product over its entire life cycle with the help of functions or methods such as value
engineering, kaizen approach, research and design etc.

5-21 Many companies that use target costing involve both customers and suppliers in
product and process design. Explain why.
Target costing adds value to the production process by eliminating non-value added activities,
thus paving the way for decreased costs passed on to the consumer. Target costing enables
companies to ascertain a more realistic price as well as strengthen competition among firms
to offer quality products at lower costs.

5-22 If a target-costing system is used and the existing cost cannot be reduced to the
target cost through cost reductions, management should not produce and sell the
product. Do you agree? Explain.

Target costing improves product quality by making it an explicit objective of the product
development and costing processes. Cost targets cannot be achieved by compromising the
features that a customer desires or by reducing the performance or reliability of a product.
Reducing costs is at the heart of target costing. Unlike traditional methods, however, target
costing does not wait for production to start before managing

CH6

6-1 Distinguish between an opportunity cost and an outlay cost.

Outlay cost is a cost that requires a future cash disbursement. But opportunity cost is the
maximum avail- able benefit forgone (or passed up) by using a resource a company already
owns for a particular purpose instead of using it in the best alternative use.

6-2 “I had a chance to rent my summer home for 2 weeks for $800. But I chose to have it
idle. I didn’t want strangers living in my summer house.” What term in this chapter
describes the $800? Why?

It is an opportunity cost, because the maximum available benefit has been passed up by not
using the opportunity.

6-3“Accountants do not ordinarily record opportunity costs in the formal accounting

records.” Why?

Because there is no real loss or cost occurred by not taking the alternative. And as the cost
has not really occurred it should not be accounted for.
(The opportunity cost is just the difference between two alternatives.)

6-4 Distinguish between an incremental cost and a differential cost.

The incremental costs are additional costs or reduced revenues generated by the proposed
alternative.
Differential cost (differential revenue) is the difference in total cost (revenue) between two
alternatives.
incremental costs are additional costs or the decrease in revenue that is created by the
alternative but differential cost is the difference in the total costs between two alternatives.
6-5 “Incremental cost is the addition to costs from the manufacture of one unit.” Do you
agree? Explain.
No, because the incremental costs of the proposed alternative are the costs of producing the
additional number of items each time period (can be day, week, month, quarter, year and so
on). However, you can express it per unit bases too.

6-6 “The differential costs or incremental costs of increasing production from 1,000
automobiles to 1,200 automobiles per week would be the additional costs of producing
the additional 200 automobiles.” If production were reduced from 1,200 to 1,000
automobiles per week, what would the decline in costs be called?

If the production is reduced by 200 units it is incremental costs, because it reduces benefits
generated by the proposed alternative in comparison with the current situation. In other
words, there was incremental benefit when they increased the production and the incremental
cost when it was reduced, because the revenue created by it was reduced.

6-7 “Qualitative factors generally favor making over buying a component.” Do you
agree? Explain.

Qualitative factors to consider require more subjective judgment. For example, when
purchasing and using the qualitative factor method the long-term outlook regarding
production or purchasing the product and other things are taken into account. Therefore, yes,
it can have a favor making over buying a component.

6-8 “Choices are often mislabeled as simply make or buy.” Do you agree? Explain.

No, because managers very often have to determine ether to make it or not to.

6-9 “The key to decisions to delete a product or department is identifying avoidable

costs.” Do you agree? Explain.

No, because unavoidable costs have to be looked at too. Because sometimes the department
is operating at a loss, but it is reducing the amount of loss the shop would have without it.

6-10 Give four examples of limiting or scarce factors.

Examples of limiting factors include labor hours and machine hours that limit production
(and hence sales) in manufacturing firms, and square feet of floor space or cubic meters of
display space that limit sales in department stores.

6-11 What are joint products? Name several examples of joint products.

Joint products are two or more products that are generated within a single production process;
they cannot be produced separately and incur undifferentiated joint costs. Joint products
cannot be separated until a specific ‘split-off point’ or ‘separation point’. From this point
onwards, the two products can be processed individually.
For example, from milk butter, cream, cheese can be created.

6-12 What is the split-off point, and why is it important in analyzing joint costs?
The split-off point is that juncture of manufacturing where the joint products become
individually identifiable. The split-off point is very crucial because it is the point where the
costs for all of the joint products can be identified on their own and those costs are called
separable costs.

6-13 “No technique used to assign the joint cost to individual products should be used
for management decisions regarding whether a product should be sold at the split-off
point or processed further.” Do you agree? Explain.

No, there is a technique used to determine whether to process the products after the split off
point or to sell them before it. Because the decision will be made comparing the incremental
revenue after the split of point with the incremental costs after split off and if the incremental
revenue is more than incremental costs on further processing of a joint or by-product, it is
profitable to process.

6-14 “Inventory that was purchased for $5,000 should not be sold for less than $5,000
because such a sale would result in a loss.” Do you agree? Explain.
It depends, because the costs are occurred when the items are sold and in that case the every
items sold would bring loss because expenses would be higher than revenues form the sale,
however, the items sometimes can be sold at a loss to reduce the amount of losses that occur
while holding the inventory

6-17 Which of the following items are relevant to replacement decisions? Explain.
a. Book value of old equipment
b. Disposal value of old equipment
c. Cost of new equipment.
All of them are relevant to make the replacement decision, because when we are doing cost
comparison to determine to buy a new equipment then all of them should be taken into
account.

6-18“Some expected future costs may be irrelevant.” Do you agree? Explain.

Some future costs may be irrelevant because they will be the same under all feasible
alternatives.

6-19 “Variable costs are irrelevant whenever they do not differ among the alternatives
at hand.” Do you agree? Explain.

Yes, because when comparing two alternatives whose variable costs are the same they not
affect the final decision. These, too, we may safely ignore for a particular decision. Top
management salaries are examples of expected future costs that may be unaffected by the
decision at hand.

6-20 There are two major reasons why unit costs should be analyzed with care in
decision making. What are they?

Because the per unit costs can differ for different amounts produced and that has to be taken
into account when making decisions regarding producing by yourself or outsourcing. Also,
the unit costs can go the opposite way and reduce, because after a certain amount of
production the fixed costs will be covered and the per unit costs will decrease.
6-21“Machinery sales personnel sometimes erroneously brag about the low unit costs of
using their machines.” Identify one source of an error concerning the estimation of unit
costs.
There are two major ways to go wrong: (1) including irrelevant costs, such as the allocation
of unavoidable fixed costs (2) comparing unit costs not computed on the same volume basis.
The sales personnel can often forget about the depreciation and the age of the machinery and
they do not include it in the estimation for the per unit cost.