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Handout Relevant Costing and Differential Analysis

The document covers relevant costing, which involves identifying costs that will change due to specific decisions, aiding management in non-routine operating decisions. It distinguishes between relevant and irrelevant costs, outlines types of non-routine decisions, and provides examples and computations for scenarios like make or buy, accept or reject special orders, and shutdown or continue decisions. Additionally, it includes sample problems to illustrate decision-making processes in strategic business analysis.

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16 views3 pages

Handout Relevant Costing and Differential Analysis

The document covers relevant costing, which involves identifying costs that will change due to specific decisions, aiding management in non-routine operating decisions. It distinguishes between relevant and irrelevant costs, outlines types of non-routine decisions, and provides examples and computations for scenarios like make or buy, accept or reject special orders, and shutdown or continue decisions. Additionally, it includes sample problems to illustrate decision-making processes in strategic business analysis.

Uploaded by

lovenico092
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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ACC 223 – STRATEGIC BUSINESS ANALYSIS

RELEVANT COSTING
LECTURE NOTES

RELEVANT COSTING
• Is the process of identifying and analyzing costs that will change as a result of a specific
decision
• Aids management in making non-routine operating decisions by analyzing relevant costs
and benefits

RELEVANT COSTS
• Are future expected costs that differ between decision alternatives
• Ex. Variable costs, avoidable fixed costs, imputed costs, opportunity costs, savings

Characteristics of Relevant Cost


(1) Future-oriented: They are expected costs that will be incurred in the future, not
historical costs.
(2) Differential: They vary in amount from one alternative to another.

Note: The relevance of a cost is situational.

IRRELEVANT COSTS
• Costs that do not change in amount regardless of the alternative
• Ex. Sunk costs, discretionary and committed costs

TYPES FOF NON-ROUTINE OPERATING DECISIONS

Non-Routine Computations Decision Guidelines


Operating Decision
Make or Buy Cost to Make Cost to Buy Choose the
Direct Materials xx alternative with
Direct Labor xx lower cost.
Variable FOH xx
Avoidable Fixed FOH xx
Purchase Price xx

Savings if part is bought (xx)


Rental income from
released facilities xx
CM from a new product
being produced from
released facilities xx
Rental expense if part is
bought xx
Total costs xx xx

Accept or Reject Incremental Sales xx If there is


Special Order Less: Incremental Costs (xx) incremental profit,
CM from lost sales (xx) accept the special
Incremental Profit/Loss xx order.

Shutdown or Loss from Continuing Operations Choose alternative


Continue CM xx that results to lower
Less: Fixed Costs (xx) loss
Loss from Continuing Operations xx
Or
Loss from Discontinuing Operations
Start-up Costs xx If sales > shutdown
Unavoidable fixed costs xx Point, continue
ACC 223 – STRATEGIC BUSINESS ANALYSIS
RELEVANT COSTING
LECTURE NOTES
Total Shutdown Costs/Loss from If sales < shutdown
Discontinuing Operations xx point, discontinue
Shutdown Point
• The level of operations where loss from
continuing is equal to loss from
discontinuing
• Expressed in no. of units

Shutdown Point = Fixed Costs – Shutdown Costs


CM per Unit

Sell As Is or Process Incremental Sales from Processing Further xx If there is


Further Less: Incremental Costs (xx) incremental profit
Incremental Profit/Loss xx from processing
further, process
further.
Drop or Continue Sales xx If segment margin is
Less: Variable Costs (xx) positive, continue.
Contribution Margin xx
Less: Direct/traceable fixed costs (xx)
Segment Margin xx

Replace or Retain Keep Replace Choose alternative


Revenues xx xx with higher
Operating costs (xx) (xx) operating income.
Depreciation expense (xx) (xx)
Write-off of old equipment (xx)
Salvage value of old equipment xx
Operating income xx xx

Utilization of Scarce Contribution margin per unit xx Prioritize products


Resources ÷ Qty. of scarce resource per unit ÷ xx with the highest CM
Contribution margin per scarce resource xx per scarce
resource.

Other Sample Problems

Shutdown or Continue
Bulusan Company normally produces and sells 30,000 units of E14 each month. E14 is a small
electrical relay used in the automotive industry as a component part in various products. The selling
price is P22 per unit, variable costs are P14 per unit, fixed manufacturing overhead costs total
P150,000 per month, and fixed selling costs total P30,000 per month. Employment-contract strikes
in the companies that purchase the bulk of the E14 have caused Bulusan Company’s sales to
temporarily drop to only 9,000 units per month. Bulusan Company estimates that the strikes will last
for about two months, after which time sales of E14 should return to normal. Due to the current low
level of sales, however, Bulusan Company is thinking about closing down its own plant during the two
months that the strikes are on. If Bulusan Company does close down its plant, it is estimated that
fixed manufacturing overhead costs can be reduced to P105,000 per month and that fixed selling
costs can be reduced by 10%. Start-up costs at the end of the shutdown period would total P8,000.
Since Bulusan Company uses just-in-time production method, no inventories are on hand.

At what level of unit sales for the two-month period should Bulusan Company be indifferent between
temporarily closing the plant or keeping it open?
A. 11,000 C. 10,000
B. 24,125 D. 8,000
ACC 223 – STRATEGIC BUSINESS ANALYSIS
RELEVANT COSTING
LECTURE NOTES
Sell As-Is or Process Further

Beal Company is starting business and is unsure of whether to sell its product assembled or
unassembled. The unit cost of the unassembled product is P40 and Beal Company would sell it for
P90. The cost to assemble the product is estimated at P18 per unit and Beal Company believes the
market would support a price of P116 on the assembled unit.

What is the correct decision using the sell or process further decision rule?
A. Sell before assembly, the company will be better off by P18 per unit.
B. Sell before assembly, the company will be better off by P26 per unit.
C. Process further, the company will be better off by P26 per unit.
D. Process further, the company will be better off by P8 per unit.

Sales of 25,000 units at P7.20 per unit are made monthly. The unit cost is P5.90. Incremental costs
of P1.35 per unit to further process the units will result in the 25,000 units being sold for P8.75 each.

Which course of action should the company take?


A. Commit its resources to a different product
B. Sell the units at the current stage of completion
C. Do further processing and sell the units at P8.75
D. Do further processing on only one-half of the units

Profit Maximization

Product A sells for P12 per unit and its variable cost per unit is P10. Product B sells for P15 per unit
and its variable cost per unit is P12. The plant capacity is 350,000 machine hours and Product A
requires 48 minutes to complete while Product B requires 75 minutes. Which of the following will
provide the best sales mix of Product A and Product B assuming the market limitation of Product A is
200,000 units and the market limitation of Product B is 250,000 units?
A. 46,875 units of Product A, 250,000 units of Product B
B. 200,000 units of Product A, 152,000 units of Product B
C. 152,000 units of Product A, 200,000 units of Product B
D. 100,000 units of Product A, 250,000 units of Product B

Dimasalang Company has only 25,000 hours of machine time each month to manufacture its two
products. Product X has a contribution margin of P50 and Product Y has a contribution margin of P64.
Product X requires 5 machine hours and Product Y, 8 hours. If Dimasalang wants to dedicate 80% of
its machine time to the product that will provide the most income, it will have a total contribution
margin of
A. P250,000 C. P210,000
B. P240,000 D. P200,000

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