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Chapter 11
Decision Making and Relevant information

A decision model is a formal method of making a choice that often involves both quantitative
and qualitative analyses. Management accountants analyze and present relevant data to guide
managers’ decisions.
Note that
 Managers usually follow a decision model for choosing among different courses of action.
Five-Step Decision-Making Process
Step 2:
Make Step 3: Step 4:
Step 1: Step 5:
Predictions Choose Implement
Obtain Evaluate
About An The
Information Performance
Future Alternative Decision
Costs

Feedback

This feedback might affect future predictions, the prediction methods used, the way choices are
made, or the implementation of the decision.
The Concept of Relevance
 Relevant costs—expected future costs
 Relevant revenues—expected future revenues
It is important to recognize that to be relevant costs and relevant revenues they must
 It occurs in the future
 It differs among the alternative courses of action

 Past (historical) costs may be helpful as a basis for making predictions. However, past
costs themselves are always irrelevant when making decisions.
 Different alternatives can be compared by examining differences in expected total future
revenues and expected total future costs.

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  Not all expected future revenues and expected future costs are relevant. Expected
future revenues and expected future costs that do not differ among alternatives are
irrelevant and, hence can be eliminated from the analysis.
 Appropriate weight must be given to qualitative factors and quantitative nonfinancial factors.
Sunk Costs Are Irrelevant in Decision Making
 Costs that have already occurred and can not be changed are classified as sunk costs.
 Sunk costs are excluded because they can not be changed by future actions.
 These are costs that were incurred in the past and are not recordable.
Example: 11-16 Disposal of assets. Answer the following questions.
1. A company has an inventory of 1,100 assorted parts for a line of missiles that has been
discontinued. The inventory cost is $78,000. The parts can be either (a) remachined at
total additional costs of $24,500 and then sold for $33,000 or (b) sold as scrap for
$6,500. Which action is more profitable? Show your calculations.

2. A truck, costing $101,000 and uninsured, is wrecked its first day in use. It can be either
(a) disposed of for $17,500 cash and replaced with a similar truck costing $103,500 or (b)
rebuilt for $89,500, and thus be brand-new as far as operating characteristics and looks
are concerned. Which action is less costly? Show your calculations.

Example 2: DeCesare Computers makes 5,200 units of a circuit board, CB76 at a cost of $280
each. Variable cost per unit is $190 and fixed cost per unit is $90. Peach Electronics offers to
supply 5,200 units of CB76 for $260. If DeCesare buys from Peach it will be able to save $10
per unit in fixed costs but continue to incur the remaining $80 per unit. Should DeCesare
accept Peach’s offer?

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Example 3 :

Types of Information
 Quantitative factors are outcomes that can be measured in numerical terms.
 Qualitative factors are outcomes that are difficult to measure accurately in
numerical terms, such as satisfaction.
 Qualitative factors are just as important as quantitative factors even
though they are difficult to measure.
Note that
Non-quantitative factors may be extremely important in an evaluation process such as :
 Quality requirements
 Reputation ‫ سمعه‬of outsourcer
 Employee morale ‫معنويه‬
 Logistical considerations—distance from plant, and so on

Special type of opportunity cost: holding cost for inventory—funds tied up in inventory are not
available for investment elsewhere

Types of Decisions
 One-time-only special orders
 In sourcing vs. outsourcing
 Make or buy
 Product-mix
 Customer profitability
 Branch/segment: adding or discontinuing
 Equipment replacement

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One-time-only special orders
 Accepting or rejecting special orders when there is idle production capacity and
the special orders have no long-run implications
The relevant revenues and costs are the expected future revenues and costs that differ as a
result of accepting the special offer to buy 5,000 towels from Surf Gear in August at $11 per

Make-or-Buy Illustration