Notes
Notes
✓ If a company is deciding whether to make or buy it from an outside supplier, the alternatives are
MAKE or BUY the component part.
✓ If a company is considering discontinuing a product, the alternatives are KEEP or DROP.
Once you’ve defined the alternatives, you need to identify the criteria for choosing among them. The key
to choosing among alternatives is distinguishing between Relevant and Irrelevant costs and benefits.
✓ RELEVANT COSTS AND RELEVANT BENEFITS – should be considered when making decisions.
✓ IRRELEVANT COSTS AND IRRELEVANT BENEFITS – should be ignored when making decisions.
The key to effective decision making is Differential Analysis – focusing on the future costs and benefits
that differ between the alternatives. Everything else is irrelevant and should be ignored. Differential
costs and benefits can be qualitative/quantitative.
✓ DIFFERENTIAL COST – a future cost that differs between any two alternatives. *Relevant
✓ DIFFERENTIAL REVENUE – future revenue that differs between any two alternatives. *Relevant
The terms Incremental Cost and Avoidable Cost are often used to describe Differential Costs.