Relevant Information and Decision-Making Chapter 6
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Questions and Answers

Which department has the highest segment margin?

  • Total
  • Groceries
  • Merchandise (correct)
  • Drugs
  • What is the total amount of unavoidable fixed costs?

  • 448
  • 35
  • 300
  • 180 (correct)
  • What is the annual income effect when choosing to remain an employee?

  • $20,000
  • $60,000
  • -$20,000 (correct)
  • $80,000
  • What is the total relevant cost per unit when deciding to make the part?

    <p>$8</p> Signup and view all the answers

    Which cost will be eliminated if the parts are bought instead of made?

    <p>Fixed factory overhead that can be avoided</p> Signup and view all the answers

    What contributes to a company's decision to always make parts internally?

    <p>Desire to maintain quality control</p> Signup and view all the answers

    When a company opts to buy instead of make, which of the following is a likely reason?

    <p>They aim to reduce costs associated with inventory.</p> Signup and view all the answers

    Which quantity represents the total difference in favor of making the parts?

    <p>$40,000</p> Signup and view all the answers

    What additional factor does a company need to assess in make-or-buy decisions?

    <p>Idle facilities availability</p> Signup and view all the answers

    What area does the decision to make or buy significantly impact?

    <p>Use of available facilities</p> Signup and view all the answers

    What are the total relevant costs if the Block Company decides to buy the plastic housings?

    <p>L.E. 1,350,000</p> Signup and view all the answers

    If the Block Company decides to buy the plastic housings, how would this impact their operating income?

    <p>It would decline by L.E. 80,000.</p> Signup and view all the answers

    What is the contribution margin from manufacturing the additional 20,000 units?

    <p>L.E. 540,000</p> Signup and view all the answers

    What is the excess cost of purchasing the housings compared to making them?

    <p>L.E. 620,000</p> Signup and view all the answers

    What are unavoidable costs?

    <p>Costs that continue despite changes in operations.</p> Signup and view all the answers

    What is the variable cost associated with buying 120,000 housings?

    <p>L.E. 1,620,000</p> Signup and view all the answers

    If the contribution from other products is considered, what is the total net relevant cost for using the facilities for other products?

    <p>L.E. 145</p> Signup and view all the answers

    What would be the impact on operating income if the order of L.E. 82,000 for 1,000 drills was accepted?

    <p>Increase by L.E. 15,000</p> Signup and view all the answers

    What happens to the fixed costs if the Block Company chooses to buy instead of make the housings?

    <p>They remain unchanged.</p> Signup and view all the answers

    Why is segment margin important in decision-making?

    <p>It shows the contribution towards covering unavoidable costs.</p> Signup and view all the answers

    Which expenses are considered when calculating segment margin?

    <p>Direct variable expenses and avoidable fixed expenses.</p> Signup and view all the answers

    Which statement is true regarding avoidable costs in relation to the product line?

    <p>They consist mainly of salaries and specific operational costs.</p> Signup and view all the answers

    What is the total fixed cost for manufacturing electrical components?

    <p>L.E. 2,220,000</p> Signup and view all the answers

    What would be the impact of making the housings on the operating income of the Block Company?

    <p>It would be unaffected if the facilities are idle.</p> Signup and view all the answers

    What would the cost per unit be if a supplier offered to manufacture plastic housings for L.E. 13.50 each?

    <p>L.E. 13.50</p> Signup and view all the answers

    Which of the following is a characteristic of avoidable costs?

    <p>They can be eliminated if a department is deleted.</p> Signup and view all the answers

    What does segment margin represent?

    <p>The amount remaining to cover unavoidable fixed expenses after deducting relevant costs.</p> Signup and view all the answers

    What is the contribution margin calculated for the electrical components?

    <p>L.E. 3,000,000</p> Signup and view all the answers

    What is the primary focus when making decisions to delete a department?

    <p>The contribution margin and its impact on unavoidable costs.</p> Signup and view all the answers

    What total variable costs are incurred for the plastic housing production?

    <p>L.E. 1,000,000</p> Signup and view all the answers

    What was the president's reason for rejecting the order for additional drills?

    <p>It was below the total costs of L.E. 97 per unit.</p> Signup and view all the answers

    Which costs are included in many common costs shared by users?

    <p>Heating and air conditioning costs.</p> Signup and view all the answers

    What should be considered irrelevant in continuation or elimination decisions?

    <p>Unavoidable costs.</p> Signup and view all the answers

    What is the per unit contribution margin for product B?

    <p>$25</p> Signup and view all the answers

    Which product has the highest contribution margin per hour?

    <p>Product B</p> Signup and view all the answers

    How many total hours are needed to produce the optimal mix of products?

    <p>100,000 hours</p> Signup and view all the answers

    Which allocation results in the highest total contribution margin?

    <p>Optimal allocation</p> Signup and view all the answers

    If 100,000 hours are available, what is the status of resource utilization after optimal allocation?

    <p>Some hours remain unutilized</p> Signup and view all the answers

    Why might managing a product's contribution margin lead to challenges in resource allocation?

    <p>Favoring products with high margins can ignore resource scarcity</p> Signup and view all the answers

    What is the consequence of allocating resources based only on per unit contribution margin?

    <p>Leads to reduced total contribution margin</p> Signup and view all the answers

    Which of the following scenarios could complicate the use of the contribution approach?

    <p>More than one resource is scarce</p> Signup and view all the answers

    Study Notes

    Relevant Information and Decision-Making

    • Chapter 6 focuses on relevant information and decision-making, particularly regarding operational decisions.
    • Objective 1: Defining and using opportunity cost to analyze income effects of alternatives.
    • Opportunity cost: The maximum potential contribution to profit that is forgone by using limited resources for a particular purpose. It is not the usual recorded outlay cost but the contribution of the best alternative that is excluded.
    • Outlay cost: A cost requiring a cash disbursement; the typical cost recorded by accounts.
    • Differential cost (or incremental cost): The difference in total costs between two alternatives.

    Opportunity Cost

    • The contribution to profit of the rejected alternative is the opportunity cost. This alternative is excluded from consideration
    • Example: Salary forgone by a person who quits a job to start a business.

    Alternatives under Consideration

    • A comparison of potential alternatives (e.g., remaining as an employee vs. opening a new business).

    • Data is provided in a table format to determine revenue, outlay costs, and income effect for each alternative.

    • The opportunity cost from the forgone salary is illustrated by one table showing the new business versus remaining as an employee.

    Make or Buy Decisions

    • Companies often decide whether to produce their parts internally or acquire them externally.
    • Qualitative (like quality control) and quantitative (cost) factors influence the decision.
    • Relevant costs in make-or-buy: Additional variable costs and fixed costs avoided if a part is bought instead of being manufactured.
    • Tables show a comparison between 'Make' and 'Buy' options, including purchase cost, direct material, direct labor, variable factory overhead, fixed factory overhead (avoidable) and total relevant cost for both options.

    Make or Buy: Use of Facilities

    • Make-or-buy decisions depend on optimal utilization of available facilities.
    • The choice includes whether to make or buy, how to use resources best.
    • Resources can be used for other manufacturing or rented.

    Alternatives

    • Tables present various alternatives for the decision to 'make or buy'. Alternatives and the accompanying data show implications like rent revenues, contributions from other products or obtaining of parts.

    Example

    • Tables demonstrate revenue, variable costs, and the computation of contribution margin and operating income for different product lines (like electrical and mechanical components).

    Required Analysis

    • Examples of required analyses for prospective or alternative decisions, like special orders, impact of the company buying parts instead of making them, and producing alternative versions of a product.

    Solution

    • Demonstrates the calculations for special orders, highlighting the criticality of recognizing opportunity costs
    • Detailed breakdown of costs to support decisions, highlighting relevant costs

    Segment Margin (or Product Line Margin)

    • Excess of revenue over both direct variable costs and avoidable fixed costs. Represents the amount left to cover unavoidable fixed costs plus generate profit.
    • This figure forms the basis for making decisions on continuing or discontinuing product lines or specific segments.

    Cost Categories (Avoidable & Unavoidable Costs)

    • Avoidable Costs: These costs can be eliminated if a specific segment is discontinued.
    • Unavoidable Costs: These costs will continue despite the segment's shutdown. Common costs are a key example of unavoidable costs.
    • The focus in decision making is usually on avoidable costs

    Deletion or Addition of Products/Departments

    • The same principles for evaluating special orders apply to decisions on adding or deleting product lines/departments. Avoidable and unavoidable costs are critical factors.
    • Avoidable costs are relevant
    • Unavoidable costs are not relevant

    Segment Margin Income Statement

    • Provides a structure for analyzing cost structure (like avoidable and unavoidable costs) to inform product or segment decisions.
    • Shows Sales, Variable costs, Contribution Margin, Avoidable fixed expenses, Segment margin, Unavoidable Fixed Costs and operating income
    • Tables include categories with values, or examples of values to calculate a margin

    Store as a Whole

    • Tables showcase the impact of dropping certain segments on the store's performance (like in the case of the grocery department, and the effect of the store's overall performance) - This section analyzes the store's performance before and after a change.

    Assumptions

    • Clarifying assumptions that underlie a decision (e.g., no alternative use for assets released by dropping a segment).

    Optimal Use of Limited Resources

    • The contribution approach is used to identify the best product mix to maximize profit when limited resources (scarce resources).
    • This involves ranking products based on contribution margin per unit of the limiting factor.
    • Limiting factors (or constraints) are the factors that hold back production (like labor hours, machine hours or square footage).

    Difficulties in Procedure

    • Applying the procedure if more than one scarce resource exists requires more complex methods (e.g., linear programming).

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    Description

    This quiz covers Chapter 6 on relevant information and decision-making, focusing on operational decisions and opportunity cost. Understand the concepts of outlay cost, differential cost, and how to analyze the income effects of different alternatives effectively.

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