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acct chap 7

Terms in this set (21)

1. Accept an order at a special price
2. Make or buy component parts or finished products
3. Sell or process further
4. Repair, retain, or replace equipment
5. Eliminate an unprofitable business segment or product
Common types of decisions involving incremental analysis:
1. Identify the problem and assign responsibility
2. Determine and evaluate possible courses of action
3. Make a decision
4. Review results of the decision
Making decisions is an important management function.
Does not always follow a set pattern
Decisions vary in scope, urgency, and importance
Steps usually involved in process include:
Revenues and costs, and
Effect on overall profitability


Effect on employee turnover
The environment
Overall company image
In making business decisions,
Considers financial and non-financial information
Financial information:
Nonfinancial information:
incremental analysis
The process of identifying the financial data that change under alternative courses of action.
Both costs and revenues may vary or
Only revenues may vary or
Only costs may vary
incremental analysis
Process used to identify the financial data that change under alternative courses of action:
Relevant cost
Opportunity cost
Sunk cost
Important concepts used in incremental analysis:
-Sometimes involves changes that seem contrary to intuition
-Variable costs sometimes do not change under alternatives
-Fixed costs sometimes change between alternatives
How Incremental Analysis Works
Do not change under alternative courses of action
Incremental analysis is the process of identifying the financial data that
-To obtain additional business by making a major price concession to a specific customer
-Assumes that sales of products in other markets are not affected by special order
-Assumes that company is not operating at full capacity
special orders characteristics
not relevant

relevant to the decision
special orders

Fixed costs do not change since within existing capacity - thus fixed costs are
Variable manufacturing costs and expected revenues change - thus both are
Manufacturing costs that will be saved
The purchase price of the units
Opportunity costs
In a make-or-buy decision, relevant costs are:
opportunity cost
The lost potential benefit that could have been obtained from following an alternative course of action.
Process further as long as the incremental revenue from such processing exceeds the incremental processing costs
sell or process further
May have option to sell product at a given point in production or to process further and sell at a higher price.
Decision Rule:
sunk cost
a cost that has already been paid and cannot be recovered
Incremental processing costs
Process further as long as the incremental revenue from processing exceeds:
-Book value of old machine does not affect the decision
-Book value is a sunk cost
-sunk costs are not relevant in incremental analysis
Any trade-in allowance or cash disposal value of the existing asset is relevant
Repair, Retain, or Replace Equipment

Additional Considerations
Key: Focus on Relevant Costs
Eliminate Unprofitable Segment or Product
key:
-Consider effect on related product lines
-Fixed costs allocated to the unprofitable segment must be absorbed by the other segments
-Net income may decrease when an unprofitable segment is eliminated
Eliminate Unprofitable Segment or Product
Retain the segment unless fixed costs eliminated exceed contribution margin lost
Eliminate Unprofitable Segment or Product

Decision Rule:
Fixed expenses allocated to the eliminated segment will have to be absorbed by other segments.
If an unprofitable segment is eliminated:
special order
a one-time order that is not considered part of the company's normal ongoing business
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