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Using Accounting for Decision-Making

27. Using Accounting for Decision-Making. Incremental analysis Special sales orders Make or buy decisions Eliminate unprofitable segment. Equipment Replacement Decision . Old Equip New Equip Estimated life 4 yrs 4 yrs Original cost $60,000 $20,000 Accum. deprec 36,000 N/A

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Using Accounting for Decision-Making

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  1. 27 Using Accounting for Decision-Making • Incremental analysis • Special sales orders • Make or buy decisions • Eliminate unprofitable segment

  2. Equipment Replacement Decision Old Equip New Equip Estimated life 4 yrs 4 yrs Original cost $60,000 $20,000 Accum. deprec 36,000 N/A Disposal value now 2,500 N/A Disposal value in 4 yrs 0 0 Operating exp / year 7,000 2,000 Should the old equipment be replaced?

  3. Consider future cash-in and cash-out… … for all years affected. difference

  4. Dropping a Product Line First Class Business Coach . (10 seats) (16 seats) (150 seats) Sales $10,000 $ 5,600 $36,000 Variable 300 320 300 Contrib Margin $ 9,700 $ 5,280 $35,700 Avoidable fixed 750 500 500 Unavoidable fixed 2,500 4,000 37,500 Operating Income $ 6,450 $ 780 $(2,300) Should the airline discontinue coach service?

  5. difference • Watch for unavoidable costs that do not change even when you drop a product line. • Beware: some of these costs might be allocated!

  6. Special Sales Orders Gizmo Incorporated Sales (8400 units) $294,000 $35 Cost of Goods Sold 268,800 32 Gross Margin $ 25,200 $ 3 Selling and Admin 16,800 2 Operating Income $ 8,400$ 1 Should Gizmo accept a special sales order of 1,000 units at $28 per unit?

  7. Unit costs can be misleading. • Distinguish between fixed and variable costs. • How will total costs change? difference Sales ($35/unit or $28/unit) $294,000

  8. Make-or-Buy Decisions DM $ 6,400 $0.10 DL 320,000 5.00 MOH Super salary $ 40,000 Utilities 11,000 Rent 25,000 Depreciation 564,000 Total MOH 640,000 10.00 Total cost $966,400 $15.10 Gizmo Incorporated Should BMI continue to make microprocessors or buy them externally for $12.00?

  9. difference

  10. Outsourcing • Buying a service that was previously performed within the firm. • Buying a component part that was previously made by the firm.

  11. Opportunity Cost Potential benefit that may be obtained by following an alternative course of action. What is the opportunity cost? You cut your own hair. A company just had a very profitable year and is considering paying-off all its loans. The Winona Products example.

  12. General Guidelines Beware of unit costs • Analyze total revenues and costs. Recognize costs that will not change • Many fixed costs are unavoidable. • Historical costs are sunk. Beware of allocated costs • Many shared costs are unavoidable. Be aware of limited resources • Analyze CM per limited resource.

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