6. Short term decision making Flashcards
What are the benefits of using absorption or marginal costing for decision makinG
-Absorption costing: is used for profit reporting and inventory valuation but is not useful for decision making
- Marginal costing: useful for decision making as it splits into fixed and variable elements
- The best option is the one that maximises contribution
Define relevant costs
- Costs and revenues appropriate to a specific management decision
- Future cash flows which magnitude will depend on outcome of decision
- Incremental: Incremental cost additional to original
- Cash flow: do not reflect additional cash spending
- Consider opportunity costs or avoidable costs
What are non relevant costs
- Sunk costs: costs already incurred
- Committed costs: already been committed to and cannot be avoided
- Notional Costs: non cash items/accounting entries
- Fixed costs: not relevant unless avoidable
Relevant cost of materials not in inventory
- Not in inventory
- So have to buy it
Relevant cost = current replacement cost
Relevant cost of materials in inventory
- In continual use + replaced = current replacement cost
- No other use + won’t be replaced = current resale value
- Scarce + Cannot replace = Opportunity cost
Relevant cost of labour
When there is…
Spare capacity = additional work can be taken = no relevant cost
Full Capacity = additional work cannot be taken
- Hire more staff: relevant cost is current rate of pay
- Cannot hire more staff: relevant cost is variable cost and lost contribution
What should we consider for relevant costs for machinery
- Repair costs
- Hire charges
- Fall in resale value
How does the concept of accruals used in relevant costing
- Not reevant as not based on cash
- Depreciation not relevant
How is the accounting concept of reliability in terms of relevant costing
- Relevant costs and revenue are in the future so can never be 100% reliable
How important is the accounting concept of relevance to relevant costing
- Always relavant
How is the accounting concept of completeness
-Relevant costs and revenues should be complete for decision made
How is the accounting concept of comparability for relevant costign
- Relevant costing allows for comparison between alternatives
- Sunk costs, non cash costs are excluded
How is the concept of going concern in relevant costing
- Future projects will usually be considered since business is trading
What are teh types of decisions made using relevant costing
- Minimum price
- Accept or reject
- Further processing?
-Shut down? - Make or buy
What should you consider when making make or buy decisions
- Capacity
- Could decision to use outside supplier cause dispute
- would contractor be reliable
- Does company wish to have control over operations or flexibilitiy
