B2-2 Flashcards
Clay Co. has considerable excess manufacturing capacity. A special job order’s cost sheet includes the following applied manufacturing overhead costs:
Fixed costs $ 21,000
Variable costs 33,000
The fixed costs include a normal $3,700 allocation for in-house design costs, although no in-house design will be done. Instead the job will require the use of external designers costing $7,750. What is the total amount to be included in the calculation to determine the minimum acceptable price for the job?
a.
$40,750
b.
$58,050
c.
$36,700
d.
$54,000
Choice “a” is correct. The minimum acceptable selling price should include only the incremental costs associated with the order: $33,000 variable costs + $7,750 external designers costs = $40,750. Note that this is a special order (won’t affect regular sales) and there is idle capacity.
Choice “c” is incorrect. The $3,700 allocation of in-house design costs should not be included as it is not an incremental cost for this special order.
Choice “d” is incorrect. The $21,000 fixed costs should not be included as they are not incremental costs for this special order.
Choice “b” is incorrect. No part of the $21,000 fixed costs should be included as they are not incremental costs for this special order.
Comel, Inc. has two major product lines: stoves and dryers. Comel’s management wants to evaluate whether discontinuing dryers will increase profits. Which of the following is best for evaluating the discontinuance of the dryer product line?
a.
Relevant cost.
b.
Variable cost.
c.
Absorption cost.
d.
Throughput cost.
Choice “a” is correct. When considering alternatives, such as discontinuation of a product line, management should consider relevant costs. Relevant costs are those costs that will change under different alternatives.
Choice “c” is incorrect. Absorption costs represent an accounting for resources used that are usually consistent with generally accepted accounting principles and include fixed costs that frequently do not change with the selection of different alternatives
Choice “b” is incorrect. Variable costs are those costs that increase or decrease with changes in production. Variable costs do not embrace all costs that will change in the event of different alternatives, only changes in production.
Choice “d” is incorrect. Throughput costs represent the costs associated with conversion of resources into a finished product and do not represent costs that will change in the event of selecting between different alternatives associated with abandoning a segment.
When a multi-product plant operates at full capacity, quite often decisions must be made as to which products to emphasize. These decisions are frequently made with a short-run focus. In making such decisions, managers should select products with the:
a.
Highest contribution margin per unit of the constraining resource.
b.
Highest sales price per unit.
c.
Highest individual unit contribution margin.
d.
Lowest variable cost per unit.
Choice “a” is correct. In making decisions about which products to emphasize, managers should select products with the highest contribution margin per unit of the constraining resource.
Choice “b” is incorrect. Highest sales price per unit may be overshadowed by high cost of goods sold.
Choice “c” is incorrect. Highest individual unit contribution margin ignores the presence of constraining resources.
Choice “d” is incorrect. If selling price is quite low, even with the lowest variable cost per unit, contribution margin is quite low.
The Danforth corporation circuit production plant has a 12,000 unit capacity and currently produces 10,000 circuits per year. The company incurs $50,000 in variable costs for its current production and carries a $40,000 fixed cost burden. If Danforth has an opportunity to fill a special order for 1,000 circuits, the price per unit for the order should exceed:
a.
$5.00
b.
$8.33
c.
$4.00
d.
$9.00
Choice “a” is correct. Assuming available capacity, the minimum cost per unit of a special order is equal to the variable cost per unit. Fixed costs are irrelevant.
Choice “c” is incorrect. The fixed cost per unit is not the minimum charge.
Choice “b” is incorrect. The variable cost per unit plus the fixed costs spread over available capacity is not the minimum charge. Fixed costs are irrelevant.
Choice “d” is incorrect. The variable cost per unit plus the fixed costs spread over current utilization is not the minimum charge. Fixed costs are irrelevant.
A company is offered a one-time special order for its product and has the capacity to take this order without losing current business. Variable costs per unit and fixed costs in total will be the same. The gross profit for the special order will be 10%, which is 15% less than the usual gross profit. What impact will this order have on total fixed costs and operating income?
a.
Total fixed costs do not change, and operating income does not change.
b.
Total fixed costs increase, and operating income decreases.
c.
Total fixed costs do not change, and operating income increases.
d.
Total fixed costs increase, and operating income increases.
Choice “c” is correct. Adding a job with a positive contribution margin within idle capacity will increase operating income. The company will still make a profit for the special order even though the gross profit percent will be lower. The question states that fixed costs in total will be the same (i.e., the company is operating within the relevant range). Variable costs per unit will be the same.
Note: Fixed costs per unit decrease with increased production.
Choices “d” and “b” are incorrect. Fixed costs will not increase within the relevant range.
Choice “a” is incorrect. Operating income will increase since the new job has a positive margin and is utilizing otherwise idle capacity.
Which of the following statements is true regarding opportunity cost?
a.
Idle space that has no alternative use has an opportunity cost of zero.
b.
Opportunity cost is recorded in the accounts of an organization that has a full costing system.
c.
Opportunity cost is representative of actual dollar outlay.
d.
The potential benefit is not sacrificed when selecting an alternative.
Choice “a” is correct. Opportunity cost is the potential benefit lost by selecting a particular course of action. If idle space has no alternative use, there is no benefit foregone; opportunity cost is zero.
Choice “b” is incorrect. Opportunity costs are not recorded in the accounting records.
Choice “d” is incorrect. Opportunity cost is the potential benefit lost by selecting a particular course of action.
Choice “c” is incorrect. Opportunity costs do not represent actual cash outlays.
In situations when management must decide on accepting or rejecting one-time-only special orders, where there is sufficient idle capacity, which one of the following is not relevant to the decision?
a.
Direct costs.
b.
Absorption costs.
c.
Incremental costs.
d.
Variable costs.
Choice “b” is correct. Absorption costs are not relevant in situations when management must decide on accepting or rejecting one-time-only special orders, and where there is sufficient idle capacity.
All of the following costs are relevant in such situations:
a.
Direct costs
d.
Variable costs
c.
Incremental costs
The relevance of a particular cost to a decision is determined by:
a.
Accuracy of the cost.
b.
Riskiness of the decision.
c.
Potential effect on the decision.
d.
Number of decision variables.
Choice “c” is correct. The relevance of a particular cost to a decision is determined by potential effect on the decision. Relevant costs are expected future costs that vary with the action taken. All other costs are assumed to be constant and thus have no effect on the decision.
The relevance of a particular cost to a decision is not determined by:
b.
Riskiness of the decision.
d.
Number of decision variables.
a.
Accuracy of the cost.
The CPA reviewed the minutes of a board of director’s meeting of LQR Corp., an audit client. An order for widget handles was outsourced to SDT Corp. because LQR couldn’t fill the order. By having SDT produce the order, LQR was able to realize $100,000 in sales profits that otherwise would have been lost. The outsourcing added a cost of $10,000, but LQR was ahead by $90,000 when the order was completed. Which of the following statements is correct regarding LQR’s action?
a.
The use of resource markets outside of LQR involves opportunity cost.
b.
Accounting profit is total revenue minus explicit costs and implicit costs.
c.
Explicit costs are opportunity costs from purchasing widget handles from resource market.
d.
Implicit costs are not opportunity costs because they are internal costs.
Choice “a” is correct. The use of resource markets outside of LQR involves opportunity cost. Opportunity costs are costs that would have been saved or the profit that would have been earned if another decision alternative had been selected. Financial accounting records do not record opportunity costs.
Choice “b” is incorrect. Accounting profit is total revenue minus total explicit costs, not total explicit and implicit costs. Implicit costs are opportunity costs and are ignored in financial accounting.
Choice “d” is incorrect. Implicit costs are opportunity costs.
Choice “c” is incorrect. Explicit costs are not opportunity costs. Explicit costs are documented out-of-pocket costs.
The Waller Walleye Plant is operating at capacity and currently generates revenue of $1,600,000 per year by processing stewed walleye for cat food. The plant currently has a 15% contribution margin. The company has been offered the opportunity to prepare stewed sturgeon for upscale cat food using one-quarter of the plant’s capacity. The sturgeon job would take one year and pay $600,000 with a 25% contribution margin. The opportunity cost of not accepting the sturgeon project is:
a.
$600,000
b.
$90,000
c.
$200,000
d.
$150,000
Choice “d” is correct. The opportunity cost is the opportunity foregone, the $150,000 in lost contribution from not taking the new job:
Sales $ 600,000
Variable costs (75%) (450,000)
Contribution (25%) $ 150,000
Choice “a” is incorrect. The opportunity foregone is not the amount of the gross sales foregone.
Choice “c” is incorrect. The opportunity foregone is not the difference between sales under either alternative ($600,000 - [$1,600,000 x 25%]) or $600,000 - $400,000 = $200,000.
Choice “b” is incorrect. The opportunity foregone is the lost contribution of the alternative, NOT the difference between the contribution margin of the proposed alternative ($150,000) and the current 15% contribution margin of $60,000 ([$1,600,000 x 25%] x 15%). The difference of $90,000 ($150,000 - $60,000) is the differential cost (and highly relevant to decision-making), but it is not the opportunity cost.
The opportunity cost of making a component part where there is no alternative use for the factory is:
a.
Zero.
b.
The total manufacturing cost of the component.
c.
The fixed manufacturing cost of the component.
d.
The total variable cost of the component.
Choice “a” is correct. Zero. If there is excess capacity, then it is not possible to have an opportunity cost because nothing is being foregone.
Choices “b”, “d”, and “c” are incorrect, per above
The Danforth corporation circuit production plant has a 10,000 unit capacity and currently produces 10,000 circuits per year. The company incurs $50,000 in variable costs for its current production and carries a $40,000 fixed cost burden. Danforth has explored other alternatives and knows that the next best alternative would produce a $2,000 contribution margin for a 1,000 unit run. If Danforth has an opportunity to fill a special order for 1,000 circuits, the price per unit of the order should exceed:
a.
$2.
b.
$5.
c.
$7.
d.
$11.
Choice “c” is correct. At capacity, the minimum price for a special order is the sum of the variable costs of current utilization plus the contribution margin from the next best alternative.
Variable costs ($50,000 ÷ 10,000) $ 5
Contribution margin, next best ($2,000 ÷ 1,000) 2
Total $ 7
Choice “a” is incorrect. The minimum price is not purely the contribution margin on the next best alternative.
Choice “b” is incorrect. The minimum price is not purely the variable costs associated with existing capacity.
Choice “d” is incorrect. The minimum price is not the sum of the total cost plus the contribution from the next best alternative.
Jackson Co. is considering a project that will use 2,000 square feet of storage space at one of its facilities to store used equipment. What will determine Jackson’s opportunity cost?
a.
The internal rate of return of the project.
b.
The net present value of the project.
c.
The depreciation expense on the space.
d.
The value of the next best use of the space.
Choice “d” is correct. Opportunity cost is the next best use of productive capacity. The production that is forfeited to produce the special order is referred to as the next best alternative use of the facility.
Choice “b” is incorrect. The net present value is the difference between the cost of an investment and the present value of its cash flows, not the opportunity cost.
Choice “a” is incorrect. The internal rate of return is the computed rate at which net present value is zero. It is not the opportunity cost.
Choice “c” is incorrect. Depreciation expense is reasonable and rational allocation of cost over time. It is not opportunity cost.
Spring Co. had two divisions, A and B. Division A created Product X, which could be sold on the outside market for $25 and used variable costs of $15. Division B could take Product X and apply additional variable costs of $40 to create Product Y, which could be sold for $100. Division B received a special order for a large amount of Product Y. If Division A were operating at full capacity, which of the following prices should Division A charge Division B for the Product X needed to fill the special order?
a.
$20
b.
$15
c.
$25
d.
$40
Choice “c” is correct. This question is on transfer pricing. The best transfer pricing model is based on market price, which, in this question, is $25.
Choice “b” is incorrect. The best transfer pricing model is based on market price ($25), not the variable costs of $15.
Choice “a” is incorrect. The best transfer pricing model is based on market price ($25). This answer apparently starts with the selling price ($100) and subtracts the total of the market price ($25), the variable costs ($15), and additional variable costs ($40), a total subtract of $80.
Choice “d” is incorrect. The best transfer pricing model is based on market price ($25), not the total of the market price ($25) and the variable cost ($15).
In a decision analysis situation, which one of the following costs is generally not relevant to the decision?
a.
Incremental cost.
b.
Historical cost.
c.
Avoidable cost.
d.
Opportunity cost.
Choice “b” is correct. Historical cost is generally not relevant in a decision analysis situation.
All of the following costs are relevant in a decision analysis situation:
a.
Incremental cost
c.
Avoidable cost
d.
Opportunity cost
