BEC Lecture 2 Flashcards
What is the formula for the contribution approach?
Revenue
Less: Variable costs
Contribution margin
Less: Fixed costs
Net income
What is the contribution margin ratio formula?
Contribution margin ratio =
Contribution margin / Revenue
What is the absorption formula?
Revenue
Less: Cost of goods sold
Gross margin
Less: Operating expenses
Net income
Explain the difference between the contribution approach and the absorption approach.
The difference is the treatment of fixed overhead. Under the absorption approach, fixed overhead is a product cost. Under the contribution approach, fixed overhead is a period cost.
Explain the difference between absorption costing net income and variable costing net income.
The difference depends on the change in inventory level during the period.
No change in inventory:
Absorption income = Variable income
Increase in inventory:
Absorption income > Variable income
Decrease in inventory:
Absorption income < Variable income
What is the formula for breakeven point in units?
Breakeven point in units =
Total fixed costs
Contribution margin per unit
What is the formula for breakeven point in dollars?
Breakeven point in dollars =
Total fixed costs
Contribution margin ratio
What is the formula for required sales volume for target profit?
Sales (units) =
(Fixed cost + Pretax profit)
Contribution margin per unit
What is the formula for setting selling prices based on assumed volume?
Sales price per unit =
(Fixed costs + Variable costs + Pretax profit)
Number of units sold
What is the margin of safety formula?
Margin of safety (in dollars) =
Total sales (in dollars) - Breakeven sales (in dollars)
Describe transfer pricing (from a non-global perspective) and list the strategies that may be used to establish transfer prices.
A transfer price is the price charged for the sale/purchase of a product internally (between two or more divisions within the same company).
The following strategies may be used to establish tranfer prices:
- Negotiated Price
- Market Price
- Cost
Describe transfer pricing from a global perspective.
Transfer pricing is a methodology for allocating profits and losses among related entities within the same legal group or corporation in different tax jurisdictions.
Transfer prices must be approximate the prices for comparable transations between independent parties.
Define opportunity costs evaluated in considering an opportunity when the firm is operating at capacity.
Opportunity costs at full capacity is defined as the net benefit given up for the best alternative use of the capacity.
How should management approach a special order decision?
Special orders require a firm to decide if a specially priced order should be accepted or rejected. When there is excess capacity, a special order should be accepted if the selling price per unit is greater than the variable cost per unit. If the company is operating at full capacity, the opportunity cost is producing the special order should be included in the analysis.
How should management approach a make or buy decision?
The decision to make or buy a component (also referred to as insourcing vs. outsourcing) is similar to the special order decision. Mangers should consider only relevant costs and select the lowest-cost alternative.
How should management approach a sell or process further decision?
A sell or process further decision is made by comparing the incremental cost and the incremental revenue generated after split-off point.
- If the incremental revenue exceeds the incremental cost, the organication should process further.
- If the incremental cost exceeds the incremental revenue, the organization should sell at the split-off point.
How should management approach a keep or drop decision?
When deciding whether to keep or drop a segment, a firm should compare the fixed costs that can be avoided if the segment is dropped (i.e., the cost of running the segment) to the contribution margin that will be lost if the segment is dropped.
The segment should be kept if the lost contribution margin exceeds avoided fixed costs and dropped if the lost contribution margin is less than avoided fixed costs.
What is linear regression?
Linear regression is a method for studying the relationship between two or more variables. Linear regression is used to predict the value of a dependent variable [e.g., total cost (y)] corresponding to given values of the independent variables [e.g. fixed costs (A), variable cost per unit (B), and production expressed in units (x)].
Simple regression involves only one independent variable.
Multiple regression involves more than one independent variable.
Explain the coefficient of correlation.
The coefficient of correlation (r) measures the strength of the linear relationship between the independent variable (x) and the dependent variable (y).
The range is from -1.00 to 1.00, with -1.00 indicating perfect inverse correlation, 1.00 indicating perfect positive correlation, and 0.00 indicating no correlation.
Explain the coefficient of determination.
The coefficient of determination (R2) is the proportion of the total variation in the dependent variable (y) explained by the independent variable (x).
The range lies between zero and one, with a higher R2 representing a better fit for a regression line.
Explain the concept of a learning curve.
Learning curve analysis is based on the premise that as workers become more familiar with a specific task, the per-unit labor hours will decline as experience is gained and production become more efficient.
The calculation begins with the first unit/batch. As cumulative production doubles (from one unit to two units, to eight units, etc.), cumulative average time per unit falls to a fixed percentage (the learning curve rate) of the previous time.
Describe the high-low method and how it is applied.
The high-low method is a technique that is used to estimate the fixed and variable portions of total costs.
To apply the high-low method:
- Divide the difference between the high and low dollar total costs by the difference in high and low volumes to obtain the variable cost per unit.
- Use either the high volume or the low volume to calculate the variable cost by multiplying the volume times the variable cost per unit.
- Subtract the total calculated cost from total costs to obtain fixed costs.
Define currently attainable standards.
Currently attainable standards represent costs that result from work performed by employees with appropriate training and the experience but without extraordinary effort.
Define ideal standards.
Ideal standards represent costs that result from perfect efficiency and effectiveness in job performance.
