Lecture 5

Question 1

What is relevant cost?
What can it be?
What is required for? 3 things it can be required for

Answer 1

Future cash flows arising as a direct consquence of the decision.
- can be opportunity and avoidable costs

Required for?
1. Decision on replacement of equipment
2. Outsourcing
3. Discontinuation

Question 2

When making a decision whether something is relavent or irrelavent how do i know?

Answer 2

Always think about what they need to pay if they take it today or use it whilst on the journey

Question 3

When looking at relevant cost for machinery
- what relevant cost if you have spare capacity?
- what is relevant cost if you full capacity?
What is relevant cost if it idle?

When looking at relevant cost for labour

Answer 3

• spare capacity = no relevant costs
• full capacity = hire a new one or rental
• idle = fall on resale value

Labour
- spare capacity = no relevant costs. Current rate of pay
- full capacity = hire more or cannot hire staff
Variable cost and lost contribution

Question 4

Example 1: relevant cost for machinery
How do you answer: what is the cost of using 15hrs of labour for the contract?

King is deciding whether to pay 150£ new contract. 15hr is required for labour. But labour is full capacity

What is the cost of using 15hr for the contract

Direct materials ( 10kg at 2 ) 20£ per unit
Direct labour ( 5hrs at 6) 30£ per unit
Total variable = 50
Selling price = 75
Contribution = 25

Answer 4

1. First look at direct labour it says it takes 5hrs to make one product. 5 x 15=90
2. Then if it takes each product 5hr to make if we focus on this one contract how many products are going to lost 15hr are gonna be lost . So we do 15/5 =3 products are gonna be lost.
   Contrubution = 25
   25 x 3 =75
   75 + 90 =165 so 165 is gonna cost us
   So the company wants to pay us 150 but we are gonna lose 165 so we say no!.

Question 5

What is the cost of buying externally?
What is relevant cost of making in house?

Example:
If your buying externally or making the components

What should say if they ask about what factors should the business consider before making a decision

Answer 5

Cost of buying is externally straight forward its the price they are asking for

If we are making it ourselves we need to consider to things
1. Spare capacity : focus on variable cost of internal manufacture + any fixed cost relating to that product

2. No spare = variable cost of internal manufacture + any fixed costing relating to product + opportunity cost of internal manufacture.

E.g
To workout in house:
You get total cost of production of one company x the production
For e.g total cost of production is 11 and then 1,000 for production. Vc = 11 x 1000= 11,000 + any fixed cost relating so e.g fixed cost may be 1,500. 11,000+1,500=16,501,500

To outsource,
You just get production cost which would be 11,000 and then you times it by how much they are gonna offer.
- see which one cost less or more then you add it

If they ask about other factors you say
- if they outsource will the delivery time be efficient
- would the company’s work resent the loss of work because they outsourced it.

Question 6

What about if they need to shut down the decision?

E.g determine whether they need to be shut down or not
- suggest other factors to consider decisions

Answer 6

First consider the possibility of it shutting down ( so see how much they lose ) then decide whether they should shut down or not.

1. Look at sales and see how much they would lose.
   Then see what they will save if they get rid of the product. E.g they would save money from
   Direct materials
   Direct labour
   Variable overhead
   - selling price
   And check fixed cost may be saved in The example in lecture some of it was saved because the example said 80% of direct matierlas was saved so you basically make sure you read it properly
   - do percentage of 80% on price of direct matierlas and that answer minus fixed cost price to see who much fixed cost you saved

Then total all of it then check the sales whch you would lose
- if the price is bigger you keep it open.

Question 7

What is rule on one off contracts or special orders
Whether a company should accept or not?

Answer 7

• look at how much money they are offering per unit and then times that together ( that the revenue we are gonna get )
• times that unit they are offering with variable cost we have ( that is how much it would cost us to make it )
  Then minus both of them and if there is an increase in income we accept it. If there is not we reject it.