Marginal Analysis Flashcards
What is marginal analysis?
it is used when analyzing business decisions and it focuses on the relevant revenues and costs that are associated with a decision; relevant costs can be either fixed or variable and they also often share similar characteristics, including their specific traceability to cost objects that may change as a result of selecting different alternatives; ultimately, a cost’s relevance pertains to its potential to affect the decision
What are direct costs?
costs that can be identified with or traced to a given cost object; they are usually relevant (variable costs are generally direct costs)
What are prime costs?
DM and DL and these are usually relevant
What are discretionary costs?
costs arising from periodic (usually annual) budgeting decisions by management to spend in areas not directly related to manufacturing; these costs are generally relevant
What are incremental (aka marginal/ differential/out-of-pocket) costs?
the additional costs incurred to produce an additional amount of the unit over the present output; these costs are relevant costs and include all variable costs and any avoidable fixed costs associated with a decision
What are opportunity costs?
the cost of forgoing the next best alternative when making a decision; these are relevant costs
What are irrelevant costs?
costs that do not differ among alternatives are irrelevant and should be ignored in a marginal cost analysis
What are sunk costs?
costs that are unavoidable because they were incurred in the past and cannot be recovered as a result of a decision; these are not relevant costs
What are controllable costs?
costs that are authorized by the business unit manager or the decision maker; the ability to control cost is evaluated when analyzing business decisions; by classifying a cost as either controllable or uncontrollable, the specific level of management responsible for the cost is identified; controllable costs are relevant if they will change as a result of selecting different alternatives
What are uncontrollable costs?
costs that were authorized at a different level in the organization; uncontrollable costs are not relevant costs because they cannot be changed by the manager making the decision
What are avoidable costs and revenues?
costs and revenues that result from choosing one course of action instead of another; as a result, the firm avoids the cost and revenue associated with the course of action not selected; they are relevant to the decision
What are unavoidable costs?
costs that are the same regardless of the chosen course of action and are not relevant to future decisions; these costs will continue regardless of the course of action taken, and they have no effect on the decision
What are special order decisions?
they are opportunities that require a firm to decide whether a specially priced order should be accepted or rejected; decisions of this character involve a comparison of the special order price to the relevant costs of the decision and an analysis of the strategic issues that relate to the acceptance or rejection of the order
special orders are short-term decisions that often assume excess capacity; fixed costs are generally not relevant to these decisions unless the special order will change total fixed costs
if there is excess capacity, a comparison should be made of the incremental costs of the order to the incremental revenue generated by the order; the special order should be accepted if the selling rice per unit is greater than the variable cost per unit
if the company is operating at full capacity, the opportunity cost of producing the special order should be included in the analysis
What are make vs buy decisions?
the decision to make or buy a component (aka insourcing vs outsourcing) is similar to the special order decision; managers should select the lowest-cost alternative
if there is excess capacity, the cost of making the product internally is the cost that will be avoided (or saved) if the product is not made; this will be the maximum outside purchase price
if there is no excess capacity, the cost of making the product internally is the cost that will be avoided (saved) if the product is not made plus the opportunity cost associated with the decision
What are sell or process further decision?
the decision regarding additional processing is made based on profitability
joint costs are the cost of a single process that yield multiple products; joint costs cannot be traced to an individua product; joint costs are sunk costs that are not relevant to decisions of whether to sell or to process further
separable costs are costs incurred after the split-off point that can be traced to individual products and are relevant to decisions of whether to sell or to process further
the decision on whether to sell at the split-off point is made by comparing the incremental cost and the incremental revenue generated after the split-off point; if the incremental revenue exceeds the incremental cost, the organization should process further; if the incremental cost exceeds the incremental revenue, the organization should sell at the split-off point
