Marginal Analysis

Question 1

marginal revenue

Answer 1

the additional (incremental) revenue produced by generating one more unit of output.

the difference in total revenue at each level of output

Question 2

marginal cost

Answer 2

the additional (incremental) cost incurred by generating one additional unit of output.

the difference in total cost at each level of output

Question 3

profit maximization

Answer 3

profit is maximized at the output level where marginal revenue equals marginal costs

Question 4

economic costs

Answer 4

explicit costs (actual cash disbursements) + implicit costs (opportunity costs)

Question 5

economic profit

Answer 5

not earned until the organization’s income exceeds not only the costs as recorded in the accounting records, but the firm’s implicit costs as well

Question 6

to be relevant, the revenues and costs must

Answer 6

-be made in the future
-differ among the possible alternative courses of action
-avoidable

Question 7

when capacity is available

Answer 7

-fixed costs are irrelevant
-minimum product price is equal to the variable costs

Question 8

when there is an absence of available capacity

Answer 8

revenue, variable costs and fixed costs are relevant

Question 9

example of special orders (minimum price) - no available capacity

Answer 9

Question 10

if the total relevant costs of production are less than the cost to buy the item, the product should be

Answer 10

made in-house

Question 11

for making decisions to make or buy, relevant costs include

Answer 11

all variable costs plus any avoidable fixed costs

Question 12

four steps in making a disinvestment decision

Answer 12

1. identify fixed costs that will be eliminated by the disinvestment decision
2. determine the revenue needed to justify continuing operations. in the short run, this amount should at least equal the variable cost of production or continued service
3. establish the opportunity costs of funds to be received upon disinvestment
4. determine whether the carrying amount of assets is equal to their economic value.

note: the cost of idle capacity should be treated as a relevant cost.

Question 13

incremental approach for keep-or-drop decision

Answer 13

fixed costs savings are compared to lost contribution margin

-fixed costs savings are the fixed costs avoidable (added)
-100% of the lost contribution margin of the discontinued segment (subtracted)
-decrease in lost contribution margin of another segment (subtracted)
-increase in gained contribution margin of another segment (added)