Consequently, management should consider all costs (fixed and variable, manufacturing and nonmanufacturing) in evaluating a long-term contract. Differential cost also gives managers tangible numbers that act as the basis for developing company strategies. The opportunity cost of using the land as a mobile home park is $60,000, while the opportunity cost of using the land as a driving range is $100,000. There are three major reasons for outsourcing: (1) To focus on the key aspects of the business by outsourcing noncore activities, (2) To improve the quality of support activities, and. Outsourcing is purchasing goods and services from outside vendors rather than in sourcing, which is producing the same goods or providing the same services within the organisation. 14. Of more concern is the variable nature of all long-run costs. (a) Disposal value now — represents a future cash inflow. Suppose the decision is whether to drive your car to work every day for a year versus taking the bus for a year. But in this example it is common to both options. (iv) Fixed selling and administrative expenses are Rs 10,000. Before studying the applications of differential analysis, you must realize that opportunity costs are also relevant in choosing between alternatives. Thus, opportunity costs are not transactions that occurred but that did not occur. 11. Accordingly, in the long run, all costs (including costs classified as fixed in a given period) are relevant. The interest payments would be tax deductible. This information together with the following statement may be helpful to management: This statement shows that product B exceeds its variable costs by Rs 2,600. Whitehall Corporation produces chemicals used in the cleaning industry. It identifies the relevant revenues and/or costs of each alternative and the expected impact of the alternative on future income. The company can borrow Rs 6,75,00,000 from its bank. (i) Concerning AM -12, which one of the following alternatives is most advantageous? 8. Relevant revenues or costs in a given situation are future revenues or costs that differ depending on the alternative course of action selected. In addition, new sources of materials suppliers may be required. There are certain cases where this analysis is used like: a) Making or buying decisions, Fixed cost are relevant only if incurred to facilitate the special order. If the asset is to be leased, the total payments would be deducted for income tax purposes. Answer (d) is incorrect because the Rs 3 unit joint cost should be included in the cost of goods sold, and inventory should include the Rs 1.50 unit additional cost. To reduce the effect of limi­tations associated with make or buy decisions, it is necessary that make or buy decisions should always be reviewed by one control entity within the firm. The cost to manufacture 50,000 units of the part that will be needed has been estimated as follows: Costs that will be incurred under both alternatives are not relevant to the analysis. Depreciation, taxes, interest, and insurance costs are incurred during shutdown also. Whitehall uses the units-of-production method to allocate joint costs. (a) Whitehall should process further and sell to Flank if the total selling price per unit after further processing is greater than Rs 3.00, which covers the joint costs. (d) Whitehall should process further and sell to Flank if the total selling price per unit after further processing is greater than Rs 5.25, which maintains the same gross profit percentage. An unprofitable product may be part of a line of products that must be complete in order to attract customers to more profitable products. An important factor in the decision to add or drop a product is whether it will increase or decrease the future income of the business. Intelligent managers build close partnerships or alliances with a few key sup­pliers. To remain in business in the long run, the company must replace equipment, pay property taxes, pay administrative salaries, and so forth. Copyright 10. Some examples of alternative choice decisions are: make or buy, own or lease, retain or replace, repair or renovate, now or later, change versus status quo, slower or faster, export versus local sales, shut down or continue, expand or contract, change the product-mix, take or refuse orders, place special orders, select sale territories, replace present equipment with new machinery, sell at split-up point or process further, etc. In deciding upon which course of action to follow, the company compares the contribution margin from the sale of the partially processed product with the contribution margin from the sale of the completely processed product. 13. It is because we do not need to prepare complete income statements for both scenarios to arrive at a conclusion. The basic problem is to determine an acceptable price for the special order units. If these costs are eliminated by selling products at split-off, they are incremental and should be included in the decision analysis. Therefore, each order should be evaluated based on costs relevant to the situation and the goals of the business firm. Management has to consider whether this benefit is enough to justify the investment of Rs 80,000 in new machinery. In the second situation, the relevant costs are only those costs which relate to the additional processing of each product beyond the split-off point.

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