Question 1

The absolute profitability of a segment is measured by subtracting the segment's avoidable costs from its revenues.

Accepted Answer

The absolute profitability of a segment is measured by subtracting the segment's avoidable costs from its revenues. This calculation determines the segment's contribution margin, which reflects the amount of money the segment contributes to covering fixed costs and generating profit.

Question 2

When a company has a production constraint, the selling price of any new product should cover both its fully allocated cost--including common fixed costs--and the opportunity cost involved in using the constrained resource.

Accepted Answer

False

Question 3

When a company has a production constraint, the opportunity cost of using the constrained resource can be determined by multiplying the amount of the constrained resource used by the cost per unit of the most profitable product.

Accepted Answer

The opportunity cost is determined by the contribution margin per unit of the constrained resource, not the cost per unit of the most profitable product.

Question 4

Dorich Corporation would like to determine the relative profitability of a number of jobs. For illustration purposes, the company has provided the following data for job P86M: $$\begin{array} { l r } 
\text { Revenue..................... } & \$ 98,600 \
\text { Avoidable cost ............. } & \underline { 69,020 } \
\text { Incremental profit....... } & \$ 29,580
\end{array}$$ The amount of the constrained resource used by the job is 340 hours. What is the profitability index for job P86M?
A)$87 per hour
B)$290 per hour
C)$203 per hour
D)0.30

Accepted Answer

The answer of Dorich Corporation would like to determine the...

Question 5

The opportunity cost of using a unit of the constrained resource in a volume trade-off decision is determined by the profitability index of the product whose production would be cut back as a result of using the constrained resource.

Accepted Answer

The opportunity cost of using a unit of the constrained resource in a volume trade-off decision is not directly related to the profitability index of the product being produced, but rather to the contribution margin of the product that will be sacrificed or cut back. The contribution margin measures the amount of profit that each unit of a product contributes towards covering fixed costs and generating overall profit. Therefore, the opportunity cost of using a constrained resource is determined by the contribution margin of the product that would have to be sacrificed to produce additional units of the other product.

Question 6

Relative profitability should be measured by dividing a segment's market share by its revenues.

Accepted Answer

Relative profitability should be measured by dividing a segment's profits or net income by its revenues, not by its market share. Market share is an indicator of a segment's competitive position, but it does not directly reflect profitability.

Question 7

A company that makes horsehair cowboy belts cannot meet the demand for belts due to a limited supply of artisans who know how to make the belts. To determine which models of the cowboy belts should be emphasized, the company should rank the models by dividing the unit contribution of each model by the selling price of the model.

Accepted Answer

The company should rank the models based on their profitability, which is determined by subtracting the total cost to produce the model from its selling price. Dividing the unit contribution (selling price minus variable cost per unit) by the selling price would only indicate the profit margin percentage, but not necessarily the profitability of the model.

Question 8

Absolute profitability refers to the process of deciding which products to drop when a constraint forces trade-offs.

Accepted Answer

Absolute profitability refers to the total profit generated by a product or service, not the decision-making process regarding product discontinuation due to constraints.

Question 9

If a company is considering accepting a number of jobs, but there is insufficient production capacity to do all of them, then the jobs that require the greatest amount of the production capacity should be rejected.

Accepted Answer

The statement is incorrect. In reality, the company should prioritize the jobs based on their profitability and the impact they may have on the company's overall performance. Simply rejecting the jobs that require the most capacity may not necessarily be the most effective solution. The company may also explore options such as expanding production capacity, outsourcing, or adjusting the product mix to accommodate the high-capacity jobs.

Question 10

Francke Corporation would like to determine the relative profitability of a number of jobs. For example, job H29O has revenues of $86,400 and avoidable costs of $69,120, resulting in an incremental profit of $17,280. The job requires 160 hours of the constrained resource. The job is responsible for 13% of the company's total profit for the period. What is the profitability index for job H29O?
A)$108 per hour
B)$540 per hour
C)0.13
D)0.20

Accepted Answer

The profitability index is calculated as incremental profit divided by the hours of constrained resource used. For job H29O, it is $17,280 / 160 hours = $108 per hour.

Question 11

Garbarino Corporation would like to determine the relative profitability of a number of jobs. For illustration purposes, the company has provided the following data for job C54V: $\begin{array}{lr}
\text {Revenue }&\$72,500\
\text {Avoidable cost }&58,000\
\text { Incremental profit}&\$14,500\\
\text {Amount of the constrained resource used by the job.  }&\text {250 hours }\
\text { Percentage of the total company profit for the period from the job}&30\%\
\end{array}$
 What is the profitability index for job C54V?
A)$290 per hour
B)$58 per hour
C)0.30
D)0.20

Accepted Answer

The answer of Garbarino Corporation would like to determine the...

Question 12

A catering service has contracts with a number of customers to supply lunches on a daily basis. The chef has complained of the long hours she must work to prepare all of these lunches and has threatened to quit. It would be very difficult, if not impossible, to replace the chef. To reduce the pressure on the chef, some contracts may have to be cancelled. (The catering service can cancel any contract with seven days notice.) To help make this decision, the profitability of each customer should be measured by dividing amount the customer is charged by the amount of the time it takes the chef to prepare the customer's meals.

Accepted Answer

While measuring profitability is important in making business decisions, cancelling contracts solely based on the time it takes the chef to prepare the meals may not be a fair or appropriate method. Other factors such as the revenue generated by the customer or the importance of the contract to the overall business strategy should also be considered.

Question 13

Hamelinck Corporation would like to determine the relative profitability of a number of jobs. For example, the revenue from Job W06Z is $77,000 and its avoidable costs amount to $69,300, resulting in an incremental profit of $7,700. Furthermore, the job requires 220 hours of the constrained resource. What is the profitability index for job W06Z?
A)$315 per hour
B)$35 per hour
C)$350 per hour
D)0.10

Accepted Answer

The profitability index is calculated by dividing the incremental profit by the number of hours of the constrained resource required. For Job W06Z, this is $7,700 / 220 hours = $35 per hour.

Question 14

The absolute profitability of a business segment is determined by:
A)subtracting the variable costs of the business segment from its revenue.
B)subtracting the avoidable costs of the business segment from its revenue.
C)subtracting the full costs, including allocations of common fixed costs, of the business segment from its revenue.
D)finding the larger of the segments full costs or its revenues.

Accepted Answer

The avoidable costs of a business segment are the costs that can be avoided if the segment is discontinued. These costs include the variable costs of the segment, as well as any fixed costs that are specific to the segment. By subtracting the avoidable costs from the revenue of the segment, we can determine the absolute profitability of the segment.

Question 15

The profitability index is computed by dividing the incremental profit from a segment by the sales of the segment.

Accepted Answer

The profitability index is computed by dividing the incremental profit from a segment by the investment required for that segment, not the sales of the segment.

Question 16

In the absence of a constraint, all business segments that are absolutely profitable should be retained.

Accepted Answer

Retaining all profitable business segments will maximize the overall profitability of the company, and there is no reason to get rid of them unless there are other factors to consider such as strategic direction or resource allocation.

Question 17

The profitability index in a volume trade-off decision should be computed by:
A)dividing each product's contribution margin by the amount of the constrained resource used by the product.
B)dividing each product's contribution margin by its selling price.
C)dividing each product's selling price by the amount of the constrained resource used by the product.
D)dividing each product's variable cost by its selling price.

Accepted Answer

The profitability index in a volume trade-off decision should be computed by dividing each product's contribution margin by the amount of the constrained resource used by the product. This will give the manager an idea of which product will provide the highest profitability per unit of constrained resource used. Option B divides by selling price which is not useful in volume trade off decision. Option C, dividing selling price by resource used, is also not effective as it does not consider the contribution margin. Option D is not applicable as variable cost is not useful in volume trade off decision.

Question 18

To encourage salespersons to sell the most profitable products, they should be paid sales commissions based on the profitability index and the amount of constraint time sold rather than on sales revenue.

Accepted Answer

Sales commissions based on profitability index and the amount of constraint time sold would incentivize salespersons to focus on selling products that generate the most profit for the company instead of just focusing on increasing sales revenue.

Question 19

A portrait painter has been asked to do far more portraits in the next three months than she has time to paint during that time period. To rank the possible portraits in order of their profitability, she should divide each portrait's estimated incremental profit by the amount of time she estimates it will take to paint the portrait.

Accepted Answer

By ranking the portraits based on their estimated incremental profit per unit of time, the portrait painter can optimize her use of time and focus on the most profitable portraits first. This method takes into account both the revenue potential of each portrait and the amount of time required to complete it, allowing the painter to make informed decisions about which portraits to prioritize.

Question 20

The profitability index for a volume trade-off decision involving products should be computed by dividing the unit contribution margin of a product by the amount of the constrained resource required by one unit of the product.

Accepted Answer

The profitability index for a volume trade-off decision involving products is calculated by dividing the unit contribution margin of a product by the amount of the constrained resource required by one unit of the product. This helps to determine which product will generate the highest return for each unit of the constrained resource used.

Quiz 2: Profitability Analysis