Question 1

The term 'incremental cost' refers to:

Accepted Answer

Incremental cost refers to the difference in total costs between alternatives. It helps in making decisions by comparing the costs and benefits of different choices. Option A refers to direct cost, option C refers to sunk cost, and option D refers to opportunity cost.

Question 2

How often are sunk costs omitted from decision analysis?

Accepted Answer

Sunk costs are costs that have already been incurred and cannot be recovered, and they are always omitted from decision analysis because they cannot be changed by any current or future action.

Question 3

The directors of Tropical Cruises are concerned at the firm's latest income statement which shows a continuing decline in profits. In approaching this situation what is the first step management should take?

Accepted Answer

The first step management should take is to define the problem with an emphasis on the objective to be accomplished. Without identifying the root cause of declining profits, any changes to marketing, scheduling or employee training may not have a significant impact on reversing the trend. A clear definition of the problem can help management develop an effective strategy to address the issue.

Question 4

Berkeley Company currently has idle plant capacity and wishes to make as large a profit as possible. It could use some of its facilities to produce 5 000 units of a new product that could be sold through its existing sales network. The new product would have the following estimated costs.
$$\begin{array} { l c } 
& \text { Per unit } \
\text { Materials } & \$ 6 \
\text { Labour } & \$ 12 \
\text { Variable factory overhead } & \$ 5 \
\text { Variable selling \& administrative costs } & \$ 3
\end{array}$$
Assume the fixed factory overhead for the plant is $8 000 per month and the fixed selling and administrative costs are $1800 per month. What is the minimum price per unit that Berkeley could charge for this product without reducing overall profits?

Accepted Answer

The minimum price per unit that Berkeley could charge without reducing overall profits is calculated by adding the per unit costs (materials, labor, variable factory overhead, and variable selling & administrative costs) and then dividing the total fixed costs by the number of units to find the fixed cost per unit. The per unit costs are $6 (materials) + $12 (labor) + $5 (variable factory overhead) + $3 (variable selling & administrative costs) = $26. Fixed costs do not affect the minimum price per unit calculation in this context because the question asks for the price to avoid reducing overall profits, implying covering variable costs.

Question 5

In differential analysis, irrelevant costs include:

Accepted Answer

Irrelevant costs include sunk costs, which are costs that have already been incurred and cannot be changed or recovered. Thus, they are not relevant to decision-making as they cannot be altered by the decision at hand. Avoidable costs, differential costs, and opportunity costs are all relevant costs as they are directly impacted by the decision and can be altered based on the choice made.

Question 6

What is the correct order for the following steps in the decision-making process?
I. Evaluate the alternatives
II. Choose a course of action
III. Gather information
IV. Define the problem

Accepted Answer

The correct order for the decision-making process is to first define the problem (IV), then gather information (III), evaluate the alternatives (I), and finally choose a course of action (II).

Question 7

The decision to further process a joint product is influenced by:

Accepted Answer

The decision to further process a joint product is primarily influenced by the costs of further processing. This decision is based on whether the additional revenue generated from further processing exceeds the additional costs incurred. Common costs allocated to the product, the amount of costs already incurred, and the amount of fixed overhead absorbed are considered sunk costs and should not influence the decision.

Question 8

In relation to joint products the objective of the sell or process further decision is to:

Accepted Answer

The objective of sell or process further decision is to maximise profit. This decision is whether to sell the joint product at the split-off point or to process it further. The aim is to choose the option that generates the highest profit for the company.

Question 9

Which of the following is irrelevant in the evaluation of a special order?

Accepted Answer

Average production cost is irrelevant in the evaluation of a special order as it does not affect the decision to accept or reject the order. The relevant costs are the differential costs, which are the additional costs incurred or saved as a result of accepting the special order, and the differential income, which is the additional revenue generated by the special order. Idle capacity and the opportunity cost of using that capacity are also relevant factors in the evaluation of a special order.

Question 10

A cost which differs between alternative courses of action is a:

Accepted Answer

A cost that differs between alternative courses of action is considered a relevant cost, as it is a factor that can influence the decision-making process. Controllable costs can be managed and influenced by the decision-maker, while non-joint costs are those that do not vary with changes in activity levels. Sunk costs, on the other hand, are costs that have already been incurred and cannot be recovered regardless of the chosen course of action, and are therefore not relevant to the decision-making process.

Question 11

___________costs, in incremental analysis, are the estimated future costs that differ between alternative courses of action.

Accepted Answer

Relevant costs are the estimated future costs that differ between alternative courses of action. Joint costs are costs that are incurred in the production of two or more products simultaneously. Absorption costs are a method of allocating all costs (fixed and variable) to products or services. Variable overhead costs are a type of manufacturing overhead that varies with changes in production volume. Only relevant costs are considered in incremental analysis because they are the costs that will change as a result of a decision being made.

Question 12

If a firm has limited production capacity in one part of a sequential production operation, it can maximise profits by producing those items having the highest:

Accepted Answer

If a firm has limited production capacity in one part of a sequential production operation, it should produce those items that have the highest contribution margin per unit of the scarce resource. This is because the contribution margin is the amount by which the sales price of a product exceeds its variable cost per unit, and it represents the amount of revenue that is available to contribute towards fixed costs and profits. By producing those items with the highest contribution margin per unit of the scarce resource, the firm can maximise its profits as it will be able to generate the highest contribution margin for each unit of the resource that it uses.

Question 13

Fern Valley Ltd reports the following data from this year's master budget:
$$\begin{array} { l c r } 
& \text { Per unit } & \text { Total } \
\text { Variable manufacturing cost } & \$ 18 & \
\text { Fixed manufacturing cost } & \$ 6 & \$ 24000 \
\text { Fixed selling and administrative expense } & \$ 2 & \$ 4000
\end{array}$$
Fern Valley Ltd's capacity is 20 000 units per year, and the normal selling price is $35 per unit. A one-time-only order for 1200 units has been received at a special price of $30 per unit. The order would not disturb regular business. If the order is accepted, overall profit will increase by:

Accepted Answer

The answer of Fern Valley Ltd reports the following data...

Question 14

Summer Days Corporation purchased manufacturing equipment two years ago for $180 000. The firm is considering selling the equipment outright for $140 000 or, alternatively, trading it in on new equipment for a trade-in allowance of $120 000. The sunk cost associated with the manufacturing equipment is:

Accepted Answer

The sunk cost associated with the manufacturing equipment is the initial cost of $180,000 that was paid for it two years ago. This cost has already been incurred and cannot be recovered. Therefore, both the selling price and the trade-in allowance are irrelevant to the sunk cost. The best choice depends on other factors such as the cost and benefits of the new equipment, the salvage value of the old equipment, and the tax implications of selling versus trading in. Without this information, it is impossible to determine the best choice.

Question 15

A sunk cost is a:

Accepted Answer

A sunk cost is a cost that has already been incurred and cannot be recovered or changed. Therefore, it is not relevant to decision making because it cannot be altered by any current or future action.

Question 16

Which of the following is not relevant in the evaluation of a make-or-buy decision?

Accepted Answer

Unavoidable costs, also known as sunk costs, are not relevant in a make-or-buy decision because they have already been incurred and cannot be recovered or changed by the decision.

Question 17

The cost that represents the difference in total costs between two alternatives is the:

Accepted Answer

The difference in total costs between two alternatives is known as incremental cost. It is the additional cost that is incurred when a company chooses one option over the other. Sunk costs are costs that have already been incurred and cannot be recovered. Direct costs are costs that can be directly attributed to a specific product or service. Opportunity costs refer to the potential benefits lost when choosing one alternative over another.

Question 18

The point in the production process at which joint products become separate products is called the ______point.

Accepted Answer

The point in the production process at which joint products become separate products is called the split-off point. At this point, the joint products can be recognized as individual products and can be sold or processed further as separate entities. The other choices (differential, constraint, acceptance) do not accurately describe this specific point in the production process.

Question 19

The purpose of incremental analysis is to find the alternative:

Accepted Answer

The purpose of incremental analysis is to compare and evaluate alternative courses of action in order to determine which alternative would result in the highest increase in profit or net income. Therefore, the best choice is option A, which identifies the alternative that contributes the most to profit.

Question 20

The decision to further process a joint product is influenced by the:

Accepted Answer

The decision to further process a joint product is primarily influenced by the increased costs of further processing compared to the potential increase in revenue from selling the processed product. The focus is on incremental costs and benefits, not on sunk costs or cost allocation methods.

Quiz 25: Differential Analysis, Profitability Analysis and Capital Budgeting