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10.8: Summary and Key Terms

  • Page ID
    10418
  • Section Summaries

    10.1 Identify Relevant Information for Decision-Making

    • Decision-making involves choosing between alternatives.
    • A critical step in the decision-making process is identification of all the relevant information for each alternative. Relevant information is any information that would have an impact on the decision.
    • Relevant information can come in the form of costs or revenues, or be nonfinancial in form. For information regarding costs, this means determining which costs are avoidable and which are unavoidable.

    10.2 Evaluate and Determine Whether to Accept or Reject a Special Order

    • Deciding to accept or reject a special order is a choice between alternatives.
    • Accepting or rejecting a special order involves comparing the purchase price associated with the special order to the cost to produce the items.
    • This decision is highly influenced by whether the firm being offered the special order is operating below or at capacity.
    • Qualitative factors would include consequences such as potential loss of current customers or displacement of jobs.

    10.3 Evaluate and Determine Whether to Make or Buy a Component

    • Deciding to outsource a component of the operations or manufacturing of a business is a choice between alternatives.
    • Choosing whether to make or to buy a product, or choosing to have services performed by an outside company, are outsourcing decisions.
    • Outsourcing decisions involve comparing the cost to keep the product or service in-house to the cost of buying the product or service from an outside party.
    • An important consideration in these types of decisions is unavoidable costs.

    10.4 Evaluate and Determine Whether to Keep or Discontinue a Segment or Product

    • Deciding to keep or discontinue a product line or a segment of a business is a choice between alternatives.
    • The choice to keep or eliminate involves comparing the business’s total operating income generated from keeping the product or segment and comparing this to the business’s total operating income generated if the product or segment is eliminated.
    • An important consideration in these types of decisions is allocated costs.

    10.5 Evaluate and Determine Whether to Sell or Process Further

    • Deciding to do more work on a product to develop it into a new product is a choice between alternatives.
    • Choosing whether to sell a product as is or to process it further involves comparing the selling price without further processing (at split-off) to the net price (selling price less additional processing costs) that would be obtained if the product were processed further.
    • An important consideration in these types of decisions is the realization that the costs incurred up to the split-off point are irrelevant to the decision.

    10.6 Evaluate and Determine How to Make Decisions When Resources Are Constrained

    • Deciding to how to use scare resources is a choice between alternatives.
    • Scarce resources can include anything that limits productive capacity, such as machine-hours or labor hours.
    • Choosing how to use the scarce resource involves determining the contribution margin for each product or service that uses the constrained resource. The products or services with the highest contribution margin have the largest impact on income.
    • Choosing how to manage the scarce resource will help reduce bottlenecks.

    Key Terms

    allocated costs
    costs that are generated by non–revenue generating portions of the business, such as corporate headquarters, that are assigned based on some formula to the revenue generating portions of the business
    avoidable cost
    cost that can be eliminated (in whole or in part) by choosing one alternative over another
    bottleneck
    point at which a constraint slows production
    constraint
    scarce resource that limits output or productive capacity of an organization
    differential analysis
    type of analysis that considers only the differences between variables that are important to the analysis
    differential cost
    difference between costs for alternatives
    differential revenue
    difference between revenues for alternatives
    irrelevant cost
    cost that has no effect on the decision being made because it is the same under either alternative
    irrelevant revenue
    revenue that has no effect on the decision being made
    joint costs
    costs that have been shared by products up to the split-off point
    normal capacity
    company’s maximum production level, without adding additional production resources, or within the company’s relevant range
    opportunity costs
    costs associated with not choosing the other alternative
    outsourcing
    act of using another company to provide goods or services that your company requires
    qualitative factor
    component of a decision-making process that cannot be measured numerically
    quantitative factor
    component of a decision-making process that can be measured numerically
    relevant cost
    cost that influences the decision being made
    relevant range
    quantitative range of units that can be produced based on the company’s current productive assets; for example, if a company has sufficient fixed assets to produce up to 10,000 units of product, the relevant range would be between 0 and 10,000 units
    relevant revenue
    revenue that influences the decision being made
    segment
    portion of the business that management believes has sufficient similarities in product lines, geographic locations, or customers to warrant reporting that portion of the company as a distinct part of the entire company
    short-term decision analysis
    determining the appropriate elements of information necessary for making a decision that will impact the company in the short term, usually 12 months or fewer, and using that information in a proper analysis in order to reach an informed decision among alternatives
    special order
    one-time order that does not typically affect current sales
    split-off point
    point at which some products are removed from production and sold while others receive additional processing
    sunk cost
    cost that cannot be avoided because it has already occurred
    unavoidable cost
    cost that does not go away in the short-run by choosing one alternative over another
    unit contribution margin
    selling price per unit minus variable cost per unit
    unit contribution margin per production restraint
    unit contribution margin divided by the production restrain