Exam 14: Decision Making: Relevant Costs and Benefits

Which of the following best defines the concept of a relevant cost?

The managerial accountant's primary role in the decision-making process is to decide what information is relevant to the problem and provide timely and accurate data.

The last step in the decision-making process is to collect the data.

Pea Ridge Corporation manufactures faucets. Several weeks ago, the company received a special-order inquiry from Galena, Inc. Galena desires to market a faucet similar to Pea Ridge's model no. 55 and has offered to purchase 3,000 units. The following data are available: · Cost data for Pea Ridge's model no. 55 faucet: direct materials, $45; direct labor, $30 (2 hours at $15 per hour); and manufacturing overhead, $70 (2 hours at $35 per hour). · The normal selling price of model no. 55 is $180; however, Galena has offered Pea Ridge only $115 because of the large quantity it is willing to purchase. · Galena requires a design modification that will allow a $4 reduction in direct-material cost. · Pea Ridge's production supervisor notes that the company will incur $8,700 in additional set-up costs and will have to purchase a $3,300 special device to manufacture these units. The device will be discarded once the special order is completed. · Total manufacturing overhead costs are applied to production at the rate of $35 per labor hour. This figure is based, in part, on budgeted yearly fixed overhead of $624,000 and planned production activity of 24,000 labor hours. · Pea Ridge will allocate $5,000 of existing fixed administrative costs to the order as "part of the cost of doing business." Required: A. One of Pea Ridge's staff accountants wants to reject the special order because "financially, it's a loser." Do you agree with this conclusion if Pea Ridge currently has excess capacity? Show calculations to support your answer. B. If Pea Ridge currently has no excess capacity, should the order be rejected from a financial perspective? Briefly explain. C. Assume that Pea Ridge currently has no excess capacity. Would outsourcing be an option that Pea Ridge could consider if management truly wanted to do business with Galena? Briefly discuss, citing several key considerations for Pea Ridge in your answer.

Which of the following costs should be used when choosing between two decision alternatives?

Boise, a division of Price Enterprises, currently performs computer services for various departments of the firm. One of the services has created a number of operating problems, and management is exploring whether to outsource the service to a consultant. Traceable variable and fixed operating costs total $80,000 and $25,000, respectively, in addition to $18,000 of corporate administrative overhead allocated from Price. If Boise were to use the outside consultant, fixed operating costs would be reduced by 70%. The irrelevant costs in Boise's outsourcing decision total:

Canyon Trails is studying whether to outsource its Human Resources (H/R) activities. Salaried professionals who earn $390,000 would be terminated; in contrast, administrative assistants who earn $120,000 would be transferred elsewhere in the organization. Miscellaneous departmental overhead (e.g., supplies, copy charges, overnight delivery) is expected to decrease by $30,000, and $25,000 of corporate overhead, previously allocated to Human Resources, would be picked up by other departments. If Canyon Trails can secure needed H/R services locally for $410,000, how much would the company benefit by outsourcing?

A trade-off in a decision situation sometimes occurs between information:

The Boot Department at the Omaha Department Store is being considered for closure. The following information relates to boot activity: If 70% of the fixed operating costs are avoidable, should the Boot Department be closed?

Cornerstone, Inc. has $125,000 of inventory that suffered minor smoke damage from a fire in the warehouse. The company can sell the goods "as is" for $45,000; alternatively, the goods can be cleaned and shipped to the firm's outlet center at a cost of $23,000. There the goods could be sold for $80,000. What alternative is more desirable and what is the relevant cost for that alternative?

Flavor Enterprises has been approached about providing a new service to its clients. The company will bill clients $140 per hour; the related hourly variable and fixed operating costs will be $75 and $18, respectively. If all employees are currently working at full capacity on other client matters, the per-hour opportunity cost of being unable to provide this new service is:

A company that is operating at full capacity should emphasize those products and services that have the:

San Ruiz Interiors provides design services to residential and commercial clients. The residential services produce a contribution margin of $450,000 and have traceable fixed operating costs of $480,000. Management is studying whether to drop the residential operation. If closed, the fixed operating costs will fall by $370,000 and San Ruiz' income will:

Product costs incurred before the split-off point in a joint processing environment are called:

Elkhart, a division of Indiana Enterprises, currently makes 100,000 units of a product that has created a number of manufacturing problems. Elkhart's costs follow. If Elkhart were to discontinue production, fixed manufacturing costs would be reduced by 70%. The relevant cost of deciding whether the division should purchase the product from an outside supplier is:

Phillippe Inc. manufactures A and B from a joint process (cost = $80,000). Five thousand pounds of A can be sold at split-off for $20 per pound or processed further at an additional cost of $20,000 and then sold for $25 per pound. If Phillippe decides to process A beyond the split-off point, operating income will:

Which of the following costs can be ignored when making a decision?

In early July, Damon Rutton purchased a $70 ticket to the December 15 game of the Sarasota Shippers. Parking for the game was expected to cost approximately $22, and Rutton would probably spend another $15 for a souvenir program and food. It is now December 14. The Shippers were having a miserable season and the temperature was expected to peak at 5 degrees on game day. Damon is thinking about skipping the game and taking his wife to the movies and dinner, at a cost of $50. The amount of sunk cost that should influence Damon's decision to spend some time with his wife is:

A firm that decides to emphasize those goods with the highest contribution margin per unit may have made an incorrect decision when the company:

The term "opportunity cost" is best defined as: