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Transcript of Chapter 6zakiyas.weebly.com/uploads/6/5/6/7/6567507/chapter_6.pdf · Chapter 6 Relevant Information...
©2014 Pearson Education. All rights reserved
Learning Objectives
1. Describe and identify information relevant to short-
term business decisions
2. Decide whether to accept a special order
3. Describe and apply different approaches to pricing
4. Decide whether to discontinue a product, department,
or store
5. Factor resource constraints into product mix decisions
6. Analyze outsourcing (make-or-buy) decisions
7. Make sell as-is or process further decisions
©2014 Pearson Education. All rights reserved
Learning Objective 1
Describe and identify information
relevant to short-term business
decisions
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How Managers Make Decisions
Define business goals
Identify alternative courses of action
Gather and analyze relevant information
Choose best alternative
Implement decision
Follow-up: Compare actual with anticipated results
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Relevant and Irrelevant Information
Relevant
Expected future (cost and revenue) data
Differs among alternative courses of action
Is both quantitative and qualitative
Irrelevant
Costs that do not differ between alternatives
Sunk costs – incurred in past and cannot be changed
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Relevant Nonfinancial Information
Nonfinancial, or qualitative factors, also play a role
in managers’ decisions.
laying off employees
outsourcing, reduced control over delivery time and
product quality
discounted prices to select customers
Managers who ignore qualitative factors can make
serious mistakes.
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Six Short-Term Special Decisions
Special sales orders
Pricing
Discontinuing products, departments, and stores
Product mix
Outsourcing (make or buy)
Selling as is or processing further
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Keys to Making Short-Term
Special Decisions
Decisions approach
Relevant information approach or incremental analysis
approach
Two keys in analyzing short-term special business
decisions
Focus on relevant revenues, costs, and profits
Use contribution margin approach that separates
variable costs from fixed costs
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Sustainability and Short-term Business
Decisions
View every decision as having an impact on
People
Planet
Profitability
Timberland, “doing well and doing good”
Example: Employees given PTO to volunteer
Costly
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Learning Objective 2
Decide whether to accept a
special order
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DECISION RULE: Do we have excess capacity available to fill this order?
Yes
Consider further
No
Reject the special order
A customer requests a one-time order at a reduced sale
price, often for a large quantity:
Special Order Considerations
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Special Sales Order
DECISION RULE: Is the special reduced sales price high enough to cover
the incremental costs of filling the order?
If revenues are greater than expected cost
increase
Accept the special order
If revenues are less than expected cost increase
Reject the special order
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Special Sales Order
DECISION RULE: Will the special order affect regular sales
in the long run?
If no to these questions
Accept the special order
If yes to these questions
Reject the special order
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Incremental Analysis of Special
Sales Order,
Expected increase in revenues—sale of
20,000 oil filters x $1.75 each $ 35,000
Expected increase in expenses—variable
manufacturing costs:
20,000 oil filters $1.20 each
(24,000)
Expected increase in operating income $ 11,000
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1. Prepare an incremental analysis to determine whether Collectible Cards should accept the special sales order assuming fixed costs would not be affected by the special order.
Would accept the special order because the cost per part to make it is only $0.30 per part versus the $0.40 per part selling price being offered by the buyer.
Variable costs:
Direct Materials
Direct Labor
Variable Overhead
$0.13
0.06
0.11
Total Cost $0.30
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2. Now assume that the Hall of Fame wants special hologram baseball cards.
Collectible Cards must spend $5,000 to develop this hologram, which will
be useless after the special order is completed. Should Collectible Cards
accept the special order under these circumstances? Show your analysis.
Expected increase in revenues—sale of
57,000 cards x $0.40 each $ 22,800
Expected increase in expenses—variable
manufacturing costs:
57,000 cards x $0.30 each
Special hologram cost
(17,100)
(5,000)
Expected increase in operating income $ 700
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Learning Objective 3
Describe and apply different
approaches to pricing
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Regular Pricing Considerations
What is our target profit?
How much will customers pay?
Are we a price-taker or a price-setter for this
product?
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Price-Taker vs Price-Setter
Price-Takers Price-Setters
Product lacks uniqueness Product is more unique
Heavy competition Less competition
Pricing approach
emphasizes target costing
Pricing approach
emphasizes cost-plus
pricing
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Two potential outcomes when using
target costing
1. Actual cost less than target total cost
2. Actual cost greater than target total cost
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Other Strategies
Increase sales
Use CVP analysis to compute target sales to achieve its target profit.
Change or add to its product mix
Offer levels of the same product
Offer new items to the product mix with high CM
Remove items with the lowest CM
Differentiate its products – (make it unique)
Branding
Quality
Service packs
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Cost-Plus Pricing
The opposite of the target-pricing approach
Starts with the company’s full costs
Adds the desired profit to determine a
cost-plus price
Total cost
Plus: Desired profit
Cost –plus price
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Pricing Decisions
DECISION RULE: How to Approach Pricing?
If company is a price-taker for the product:
Emphasize target costing approach
If the company is a price-setter for the
product:
Emphasize cost-plus pricing approach
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Learning Objective 4
Decide whether to discontinue a
product, department, or store
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Other Short-term Business Decisions
Managers Face
When to discontinue a product, department, or
store
How to factor constrained resources into product
mix decisions
When to make a product or outsource it
When to sell as is or process further
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Considerations for Discontinuing Products,
Departments or Stores
Will the total fixed costs continue to exist even if the
product line is discontinued?
Can any direct fixed costs of the product be
avoided if the product line is discontinued?
Can any direct fixed costs of the product be
avoided if the product line is discontinued?
Use incremental analysis for discontinuing a product
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Discontinuing Products,
Departments or Stores
DECISION RULE: Discontinue a product, department, or store?
If lost revenues from discontinuing a product, department, or store exceed the cost savings from
discontinuing:
Do not discontinue
If total cost savings exceed the lost revenues from discontinuing a product, department, or store:
Discontinue
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Learning Objective 5
Factor resource constraints into
product mix decisions
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Product Mix
DECISION RULE: Which product to emphasize?
Emphasize the product with the highest contribution margin per unit of constraint
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Learning Objective 6
Analyze outsourcing (make-or-buy)
decisions
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Outsourcing (Make or Buy)
Considerations
To buy a product or service or produce
it in-house
The heart of the decisions : how best to use
available resources
How do our variable costs compare to the outsourcing
cost?
Are any fixed costs avoidable if we outsource?
What could we do with the freed capacity?
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Outsourcing
DECISION RULE: Should the company outsource?
If the incremental costs of making exceed the incremental
costs of outsourcing:
Outsource
If the incremental costs of making are less than the
incremental costs of outsourcing:
Do not outsource
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Learning Objective 7
Make sell as-is or process further
decisions
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Sell As-Is or Process Further
Considerations
How much revenue is generated if we sell the
product as is?
How much revenue is generated if we sell the
product after processing it further?
How much will it cost to process the product further?
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Sell As-Is or Process Further
DECISION RULE: Sell as-is or process further?
If extra revenue (from processing further) exceeds
extra cost of processing further:
Process further
If extra revenue (from processing further) is less than
extra cost of processing further:
Sell as is
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