C H A P T E R 9 Making Decisions Using Relevant Information Making Decisions Using Relevant Information

Learning Objective 1 Explain how evaluation leads to planning and why products and processes must be continuously evaluated.

How Does Evaluation Lead Us Back to Controlling?

Define Dimensions of Quality* Performance: Features: Reliability: Conformance: Durability: Serviceability: Aesthetics: Perceived quality: *David A. Garvin, “Competing on the Eight Dimensions of Quality,” Harvard Business Review, 65, Nov-Dec 87, pp

Learning Objective 2 Understand why benchmarking is so important and how it is conducted.

Benchmarking What is Benchmarking?

What are the Four Steps of Benchmarking? Step 1 Step 2 Step 3 Step 4

Learning Objective 3 Understand the concept of differential costs and revenues, and be able to identify those costs and revenues that are relevant to the product and process decisions.

Define Differential Costs and Sunk Costs Differential costs: Sunk costs: Differential costs: Sunk costs:

List Three Different Approaches to Decision Making

Example 1: Differential Costs The following costs relate to a customer’s order of 100 printed shirts. Identify the differential costs. Variable costs: Shirts $400 Printing labor Fixed costs: Print screen $ 95 Machine depreciation Manager’s salary Total $710

Example 1: Differential Costs

Example 2: Differential Costs Mike bought a machine two years ago for $2,000. If he buys a new machine for $3,000, he can sell the old machine for $500. The electricity cost for both machines is $0.30 per hour. The old machine requires maintenance costs of $500 a year, while the new machine will only incur costs of $200 per year. What are the differential costs? Differential costs:

Example 3: Total Costs A machine, used in production, has been owned and used for seven years. The machine only has two more years before the company disposes of it and its useful life ends. It runs okay, yet the company could use a newer, more productive machine. Should the machine be used for two more years, or should the company purchase a new machine? Note: When using the total-cost approach, we must look at all costs.

Example 3: Total Costs Variable costs: Fixed costs: Difference Old MachineNew Machine

Learning Objective 4 Identify several examples of product and process evaluation decisions, and be able to analyze and select the best alternative for each example.

Special Orders Should we make or buy the component or service we need? BUYER SELLER Should we accept the special order for our products or services?

Make or Buy a Component The Tree Company must decide whether to make or buy a chainsaw motor. A vendor will sell them the necessary motors for $14,000. The total cost figures to build the motors are as follows. Assuming excess capacity, what should The Tree Company do? Direct materials $ 2,000 Direct labor ,000 Variable overhead ,000 Fixed overhead: Direct $ 1,500 Indirect ,000 Total cost $15,500

Make or Buy a Component BuyMake Purchase cost Direct materials Direct labor Variable overhead Fixed overhead: Direct Indirect Total cost Differential

Purchase Services or Provide Them Internally Consider the differential costs of each alternative, as well as qualitative factors, such as:

Purchase Services or Provide Them Internally Atlas Co. is considering outsourcing its payroll department to a payroll company. Listed below are the costs of both outsourcing and maintaining its current payroll department. Cost of outsourcing: Payroll company $20,000 Rent saved by eliminating payroll department ,000 Net cost of outsourcing $44,000 Cost of maintaining payroll department: Total cost of payroll department $45,000 Less non-differential costs: Utilities & depreciation expense (10,000) Differential costs of payroll department $35,000 Should Atlas Co. outsource its payroll department?

Purchase Services or Provide Them Internally Atlas Co. is considering outsourcing its payroll department to a payroll company. Listed below are the costs of both outsourcing and maintaining its current payroll department.

Add or Drop a Product Matching DROP:Replace a product or a productline with another that contributes more to indirect fixed costs. ADD: Add a product or a product line that contributes (significantly) to indirect fixed costs. REPLACE:Drop a product or a product line that does not contribute to indirect fixed costs. DROP:Replace a product or a productline with another that contributes more to indirect fixed costs. ADD: Add a product or a product line that contributes (significantly) to indirect fixed costs. REPLACE:Drop a product or a product line that does not contribute to indirect fixed costs.

Add or Drop a Product ProductA B C Sales revenue $15,000$10,000$12,000 Variable costs ,000 6,000 8,000 Contribution margin.... $ 7,000$ 4,000$ 4,000 Direct fixed costs ,000 3,000 5,000 Contribution to indirect fixed costs.....$ 2,000$ 1,000$(1,000) Identify which of the following products should be retained.

Add or Drop a Product ProductA B C Sales revenue $15,000$10,000$12,000 Variable costs ,000 6,000 8,000 Contribution margin..... $ 7,000$ 4,000$ 4,000 Direct fixed costs ,000 3,000 5,000 Contribution to indirect fixed costs.....$ 2,000$ 1,000$(1,000)

Best Utilization of a Critical Resource Critical Resource Factor: In a manufacturing process, it is the resource that limits operating capacity by its availability. In deciding which product to manufacture, management should choose the item that provides the greatest contribution margin per unit of the most critical resource.

Best Utilization of a Critical Resource Handy Designs has identified its critical resource as 10,000 machine hours. Using the following data, select the products that should be produced with the limited machine hours. Product A B C Selling price $20$16$10 Variable costs Contribution margin..... $ 9$ 6$ 5 Machine hours required per unit Contribution per machine hour $ 3$ 3$ 5

Set Selling Prices Handset Software uses the following cost information to set the normal price on a new program. Computer Outlet has offered to buy the new program for $45 to sell as a store brand. Should Handset accept the offer? Direct materials $ 5 Direct labor Manufacturing overhead Total manufacturing cost $40 Markup (50% of cost) Estimated selling price $60

Show How to Set Selling Prices

Expanded Material Learning Objective 5 Understand the theory of constraints and how focusing on scarce resources can direct activities in manufacturing companies.

Define the Theory of Constraints

What are the Five Basic Steps to Employ the Theory of Constraints?

Managerial Accounting Chapter 9 Finished