1. Decision Making: Relevant Costs and Benefits14
Chapter
Fourteen
Decision Making:
Relevant Costs and Benefits
Chapter 14. Decision making, relevant costs and benefits. 1 1

2. Learning Objective 1
Describe six steps in the decision-making process and the managerial accountant’s role in that process.

3. The Managerial Accountant’s Role in Decision Making
Cross-functional
management teams
who make
production, marketing,
and finance decisions
Designs and implements
accounting information
system
The accountant is increasingly a part of the upper-management decision-making team. Management accountants are called to deliver relevant information to the team from their accounting information system. These teams then make decisions regarding production, marketing and financing affecting their organization. The management accountant is considered a business advisor in many organizations.
Make substantive
economic decisions
affecting operations 2 2

4. The Decision-Making Process
Exh.
14-1
1. Clarify the Decision Problem
2. Specify the Criterion
3. Identify the Alternatives
Quantitative
Analysis
4. Develop a Decision Model
Six steps generally characterize a typical decision-making process. Defining the problem, determining the objectives of the decision, identifying alternative courses of action, determining what information is relevant, collecting information to support the decision, then selecting the appropriate alternative.
5. Collect the Data
6. Make a Decision 3 3

5. Learning Objective 2
Explain the relationship between quantitative and qualitative analyses in decision making.

6. The Decision-Making Process
1. Clarify the Decision Problem
2. Specify the Criterion
Primarily the
responsibility of the
managerial
accountant.
3. Identify the Alternatives
4. Develop a Decision Model
Accounting data is typically kept in quantitative measures, and, is important in the decision–making process. Managers must use their skills, their judgment and their ethics to make difficult decisions.
While involved in all stages of the decision-making process, the managerial accountant’s primary role is to provide quantitative data and analysis that are relevant, accurate and timely to the decision being made.
5. Collect the Data
Information should be:
1. Relevant
2. Accurate
3. Timely
6. Make a Decision 4 4

7. The Decision-Making Process
1. Clarify the Decision Problem
2. Specify the Criterion
3. Identify the Alternatives
Qualitative
Considerations
4. Develop a Decision Model
Qualitative characteristics are the factors in a decision problem that cannot be expressed effectively in numerical terms. Sometimes, a decision can be made that goes against the quantitative analysis, because the effect on the company, their employees, or their customers would be negative.
5. Collect the Data
6. Make a Decision 7 7

8. Learning Objective 3
List and explain two criteria that must be satisfied by relevant information.

9. The Decision-Making Process
1. Clarify the Decision Problem
Relevant
Pertinent to a
decision problem.
2. Specify the Criterion
3. Identify the Alternatives
Accurate
Information must
be precise.
4. Develop a Decision Model
A managerial accountant might ask, “What sort of information should the accountant gather?” Information that is useful to a decision has some common characteristics. The information should be relevant, timely and accurate.
Relevant information means that only the information required to make the decision is presented.
Information must also be accurate in order to be useful.
The accuracy of the information is sometimes sacrificed in order to be timely. Information that is delivered after a decision has been made is of little use. If accountants had unlimited time, the information could be extremely accurate. Accuracy suffers as the time period shortens.
The management accountant’s job is to determine what information is relevant and provide accurate and timely data keeping a proper balance of accuracy and timeliness.
>>>The information on slide 9 is LO2, not LO3>>>
Timely
Available in time
for a decision
5. Collect the Data
6. Make a Decision 4 4

10. Information is relevant to a decision problem when . . .
Relevant Information
Information is relevant to a decision problem when . . .
It has a bearing on the future,
It differs among competing alternatives.
Relevance has certain characteristics also. Relevant information is future oriented. To demonstrate this characteristic, you cannot make a decision on what to have for breakfast yesterday. Why? Because the decision has already been made, and, you have either already eaten or skipped yesterdays breakfast. You can make a decision on what to have for breakfast tomorrow, in the future.
Relevant information differs between the alternatives. This makes a difference in the decision. If one item costs $100, and the second item costs $100, there is no difference in the cost, and, it is not relevant to the decision. If the second item cost $115, there would be a difference, and it would be relevant to the decision.
Relevant information makes a difference in a decision. 8

11. Learning Objective 4
Identify relevant costs and benefits, giving proper treatment to sunk costs, opportunity costs, and unit costs.

12. Identifying Relevant Costs and Benefits
Sunk costs Costs that have already been incurred. They do not affect any future cost and cannot be changed by any current or future action.
Sunk costs are costs that have been incurred in the past, and are not relevant to the future, and not relevant to a future decision. A decision has already been made, in the past, and that specific decision cannot be changed. A new decision can be made regarding the past decision, but, that is a new decision. Sunk costs cannot be changed.
Sunk costs are never relevant to a future decision.
Sunk costs are irrelevant to decisions. 9 11

13. Relevant Costs
Worldwide Airways is thinking about replacing a three year old loader with a new, more efficient loader.
An example might help clarify relevant costs. In this example, a business is considering the replacement of a loading machine. 11 17

14. Relevant Costs If we keep the old loader, we will have depreciation
costs of $25,000. If we replace the old loader,
we will write-off the $25,000 when sold. There is
no difference in the cost, so it is not relevant.
Depreciation of the old loader is not relevant. The cost of the old loader was incurred in the past, and cannot be changed.
The new loader will be depreciated in one year. 12 18

15. Relevant Costs The $5,000 proceeds will only be realized if we
replace the old loader. This amount is relevant.
If we decide to replace the old loader, we can sell it for $5,000. This is relevant to the decision because we will only sell the loader in the future, if the decision to replace the machine is made.
The $5,000 is relevant to the decision to replace the loader.

16. Relevant Costs We will only have depreciation on the new loader
if we replace the old loader. This cost is relevant.
We will only have depreciation on the new machine if we replace it. The depreciation cost of the new loader is relevant.

17. Relevant Costs The difference in operating costs is relevant
to the immediate decision.
If we buy the new loader, there will be differences between the operating costs of the current loader and the new one. The differences in operating costs is relevant to the decision to replace the old loader.

18. Here is an analysis that includes only relevant costs:
The final analysis of the relevant costs of purchasing the new loader shows that the new loader would have a positive effect of $25,000 to the business.
The decision to purchase a new loader is appropriate. 30 37

19. Learning Objective 5
Prepare analyses of various special decisions, properly identifying the relevant costs and benefits.

20. Analysis of Special Decisions
Let’s take a close look at some special decisions faced by many businesses.
We just received
a special order. Do
you think we should
accept it?
An unexpected order arrived from a potential customer. We need to decide whether or not to accept this special order.

21. Accept or Reject a Special Order
A travel agency offers Worldwide Airways $150,000 for a round-trip flight from Hawaii to Japan on a jumbo jet.
Worldwide usually gets $250,000 in revenue from this flight.
The airline is not currently planning to add any new routes and has two planes that are idle and could be used to meet the needs of the agency.
The next screen shows cost data developed by managerial accountants at Worldwide.
A travel agency s us. They want to charter one of our aircraft for a round trip flight from Japan to Hawaii. We have two airplanes that could potentially be used to fly this trip. The managerial accountant prepared some information to help the team make the decision whether or not to accept this offer. 59 71

22. Accept or Reject a Special Order
Normally, we would earn revenues of $280, and incur expenses of $190,000 on a trip such as this. However, we would not have to provide ticketing and reservation services and would save $5,000 in these costs.
Worldwide will save about $5,000 in reservation
and ticketing costs if the charter is accepted.

23. Accept or Reject a Special Order
Since we have two airplanes that are not being used, we only need to consider our variable costs of making the trip. We would also save the ticketing costs, reducing our variable costs by $5,000.
Even though we would normally receive $250,000 for a trip such as this, we should accept the offer. The trip would contribute to paying our fixed costs, or, if our fixed costs are already paid, it would contribute this amount directly to profit.
Worldwide should accept this offer.
Since the charter will contribute to fixed costs and Worldwide has idle capacity, the company should accept the flight.

24. Accept or Reject a Special Order
What if Worldwide had no excess capacity? If Worldwide adds the charter, it will have to cut its least profitable route that currently contributes $80,000 to fixed costs and profits. Should Worldwide still accept the charter?
What should we do if all of our airplanes are busy and we would have to pull our airplane from a regular route?

25. Accept or Reject a Special Order
Since we would not earn the revenues from our regular route, we would have to charge for the lost revenue of the route that was not taken, a lost opportunity. The total cost to us exceeds the amount of the offer and we should reject the special offer.
Worldwide has no excess capacity, so it should reject the special charter.

26. Accept or Reject a Special Order
With excess capacity . . .
Relevant costs will usually be the variable costs associated with the special order.
Without excess capacity . . .
Same as above but opportunity cost of using the firm’s facilities for the special order are also relevant.
The decision to accept or reject a special offer can be summed up like this. If we do have excess capacity, the relevant costs will usually be the variable costs. If we do not have extra capacity, we would have to add the opportunity cost of using our facilities.

27. Outsource a Product or Service
A decision concerning whether an item should be produced internally or purchased from an outside supplier is often called a “make or buy” decision.
Let’s look at another decision faced by the management of Worldwide Airways.
Sometimes the decision is whether we should produce a product, or whether we should have someone else produce that product.
This is called a make buy decision. 49 61

28. Outsource a Product or Service
An Atlanta bakery has offered to supply the in-flight desserts for 21¢ each.
Here are Worldwide’s current cost for desserts:
We currently make our own desserts that are served on flights. Our cost summary is shown here. 50 62

29. Outsource a Product or Service
Not all of the allocated fixed costs will be saved
if Worldwide purchases from the outside bakery.
Our variable costs will remain in the analysis, but some of our allocated fixed costs will not be relevant to this decision. We will incur somewhat less in supervisor salaries, but will still have some since someone needs to make sure the desserts are delivered and loaded properly. Our depreciation will not change under either decision, so that cost is not relevant.
Our relevant costs are .15 per dessert.

30. Outsource a Product or Service
If Worldwide purchases the dessert for 21¢, it will only save 15¢ so Worldwide will have a loss of 6¢ per dessert purchased.
Wow, that’s
no deal!
If we bought from the outside source, our cost would be 21 cents, and our relevant cost for this decision are 15 cents.
We should not accept this special offer, since we would lose 6 cents per dessert served.

31. Outsource a Product or Service
Beware of Unit-Cost Data
For decision-making purposes, unitized fixed costs can be misleading.
Fixed costs often are allocated to individual units of product or service for product-costing purposes. For decision-making purposes, however, unitized fixed costs can be misleading. Remember that fixed costs are fixed in total, not on a per unit basis. Also, many fixed costs remain, regardless of a decision to outsource or to continue to produce.

32. Add or Drop a Service, Product, or Department
One of the most important decisions managers make is whether to add or drop a product, service or department.
Let’s look at how the concept of relevant costs should be used in such a decision.
Sometimes, managers want to drop a product or service because it appears to be unprofitable. 31 40

33. Add or Drop a Product
Worldwide Airways offers its passengers the opportunity to join its World Express Club. Club membership entitles a traveler to use the club facilities at the airport in Atlanta.
Club privileges include a private lounge and restaurant, discounts on meals and beverages, and use of a small health spa.
Worldwide Airways offers its passengers the opportunity to join its World Express Club. Club membership entitles a traveler to use the club facilities at the airport in Atlanta. Club privileges include a private lounge and restaurant, discounts on meals and beverages, and use of a small health spa. 32 41

34. Add or Drop a Product Sales $200,000 Less: Variable Costs:
Food/Beverage $70,000
Personnel 40,000
Variable overhead 25,000 (135,000)
Contribution Margin ,000
Less: Fixed Costs:
Depreciation $30,000
Supervisor salary 20,000
Insurance 10,000
Airport fees ,000
Allocated overhead ,000 ( 75,000)
Loss $ ( 10,000)
The president of Worldwide Airways, is worried that the World Express Club might not be profitable. Her concern is caused by the statement of monthly operating income shown.
In her weekly staff meeting, Wing states her concern about the World Express Club’s profitability. The controller responds by pointing out that not all of the costs on the club’s income statement would be eliminated if the club were discontinued. The vice president for sales adds that the club helps Worldwide Airways attract passengers who it might otherwise lose to a competitor. As the meeting adjourns, Wing asks the controller to prepare an analysis of the relevant costs and benefits associated with the World Express Club. 33 42

35. Add or Drop a Product KEEP CLUB ELIMINATE DIFFERENTIAL
Sales $200, $200,000
Food/Beverage (70,000) 0 (70,000)
Personnel (40,000) 0 (40,000)
Variable overhead (25,000) (25,000)
Contribution Margin 65, ,000
Depreciation (30,000) (30,000)
Supervisor salary (20,000) 0 (20,000)
Insurance (10,000) (10,000)
Airport fees ( 5,000) 0 ( 5,000)
Allocated overhead (10,000) (10,000)
Loss $ (10,000) $(50,000) $ 40,000
The management accountant’s report contains two parts. Above, the focus is on the relevant costs and benefits of the World Express Club only, while ignoring any impact of the club on other airline operations. In the first column the accountant has listed the club’s revenues and expenses from the income statement. The second column lists the expenses that will continue if the club is eliminated.
The third column is the differential, or the difference between the two columns. 33 42

36. Add or Drop a Product KEEP CLUB ELIMINATE DIFFERENTIAL
Sales $200, $200,000
Food/Beverage (70,000) 0 (70,000)
Personnel (40,000) 0 (40,000)
Variable overhead (25,000) (25,000)
Contribution Margin 65, ,000
Depreciation (30,000) (30,000)
Supervisor salary (20,000) 0 (20,000)
Insurance (10,000) (10,000)
Airport fees ( 5,000) 0 ( 5,000)
Allocated overhead (10,000) (10,000)
Loss (10,000) (50,000) 40,000 N O T A V I D B L E
These expenses are called unavoidable expenses. In other words, these costs will continue if the club is either kept or eliminated. Depreciation, insurance and allocated overhead costs will continue regardless of the decision, therefore Worldwide cannot avoid them. 42 33

37. Add or Drop a Product KEEP CLUB ELIMINATE DIFFERENTIAL
Sales $200, $200,000
Food/Beverage (70,000) 0 (70,000)
Personnel (40,000) 0 (40,000)
Variable overhead (25,000) (25,000)
Contribution Margin 65, ,000
Depreciation (30,000) (30,000)
Supervisor salary (20,000) 0 (20,000)
Insurance (10,000) (10,000)
Airport fees ( 5,000) 0 ( 5,000)
Allocated overhead (10,000) (10,000)
Profit/Loss (10,000) (50,000) 40,000 A V O I D B L E
In contrast, the expenses appearing in the first column but not the second are avoidable expenses. The airline will no longer incur these expenses if the club is eliminated. Notice that all variable costs are avoidable. In addition, supervisor salaries and airport fees will be eliminated if the club is closed. 42 33

38. Add or Drop a Product
KEEP CLUB ELIMINATE DIFFERENTIAL
Sales $200, $200,000
Food/Beverage (70,000) 0 (70,000)
Personnel (40,000) 0 (40,000)
Variable overhead (25,000) (25,000)
Contribution Margin 65, ,000
Depreciation (30,000) (30,000)
Supervisor salary (20,000) 0 (20,000)
Insurance (10,000) (10,000)
Airport fees ( 5,000) 0 ( 5,000)
Allocated overhead (10,000) (10,000)
Profit/Loss (10,000) (50,000) $ 40,000
The positive $40,000 differential amount reflects the fact that the company is $40,000 better off by keeping the club.
The positive $40,000 differential amount reflects the fact that the company is $40,000 better off by keeping the club. 42 33

39. Add or Drop a Product KEEP CLUB ELIMINATE DIFFERENTIAL
Sales $200, $200,000
Food/Beverage (70,000) 0 (70,000)
Personnel (40,000) 0 (40,000)
Variable overhead (25,000) (25,000)
Contribution Margin 65, ,000
Avoidable fixed costs
Supervisor salary (20,000) 0 (20,000)
Airport fees ( 5,000) 0 ( 5,000)
Profit/Loss $ 40, $ 40,000
The conclusion of the first part of the controller’s report is that the club should not be eliminated. If the club is closed, the airline will lose more in contribution margin, $65,000, than it saves in avoidable fixed expenses, $25,000. Thus, the club’s $65,000 contribution margin is enough to cover the avoidable fixed expenses of $25,000 and still contribute $40,000 toward covering the airline’s overall fixed expenses.
Worldwide airlines would also lose the contribution margin of $65,000. The club contributes $40,000 to Worldwide’s fixed costs. 33 42

40. Add or Drop a Product
Contribution margin from
general airline operations
that will be forgone if club
is eliminated $ 60, –0– $ 60,000
The Opportunity Cost of lost contribution margin is $60,000.
Now consider the second part of the controller’s analysis, the effect on Worldwide as a whole. As the vice president for sales pointed out, the World Express Club is an attractive feature to many travelers.
The controller estimates that if the club were discontinued, the airline would lose $60,000 each month in forgone contribution margin from general airline operations. This loss in contribution margin would result from losing to a competing airline current passengers who are attracted to Worldwide Airways by its World Express Club. This $60,000 in forgone contribution margin is an opportunity cost of the option to close down the club. 51 42

41. Conclusion KEEP THE CLUB OPEN!
Contribution margin from
general airline operations
that will be forgone if club
is eliminated $ 60, –0– $ 60,000
Profit/Loss $ 40, –0– $ 40,000
Monthly profit of
KEEPING the club open $100,000
=======
Considering both parts of the controller’s analysis, Worldwide Airways’ monthly profit will be greater by $100,000 if the club is kept open. Recognition of two issues is key to this conclusion. First, only the avoidable expenses of the club will be saved if it is discontinued. Second, closing the club will adversely affect the airline’s other operations.
Worlwide should keep the club open.
Worldwide is better off by $100,000 per month by keeping their club open. 42 51

42. Learning Objective 6
Analyze manufacturing decisions involving joint products and limited resources.

43. Special Decisions in Manufacturing Firms
Joint Products:
Sell or Process Further
A joint production process resulting in two or more products. The point in the production process where the joint products are identifiable as separate products is called the split-off point.
Joint production processes make two or more different products using some similar beginning process. An example of this might be a basic coffee maker. The basic coffee maker is produced, then a timer is added to the premium coffee maker.
The split-off point is where we have two differently identifiable products.

44. Joint Processing of Cocoa Bean Total joint cost: $1,100 per ton
Cocoa butter
sales value
$750 for
1,500 pounds
Cocoa beans
costing $500
per ton
Joint Production
process costing
$600 per ton
Split-off point
Cocoa powder
sales value
$500 for
500 pounds
Separable
process
costing
$800
Total joint cost:
$1,100 per ton
Cocoa beans are processed for all finished chocolate products. When the Cocoa beans are finished, they can be used to produce two different finished products , cocoa butter and cocoa powder. The cocoa powder can then be sold as is, or, used to produce instant cocoa mix.
Instant cocoa
mix sales value
$2,000 for
500 pounds

45. Relative Sales Value Method
Joint Products
Relative Sales Value Method
The decision to sell or produce further can be solved by using the relative sales value method. First, we determine the relative dales value at the split off point. 78 98

46. Relative Sales Value Method
Joint Products
Relative Sales Value Method
Then we calculate the relative sales proportion of the cocoa butter.
$750 ÷ $1,250 = 60% 78 98

47. Relative Sales Value Method
Joint Products
Relative Sales Value Method
We then allocate the joint costs to the cocoa butter.
60% × $1,100 = $660 78 98

48. Relative Sales Value Method
Joint Products
Relative Sales Value Method
We follow a similar procedure to allocate the joint costs to the cocoa powder. The cocoa butter is a finished product and can be sold. 78 98

49. Joint Products
Cocoa butter is sold at the end of the joint processing.
Cocoa powder may be sold now or processed into instant cocoa mix. Further processing costs of $800 will be incurred if the company elects to make instant cocoa mix.
Cocoa powder can be sold as a finished product, or processed further into instant cocoa mix for $800.

50. Joint Products The cocoa powder should be
( )
Because the benefit of further processing is positive, we should process the powder further in the instant cocoa mix. While it costs us more to produce the instant mix, we also earn more revenue from the mix.
The cocoa powder should be
processed into instant cocoa mix.

51. Decisions Involving Limited Resources
Firms often face the problem of deciding how limited resources are going to be used.
Usually, fixed costs are not affected by this decision, so management can focus on maximizing total contribution margin.
Let’s look at the Martin, Inc. example.
Organizations typically have limited resources. Limitations on floor space, machine time, labor hours, or raw materials are common. Fixed cost often continue regardless of the decision, so maximizing the contribution margin is most often the appropriate decision. 64 76

52. Martin, Inc. produces two products and selected data is shown below:
Limited Resources
Martin, Inc. produces two products and selected data is shown below:
Martin Company produces two products with the costs shown. 65 77

53. Should Martin focus its efforts
Limited Resources
The lathe is the scarce resource because there is excess capacity on other machines. The lathe is being used at 100% of its capacity.
The lathe capacity is 2,400 minutes per week.
Should Martin focus its efforts
on Webs or Highs?
The lathe is used 100% of the time in production. It is working at its maximum capacity, and is the scarce, or limited resource. Sometimes this is known as the bottleneck. 66 78

54. Limited Resources
Let’s calculate the contribution margin per unit of the scarce resource, the lathe.
Webs have a contribution margin of $24 per minute. 68 80

55. Limited Resources
Let’s calculate the contribution margin per unit of the scarce resource, the lathe.
Highs have a contribution margin of $30 per minute. 69 81

56. Limited Resources
Let’s calculate the contribution margin per unit of the scarce resource, the lathe.
All other things being equal, and if the company can sell all the highs it can produce, the company should produce and sell all the highs it can.
Highs should be emphasized. It is the more valuable use of the scarce resource the lathe, yielding a contribution margin of $30 per minute as opposed to $24 per minute for the Webs. 71 83

57. Limited Resources
Let’s calculate the contribution margin per unit of the scarce resource, the lathe.
Webs should only be produced when more highs cannot be sold, and they have excess capacity to produce webs.
If there are no other considerations, the best plan would be to produce to meet current demand for Highs and then use remaining capacity to make Webs. 72 84

58. Let’s see how this plan would work.
Limited Resources
Let’s see how this plan would work.
Allotting the Scarce Resource – The Lathe
Weekly demand for Highs 2,200 units
Time required per unit x minutes
Time required to make Highs 1,100 minutes
Total lathe time available 2,400 minutes
Time used to produce Highs 1,100 minutes
Time available for Webs 1,300 minutes
Time required per unit x minute
Production of Webs 1,300 units
The weekly demand for highs is 2,200 units and would use 1,100 minutes of lathe time. This leaves 1,300 minutes worth of lathe time to produce Webs. 87 75

59. Limited Resources
According to the plan, Martin will produce 2,200 Highs and 1,300 Webs. Martin’s contribution margin looks like this.
WE would have a total contribution margin of $64,000 for Martin. If we were able to sell more highs, we would increase production of highs to the maximum capacity of the lathe.
The total contribution margin for Martin, Inc. is $64,200.
Any other combination would result in less contribution. 76 88

60. Binding constraints can limit a company’s profitability.
Theory of Constraints
Binding constraints can limit a company’s profitability.
To relax constraints management can . . .
Outsource
Work overtime
A binding constraint, such as the lathe, can limit a company’s profitability. A few of the ways that management can relax a constraint is by expanding the capacity of a bottleneck operation, subcontracting all or part of the bottleneck operation, invest in additional production equipment, work overtime, retrain employees and shift them to the bottleneck and eliminating any non-value-added activities at the bottleneck operation.
Retrain employees
Reduce non-value-
added activities

61. Uncertainty
One common technique for addressing the impact of uncertainty is sensitivity analysis - a way to determine what would happen in a decision analysis if a key prediction or assumption proved to be wrong.
Sensitivity analysis is a technique for determining what would happen in a decision analysis if a key prediction or assumption proved to be wrong.

62. Expected Values
From the last example, recall the the contribution margin for Webs was $24 and $15 for Highs.
Due to uncertainty, assume Martin has the following
probable contribution margins for the two products.
Webs
Highs
Another approach to dealing explicitly with uncertainty is to base the decision on expected values. The expected value of a random variable is equal to the sum of the possible values for the variable, each weighted by its probability.
Suppose the contribution margins per case for Webs and Highs are uncertain, in other words, there is a 30% probability that webs will have a contribution margin of $23, a 50 % chance the contribution margin will be $24, and a 20% probability that the contribution margin will be $25.

63. Expected Values
From our last example, recall the the contribution margin for Webs was $24 and $15 for Highs.
Martin would use the expected value contribution margins in its decision about utilizing its limited resource - the lathe.
Due to uncertainty, assume we have the following
probable contribution margins for the two products.
Webs
Highs
As the slide shows, the choice as to which product to produce with excess lathe time may be based on the expected value of the contribution per machine hour. Statisticians have developed many other methods for dealing with uncertainty in decision making.

64. Other Issues in Decision Making
Incentives for
Decision Makers
Short-Run
Versus
Long-Run
Decisions
There is an important link between decision making and managerial performance evaluation. Managers typically will make decisions that maximize their perceived performance evaluations and rewards. This is human nature. If we want managers to make optimal decisions by properly evaluating the relevant costs and benefits, then the performance evaluation system and reward structure should be consistent with that perspective.

65. Learning Objective 7
Explain the impact of an advanced manufacturing environment and activity-based costing on a relevant-cost analysis.

66. Other Issues in Decision Making
Pitfalls to Avoid
Sunk
costs.
Allocated
fixed costs.
Decision-making analysis is very similar in an ABC, or Activity Based Costing environment. The difference in the analyses lies in the superior ability of the ABC data to properly identify what the avoidable costs are. We must use caution to avoid the pitfalls of not recognizing sunk costs, allocated or shared costs, fixed costs per unit as opposed to total fixed costs, and opportunity costs which are not present in the accounting system.
Unitized
fixed costs.
Opportunity
costs.

67. End of Chapter 14
The decision to end chapter 14 has been made!