ACCT 215 Ch12 Relevant cost for decision making : Summary of key points Introduction : Making decision is one of the basic functions of a manager . To be successful in decision making , managers must be able to tell the difference between relevant and irrelevant data and must be able to correctly use the relevant data in analyzing alternatives The purpose of this chapter is to develop these skills by illustrating their use in a wide range of decision making situations Cost concepts for decision making A relevant cost is a cost that differs between alternatives An avoidable cost is a cost that can be eliminated in whole or in part by selecting one alternative over another . Avoidable cost is relevant cost and unavoidable cost is irrelevant cost There are 2 categories of costs that are never relevant in any decision such as : 1- A sunk cost which is a cost that has already been incurred and cannot be avoided regardless of what a manager decides to do 2- A future cost that does not differ between alternatives is never a relevant cost

Relevant cost analysis will have 2 steps : 1- The first step is to eliminate costs and benefits that do not differ between alternatives (i.e sunk costs and future costs that do not differ between alternatives ) 2- The second step is to use the remaining costs and benefits that do differ between alternatives in making the decision

Costs that are relevant in one decision may not be relevant in another context .

There are 5 business decisions to be considered in this chapter such as :

A- Make or buy decisions : Consists of making the product or part of our product in house or buying it from an outsider . To take decisions we have to : List relevant costs for every decision (alternative) and to select the lowest cost B- A Special order : It is a one time order that is not considered part of the companys normal ongoing business To take decision we have to : Incremental revenues Incremental costsC- Utilization of a constrained resource : When a limited resource of some type restricts the companys ability to satisfy demand ,the company is said to have a constraint . To take decision we have to : Calculate CM/unit of constrained resource ( such as CM/minute , CM/kg or CM /pallet etc ) instead of the CM /unit and select the highest CM D- Joint products costs ( Split off point ) : In some industries , a number of finished products are produced from a single raw material input . When 2 or more products are produced from a common input these products are known as joint products . The split-off point is the point in the manufacturing process at which the joint products can be recognized as separate productsJoint costs are irrelevant in decisions regarding what to do with a product from the split off point forward . Therefore these costs should not be allocated to end products for decision making purposes To take decision we have to :

Incremental revenues Incremental costs after the split off point

E- Dropping or retaining a segment : This is one of the most important decision managers make is whether to add or drop a business segment . To take a decision we have to :

To calculate the CM that would be lost and the costs that would be avoided if the segment is dropped