Direct Exam 2 Acct 2102 Materials

Variable Costs per unit do not…

Variable Costs per unit do not change with the activity level.

If sales volume is expected to be higher than the indifference point…

If sales volume is expected to be higher than the indifference point, management should choose the cost structure with the higher fixed costs.

CVP analysis relies on our knowledge of…

CVP analysis relies on our knowledge of cost behavior to express relationships among costs, sales volume, and profit.

The Break-even point is the point at which operating…

The Break-even point is the point at which operating income is equal to $0

In target profit calculations sales revenue..

In target profit calculations sales revenue is greater than total costs.

A company’s sales mix is ultimately determined by..

A company’s sales mix is ultimately determined by market.

Outsourcing: In addition to quantitative aspects of the analysis…

In addition to quantitative aspects of the analysis, companies should also consider the qualitative aspects in order to make sure that outsourcing the product makes sense for the company’s strategy.

When a company decides to outsource production of a product…

Total Cost to Make is More Than Total Cost to Buy. Thus increasing operating income.

Joint Costs:

These are the costs (DM, L, Overhead) incurred to produce multiple products simultaneously.

Split-Off Point:

The stage in the production process where joint products (X, Y, and Z) become separate and identifiable. This is the "fork in the road" where the decision to sell "as-is" or process further occurs.

Incremental Revenue/Cost:

Also known as differential or marginal revenue/cost. This refers only to the additional money coming in or going out specifically because of the decision to process further.

Relevant Costs:

Costs that differ between alternatives. In this case, the $17,500 rent and $5,500 labor are relevant because they only happen if you choose to process further.

In a ‘Sell or Process Further’ Decision, which of the following is typically considered a sunk cost?

Joint costs incurred prior to split-off

What term describes the point in the manufacturing process where joint products can be recognized as individual units?

Split-off Point

When performing a Sell or Process Further analysis, why are joint costs ignored?

They do not differ between the two alternatives

Segment Margin Simplified:

Sales minus all variable costs and traceable fixed costs. It is the best measure of the long-term profitability of a segment.

Common Fixed Costs

Costs that support the whole company and aren’t avoidable if one division/segment is dropped. Ignore the arbitrary allocation to individual divisions.

Traceable Fixed Costs:

Costs that can be tied directly to a division (e.g., the salary of the division manager). These disappear if the division is dropped.

Total Contribution Margin (CM)

Total Sales Revenue - Variable Costs

Total Traceable Costs =

Variable Cost + Fixed Costs

When comparing the traditional income statement to the segmented contribution margin income statement for the operating income amounts will….

When comparing the traditional income statement to the segmented contribution margin income statement for the operating income amounts will remain the same under both; only the format and how costs are grouped changes.

Common fixed costs are…

Common fixed costs are common they stay with the company even if a division is dropped.

When a company has a limit on a specific resource..

When a company has a limit on a specific resource like machine hours, the goal is to maximize the profit earned per unit of that resource, rather than just the profit per unit of the product.

Constrained Resource (Bottleneck):

A limited resource (like time, labor, or raw materials) that restricts the total output or profitability of a process.

Contribution Margin per Unit of Constrained Resource:

The amount of profit earned for every one unit of the bottleneck used. This is the "Gold Standard" for making production decisions when limits exist.

Opportunity Cost:

In this scenario, the opportunity cost of making a Chair is the profit lost by not using those 3 hours to make Tables instead.

Mixed Cost:

A cost that contains both fixed and variable elements (like this maintenance cost).

Cost Behavior:

How a cost reacts to changes in the level of activity.

Relevant Range:

The range of activity within which the assumptions about cost behavior are valid.

High-Low Method

A quick, mathematical way to separate mixed costs, though it is less accurate than “Least-Squares Regression” because it only uses two data points.

High-Low Method Problem Easy Steps to Remember:

CVF: Choose: Pick the highest and lowest activity months. Variable: Divide the change in dollars by the change in units. Fixed: Subtract the total variable cost from the total cost.

In managerial accounting, for information to be considered relevant..

In managerial accounting, for information to be considered relevant to a decision, it must meet two strict criteria: It must occur in the future. It must differ among the available alternatives.

Explain why this is wrong: Relevant costs and revenues ensure that all previously incurred (historical) expenses and earned revenues are the primary basis for making accurate short-term decisions.

Historical (previously incurred) expenses are known as Sunk Costs. Since they have already happened, you cannot change them. regardless of what decision you make today. Therefore, they are irrelevant to the future decision-making.

Explain why this is wrong: Relevant costs and revenues include only variable costs, simplifying the analysis required for decision-making.

While variable costs are often relevant because they change with production levels, not all relevant costs are variable. Some fixed costs can be relevant if they change because of a specific decision (e.g., needing to lease a second warehouse only if you accept a special order).

Explain why this is wrong: Relevant costs and revenues always incorporate fixed expenses because these are critical to long-term profitability.

In the short term, many fixed costs (like factory rent or administrative salaries) will remain exactly the same whether you choose Option A or Option B. If the cost doesn't change between the two paths, it is irrelevant to the choice between them.

Explain why this is wrong: Relevant costs and revenues require considering all future costs and revenues, even those that do not differ between alternatives, ensuring thoroughness in decision-making.

Considering "all" future costs, even those that don't differ, is inefficient. If your insurance premium is $500 next month regardless of which project you pick, including it in your comparison doesn't help you decide; it just makes the math more cluttered.

Differential Cost

The difference in total cost between two alternatives.

Opportunity Cost:

The benefit foregone by choosing one alternative over another. This is always relevant.

If a company has insufficient excess capacity to..

If a company has insufficient excess capacity to fully fill a special order, the company will need to give up regular sales if they accept the special order.

When a manufacturer outsources production... the manufacturer will typically eliminate all fixed manufacturing costs?

Incorrect: Outsourcing usually only eliminates variable costs and avoidable fixed costs (like the salary of a supervisor specific to that line). Unavoidable fixed costs (like factory rent, insurance, or general depreciation) remain regardless of whether the part is made in-house or bought.

In a keep/drop decision, if all of a company's fixed costs are common, a segment's segment margin will be less than its contribution margin.

Incorrect: If all fixed costs are common (meaning they are shared across the whole company and not traceable to one specific segment), the Segment Margin would actually be equal to the Contribution Margin. Segment margin only differs from contribution margin when there are traceable fixed costs to subtract.

The effect on current and future customer relationships should not be considered...

Incorrect: These are Qualitative Factors. While they are harder to quantify than dollars and cents, they are critical. For example, if regular customers find out a special-order customer got a massive discount, they may demand the same price or take their business elsewhere.

A company having few competitors would typically use target costing in its pricing approach.

Incorrect: Target costing (starting with a market price and subtracting a desired profit to find the "target cost") is used in highly competitive markets where the company is a price-taker. A company with few competitors has more market power and would typically use Cost-Plus Pricing.

Excess Capacity:

The portion of a company's production ability that is not currently being used. Special orders are generally only profitable if there is enough excess capacity to avoid disturbing regular operations.

Special Order:

A one-time order, usually at a reduced sales price, that is evaluated based on its incremental impact on net income.

Segment Margin:

The amount remaining after a segment (a branch, department, or product line) covers its own variable costs and its own traceable fixed costs. It is the best measure of the long-term profitability of a specific segment.

Critical High-Low Method Tip:

Always pick your high and low points based on the activity level, not the dollar amount.

Breakeven Point (Units) Formula:

Total Fixed Expenses / Unit Contribution Margin

Contribution Margin Percentage Increases

The Contribution Margin (CM) is the amount left over from sales after covering variable expenses. If the CM percentage increases (meaning you are keeping a larger slice of every dollar of sales), you are "chipping away" at your fixed expenses much faster. Since you reach the "payoff" point sooner, your breakeven point decreases.

What happens to the Breakeven Point when Variable expenses increase?

If variable expenses go up, your Contribution Margin (CM) goes down. You now have less money per unit to cover fixed costs, meaning you have to sell more units to break even.

What happens to the Breakeven Point when Sales Price decreases?

Reducing the price has the same effect as increasing variable costs—it shrinks the CM. A smaller CM means you must sell a higher volume of goods to cover the same fixed costs.

What happens to the Breakeven Point when Contribution Margin decreases?

A smaller CM is the enemy of a low breakeven point. If each unit brings in less "contribution," you need a higher volume to survive.

What happens to the Breakeven Point when Fixed Expenses increase?

Fixed Expenses Increase, Breakeven Increase

What happens to the Breakeven Point when Fixed Expenses increase?

Looking at the formula, Fixed Expenses are in the numerator. If they go up, the entire result (the breakeven point) goes up. You have a "taller mountain" of debt to climb before you see a profit.

Contribution Margin Ratio/Percentage Formula:

CM / Sales

Indifference Point Formula

Costs to Make = Costs to Buy