Cost-Revenue Analysis for Decision Making

2. Chapter 32 Cost-RevenueAnalysis forDecision Making Section 1: The Decision Process Section Objectives • Explain the basic steps in the decision-making process. • Prepare income statements using the absorption costing and direct costing methods. • Using the contribution approach, analyze the profits of segments of a business. • Determine relevant cost and revenue data for decision-making purposes.

3. Objective 1. Explain The Basic Steps In The Decision-Making Process.

4. The Decision-Making Process • Define the problem. • Identify workable alternatives. • Determine relevant cost and revenue data. • Evaluate the cost and revenue data. • Consider appropriate nonfinancial factors. • Make a decision.

5. Absorption Costing • All manufacturing costs are included in the cost of goods manufactured. • The value of ending inventory includes fixed costs.

6. Objective 2. Prepare Income Statements Using The Absorption Costing And Direct Costing Methods.

7. White Manufacturing Corporation Income Statement Year Ended December 31, 2007 Sales (9,000 units sold @ $40) 360,000 Cost of Goods Sold Variable Manufacturing Costs (10,000 x $16) 160,000 Fixed Manufacturing Costs 50,000 Total Cost of Goods Mfgd. ($210,000/10,000 = $21/unit) 210,000 Less Finished Goods Inventory, Dec. 31 (1,000 x $21) 21,000 Costs of Goods Sold 189,000 Gross Profit on Sales 171,000 Selling and Administrative Expenses Variable Expenses (9,000 units @ $4) 36,000 Fixed Expenses 60,000 Total Selling and Administrative Expenses 96,000 Net Income 75,000 Income Statement Using Absorption Costing Fixed and variable manufacturing costs are included

8. Direct Costing (also called Variable Costing) • Only variable costs are included in the cost of goods manufactured. • Fixed manufacturing costs are charged to expense during the period. • Fixed manufacturing costs are not included in: • Cost of goods sold, or • Ending inventories. • Direct costing is notacceptable for GAAP financial reporting purposes.

9. Direct Costing • Manufacturing Margin: Sales minus the variable cost of goods sold. • Marginal Income on Sales: Manufacturing margin minus variable operatingexpenses. • Net Income: Marginal income on sales minus fixed manufacturing costs and fixed selling and administrative expenses.

10. White Manufacturing Corporation Income Statement Year Ended December 31, 2007 Sales (9,000 units @ $40) 360,000 Cost of Goods Sold Variable Manufacturing Costs (10,000 units @ $16) 160,000 Less Finished Goods Inventory, Dec. 31 (1,000 @ $16) 16,000 Costs of Goods Sold144,000 Manufacturing Margin 216,000 Variable Selling and Administrative Expenses (9000 units @ $4) 36,000 Marginal Income on Sales 180,000 Fixed Costs and Expenses Fixed Manufacturing Costs 50,000 Fixed Selling and Administrative Expenses 60,000 110,000 Net Income70,000 Income Statement Using Direct Costing Only variable manufacturing costs are included

11. Objective 3. Using The Contribution Approach, Analyze The Profits Of Segments Of A Business.

12. Contribution Margin • Contribution margin is the excess of revenues over variable costs of the business segment. • Profitability of a business segment is judged by its contribution toward covering common costs. • Controllablefixedcosts of each segment are deducted to determine the segment’s contribution to the overall profit. • Common costs are not considered when computing the contribution margin.

13. QUESTION: What are controllable fixed costs? ANSWER: Controllable fixed costs are costs that the segment manager can control.

14. QUESTION: What are common costs? ANSWER: Common costs are costs not directly traceable to a specific segment of the business.

15. Objective 4. Determine Relevant Cost And Revenue Data For Decision-Making Purposes.

16. Types of Costs • Relevant Cost: Future or expected cost that will change as a result of a decision. • Sunk Cost: A cost that has already been incurred. When making decisions, sunk costs are irrelevant. • Differential Cost: The difference between one alternative and another. • Opportunity Cost: The potential earnings or benefits that are given up because a certain course of action is taken.

17. Dilemma Decision Opportunity Cost Opportunity Cost To purchase equipment or invest in securities. Amount of interest or dividends received on securities if they had been purchased. Purchase equipment.

18. R E V I E W SECTION Complete the following sentences: absorption Under __________ costing, all manufacturing costs, including fixed costs, are included in the cost of goods manufactured. direct Under _____ costing, fixed manufacturing costs are written off as expenses in the period in which they are incurred. Direct _____ costing is not acceptable for GAAP financial reporting purposes.

19. R E V I E W SECTION Complete the following sentences: sales Manufacturing margin is _____ minus ________________________. variable cost of goods sold first The ____ step in the decision-making process is to define the problem. The potential earnings or benefits given up as a result of a certain course of action is a(n) __________ cost. opportunity

20. Thank You for using College Accounting, 11th Edition Price • Haddock • Brock