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Ac211 Module 3 Management Accounting For Decision Making (Course Notes) Notes

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Lecture 1: Costing and Pricing in the Short Term Important Questions

* How do you identify relevant costs and revenues for decision-making in the short-term?

* When do costing systems product relevant information for decision-making?

Reading

Key Points

* Information and decisions

* Relevant vs. irrelevant costs/revenues

* Special pricing decisions

Summary

* Information and decisions

* Special pricing decisions

* Product mix decisions under capacity constraints

* Outsourcing decisions

* Discontinuation decisions

* Costing systems

* Product mixes under capacity constraints

* Outsourcing decisions

* Discontinuation decisions

* ABC vs. traditional costing systems

* Is ABC always more accurate?

* Joint costs

Information and Decisions

* Using management accounting information:

* Specification, aggregation and measurement errors Definitions

* Addivity/separability of cost drivers = Summing them up across all products gives total activity

*

* Direct costs = can be directly traced to a cost object

* Discontinuation decision = when products or other cost objects (e.g. customers, locations) are to be considered for discontinuation

* Indifferential = To remain identical under all possible courses of action

* Cost-Volume-Profit analysis is a typical way to make routine decisions

* Indirect costs = cannot be directly traced to a cost object

* Non-separable = resources that all products use at once in a nonexclusive manner

* Outsourcing = Obtaining certain goods or services from outside suppliers instead of producing them internally

*

* Separability of cost pools = Every cost pool corresponds to one and only one activity

* Special pricing decisions = Decisions concerning one-off orders, from customers outside the firm's main market

* This module is about non-routine decisions:
* One-off, non frequent
* Special studies:

* Special pricing decisions

* Product mix under capacity constraints

* Outsourcing (make or buy)

* Discontinuation decisions

* We only need to consider costs and revenues relevant to the decision in question

* Relevant costs and revenues:
* Future costs and revenues which:
? Are affected by the decision

* Not independent from the decision

* Do not remain the same under all possible courses of action

* Irrelevant costs and revenues:

* Past costs (i.e. sunk costs)
* Costs and revenues independent and unaffected by the decision

* Indifferential = To remain identical under all possible courses of action

* Indirect relevant costs can be very difficult to measure

* Crucial to allocate them effectively to avoid wrong decisions Special Pricing Decisions

* Special pricing decisions = Decisions concerning one-off orders, from customers outside the firm's main market
* Often at a price p < p (prevailing market price) Example of a special pricing decision

*

1. Analysis of the relevant costs and revenues

2. Consider qualitative and strategic matters

Course Notes Page 1

2. Consider qualitative and strategic matters

3. Consider beyond the short term

Further example of a special pricing decision

1. Analysis of the relevant costs and revenues

*

2. Considerations

Product mix decisions under capacity constraints

* We assume a multi-product firm with capacity Q

* The capacity is constrained by some bottleneck (D>Q)
* i.e. shortage of materials, skilled labour etc.

* The different products are competing for the use of the limiting factor(s)

* How do we choose the optimal product mix?

* Decision rule:

* Calculate contribution per unit of limiting factor

* Maximise the production of the product with the highest contribution

Example of a product mix decision under constraints

1. Calculate contribution margin per machine-hours (the constraint)

*

2. Maximise the production of the product with the highest contribution

Outsourcing decisions (make or buy?)

* Outsourcing = Obtaining certain goods or services from outside suppliers instead of producing them internally

* When deciding between make or buy, we consider two sides:

* Financial:

* Cost of internal production vs. cost of outsourcing

* However, comparing total unit cost with purchase price may be misleading

* Some costs included in total unit cost may still be incurred under outsourcing option

* Qualitative/strategic:

* Quality issues, need to retain key competencies or learning potential Example of an outsourcing decision

Course Notes Page 2

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