Exam 21: Incremental Analysis

Legendary Motors has 7,000 defective autos on hand which cost $12,880,000 to manufacture.Legendary can either sell these defective autos as scrap for $8,000 per auto,or spend an additional $18,320,000 on repairs and then sell them for $12,000 per unit.What is the net advantage to repair the autos compared to selling them for scrap?

Accepting a special order is profitable whenever the revenue from the special order exceeds:

Scrap or rework decision Nielson has 5,000 defective televisions on hand which cost $380,000 to manufacture.Nielson can either sell these defective televisions as scrap for $65 per unit,or spend an additional $120,000 on repairs and then sell the televisions for $135 per unit. Should Nielson repair the defective TVs to sell them as scrap? Show your supporting computations:

Seeking creative solutions to problems Explain why it would be irresponsible and short-sighted for managers to base decisions entirely on revenue and cost figures.

Assuming that the MR Corporation has an inventory of 200 defective motors costing $450,000 to produce and $150,000 to repair,the repaired units can be sold for $275,000.The company receives an offer to purchase these motors for $100,000 before repairing them.The company's decision should be to sell the motors at the offered price. The $450,000 production costs are sunk costs and therefore irrelevant to the decision.Net proceed from the sale of repaired units is $125,000 (Proceeds from sale of reworked units $275,000 - relevant costs for repair $150,000)compared to the offer to purchase for $100,000.Since the offer price is less than the net proceed from the sale of repaired units,the decision should be not to sell the motors at the offered price.

Incremental analysis - make-or-buy decision Paramount Bikes,Inc.,uses 10,000 derailleurs in its bicycles each year.Derailleurs currently cost the company $20.90 per unit to manufacture,determined as follows: Paramount Bikes,Inc.,has been approached by an outside supplier that will provide derailleurs at a price of $16 per unit.If Paramount Bikes,Inc.,stops producing derailleurs,the direct materials,direct labor,and variable manufacturing overhead will be eliminated,as will $30,000 of the fixed manufacturing overhead.Use incremental analysis to determine whether Paramount Bikes,Inc.,should make or buy derailleurs.Complete the following schedule,and indicate in the space provided your decision to continue making,or to buy the part: Decision: ___________________________________________

Make-or-buy decision Currier,Inc.,manufactures and distributes a large number of products.The costs per unit for one product,a pole,are as follows: Currier recently decided to buy the pole from another manufacturer for $32 per unit because the unit cost was less than its unit cost of $34.Solely on the basis of the cost data given,evaluate this decision.

Products which emerge from a shared manufacturing process are

Joint products are similar products that serve the same exact function.

Assuming that the MR Corporation has an inventory of 200 defective motors costing $450,000 to produce and $150,000 to repair,the repaired units can be sold for $425,000.The company receives an offer to purchase these motors for $325,000 before repairing them.The company's decision should be to sell the motors at the offered price. The $450,000 production costs are sunk costs and therefore irrelevant to the decision.Net proceed from the sale of repaired units is $275,000 (Proceeds from sale of reworked units $425,000 - relevant costs for repair $150,000)compared to the offer to purchase for $325,000.Since the offer price is more than the net proceed from the sale of repaired units,the decision should be to sell the motors at the offered price.

Mell Co.manufactured 100 personal computers at a cost of $30,000.It can sell them as is for $65,000,or install hard disks in them for $25,000 and sell them for $105,000.The $30,000 original manufacturing cost is:

Aircraft Products,a manufacturer of aircraft landing gear,makes 1,000 units each year of a special valve used in assembling one of its products.The unit cost of producing this valve includes variable costs of $70 and fixed costs of $60.The valves could be purchased from an outside supplier at $77 each.If the valve were purchased from the outside supplier,40% of the total fixed costs incurred in producing this valve could be eliminated.Buying the valves from the outside supplier instead of making them would cause the company's operating income to:

Costs that have not yet been incurred and that may vary among different courses of action are called:

Joint production decisions Grassy Fertilizer manufactures two lines of garden grade fertilizer as part of a joint production process: GF10 and GF20.Joint costs up to the split-off point total $85,000 per batch.These joint costs are allocated to GF10 and GF20 in proportion to their relative sales values at the split-off point of $40,000 and $60,000,respectively. Both lines of garden grade fertilizer can be further processed into commercial grade fertilizer.The following table summarizes the costs and revenue associated with additional processing of GF10 and GF20: (a)The $85,000 in joint costs should be allocated to each product as follows: GF10 $____________,GF20 $____________ (b)Which product (GF10 or GF20)would result in a net decrease in operating income if processed into a commercial grade fertilizer? ____________ (c)Which product (GF10 or GF20)would result in a net increase in operating income if processed into a commercial grade fertilizer? ____________

All incremental revenue or incremental costs are relevant.

Sunk costs may be defined as unavoidable future costs resulting from past decisions.

Sunk costs:

In deciding whether or not to accept a special order,what is the opportunity cost of using machinery for which the firm has sufficient excess capacity to accept the order?

Which cost is not relevant in making financial decisions?

A cost that has already been incurred and cannot be changed is called a(n):