Chapter A12 - Chapter12 RelevantCosts forShortterm...

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1 Chapter 12 Relevant Costs  for Short-term Decision Making
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2 Relevant costs relevant  cost is a cost that differs  between alternatives. differential  cost is any cost that  differs   between alternatives in a decision An  incremental  cost is an  increase  in   cost  between alternatives in a decision
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3 Relevant costs An  avoidable  cost is any cost that can be  eliminated  (in whole or part) by choosing  one alternative over another in a decision. Avoidable costs are relevant costs. Avoidable cost, differential cost ,  incremental cost and relevant cost are used  interchangeably.
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4 Relevant costs Unavoidable  costs are never relevant and  include  sunk  costs and  future  costs that do  not differ between the alternatives. sunk  cost is a a cost that has already  been incurred and cannot be avoided —  regardless of what a manager decides to  do. future  cost is a cost that does  NOT  differ  between the alternatives
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5 Relevant costs Costs that are relevant in one decision  situation are not necessarily relevant in  another. In each situation the manager must  examine the data and isolate the relevant  costs.
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6 Relevant costs Beware of “rules-of-thumb” for identifying  relevant costs. For example, do not assume that variable  costs are relevant and fixed costs are  irrelevant.  Fixed costs that differ across alternatives  are relevant(traceable).  Fixed can be non- traceable and are irrelevant. Variable costs that do not differ are  irrelevant.
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7 Relevant costs Do not overlook the most critical weakness  — human frailty. Many (most?) people have difficulty  ignoring irrelevant costs when making  decisions. People are especially reluctant to discard  sunk costs in decision-making when the  sunk costs are a consequence of a past  decision  they have made  that in retrospect  turns out to be unwise. 
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8 Relevant costs A manager at White Co. wants to replace  an old machine with a new, more efficient  machine. White’s sales are $200,000 per year. Fixed expenses, other than amortization,  are $70,000 per year. Should the manager purchase the new  machine?
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9 Relevant costs New machine: List price 90,000 $ Annual variable expenses 80,000 Expected life in years 5 Old machine: Original cost 72,000 $ Remaining book value 60,000 Disposal value now 15,000 Annual variable expenses 100,000 Remaining life in years 5
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10 Relevant costs If the manager ignored relevant costs, he   likely would recommend that the company  not purchase     the new machine since  disposal of the old machine would result in  a loss: Remaining book value 60,000 $ Disposal value (15,000) Loss from disposal 45,000 $
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11 For Five Years Keep Old
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Chapter A12 - Chapter12 RelevantCosts forShortterm...

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