Chap011 - Chapter 11 - Decision Making with a Strategic...

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Chapter 11 - Decision Making with a Strategic Emphasis CHAPTER 11: DECISION MAKING WITH A STRATEGIC EMPHASIS QUESTIONS 11-1 Relevant costs are costs to be incurred at some future time and differ for each option available to the decision maker. Relevant costs in replacing equipment would include the cost of purchasing and installing the new equipment, the operating costs of the new equipment, and the disposal costs of the old equipment, the cost of repair of the old equipment, and so on. The purchase price of the old equipment would not be relevant to the decision. 11-2 When a firm chooses to have a basic service function provided by a subcontractor outside the firm, it is called outsourcing. Relevant cost analysis is used to identify the relevant costs in the decision to outsource or to retain the production or service activity within the firm. An example of a non-relevant cost in this context is a cost which would not differ between the options. For example, if there is no alternative use for the space occupied by the internal production, then the costs of the space is not relevant since these costs will continue whether the production is retained or outsourced. 11-3 Decisions where relevant cost analysis might be used effectively include: 1. The special order decision 2. Make, lease, or buy 3. Outsourcing 4. Sale before or after additional processing 5. Keep or drop products or services 6. Profitability analysis: evaluating programs 11-4 Relevant cost analysis is applied in the same way for manufacturing and for service firms. Both types of firms are subject to the types of decisions outlined in Question 11-3. 11-5 The relevant cost is only the incremental cost incurred for the additional processing. 11-6 Strategic factors include: 1. The level of capacity usage of the plant 2. The time value of money 3. Quality 4. Functionality 5. Timeliness of delivery 6. Reliability in shipping 7. Service after the sale 11-1
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Chapter 11 - Decision Making with a Strategic Emphasis 11-7 Not relevant, or sunk costs are costs which are irrelevant in decision making because they are committed and therefore there is no longer any discretion regarding these costs. Examples include the purchase price of equipment already owned and all related costs of installing the equipment. 11-8 Variable costs are usually more relevant in decision making than fixed costs because they are more likely to be discretionary, not yet incurred. In contrast, many times fixed costs are sunk because they relate to assets which have been purchased some time ago. 11-9 A firm can decrease variable costs by increasing fixed costs by, for example, purchasing new equipment that has lower operating costs. For example, a more technologically advanced and therefore more expensive machine will likely have lower variable operating costs, but a higher purchase cost. 11-10
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Chap011 - Chapter 11 - Decision Making with a Strategic...

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