Download 8- 11 Decision-making situations (continued)

Chapter 8
Short-term decision making
techniques
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 1
Objectives
Explain the terms incremental costs and
incremental benefits.
• Describe situations where incremental
analysis may be used to assist
management.
• Distinguish between relevant and irrelevant
information used in decision making.
•
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 2
Objectives (continued)
•
Apply incremental analysis to two (2) of the
following situations:
make or buy a component
– accept a special order
– add a new product
– close a department
– process a product further, or sell the product
as is.
–
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 3
Objectives (continued)
Explain how costs and profits respond to
changes in sales volume.
• Use a cost-volume-profit analysis as a tool
for management.
• Define contribution margin.
• Calculate the contribution margin per unit
and the contribution margin as a ratio.
•
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 4
Objectives (continued)
Calculate a break-even point by use of a
formula and by use of a graph.
• Calculate the sales required to earn a
desired level of profit (in dollars and units).
• Apply a cost-volume-profit analysis to
practical situations.
•
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 5
Incremental benefits and
incremental costs
To assist decision makers by providing
information??
•
Incremental benefits
–
•
the difference between revenues of different
alternatives.
Incremental costs
–
the difference between costs of the alternatives
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 6
Incremental benefits and
incremental costs (continued)
Managers will aim to choose the alternative
which derives the greatest benefit.
• highest revenue
• lowest cost.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 7
Incremental analysis
•
Incremental analysis
–
•
Making an informed decision when faced with
alternatives.
Examples:
to make or buy a component
– to accept a special order
– to add a new product line
– to close a department
– to process a product further, or sell the product
as is.
–
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 8
Relevant and irrelevant
information
Management needs information to make
decisions, the more information the better.
• The accountant needs to identify all
relevant information to assist decision
makers.
• Relevant data is data that will alter the
result of the decision made.
•
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 9
Decision-making situations
•
Making or buying a component
–
Wether to make or buy a component is a very
common decision for management in a
manufacturing business.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 10
Decision-making situations
(continued)
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 11
Decision-making situations
(continued)
•
Special orders
–
Management also needs to choose whether to
accept a special order with prices lower
than normal.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 12
Decision-making situations
(continued)
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 13
Decision-making situations
(continued)
•
Adding a new product
–
If a manufacturing firm had idle production time
management may need to decide about adding a
new product to reduce idle time.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 14
Decision-making situations
(continued)
•
Closing a department
–
If a department is making a loss, management
may need to choose whether to close the
department or allow it to run at a loss.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 15
Decision-making situations
(continued)
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 16
Changes in sales volume
Cost-volume-profit-analysis (CVP) shows
the effects changes in the volume of
production will have on cost and profits.
• Fixed costs remain fixed no matter what the
level of production.
• Variable costs vary in direct proportion to
production: as output increases the total
variable costs will increase.
•
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 17
Cost-volume-profit analysis
(CVP)
CVP can be used in a number of
situations;
• to determine the effect changes in
volume of production will have on
profits
• to calculate the break-even point
(see slides 8:22 - 8:26 )
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 18
Contribution margin
•
is the amount remaining after total variable
costs have been deducted from sales
revenue
•
is required before management can use
CVP analysis as a tool for decision making.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 19
Contribution margin calculation
The contribution margin can be calculated in
two ways:
•
Contribution margin per unit
–
•
by subtracting the unit variable cost from the unit
selling price.
Contribution margin ratio
–
by expressing the contribution margin as a
percentage of sales.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 20
Example 6
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 21
Break-even point
Total revenue equals total costs.
• Allows managers to know how many units
need to be sold to break even.
• Any sales over this will be profit.
• It can be calculated by the formula or graph
method.
•
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 22
Break-even point: Formula method
There are two formulae:
Total fixed costs
= Units required to break even
contribution margin per unit
•
Total fixed costs
= Sales value to break even
contribution margin ratio
•
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 23
Break-even point: Graph method
Gives a visual presentation of the
relationship between costs and revenues.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 24
Example (continued)
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 25
Break-even point (continued)
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 26
Desired profit
•
Desired profit
–
–
•
certain level of profit
CVP analysis allows managers to determine the
level of sales required to determine profit.
Formula:
Total fixed costs + Desired profit = Required units
Contribution margin per unit
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Accounting for Business – A non-accountant’s guide 2/e by
Jopling, Lucas and Norton
Slides prepared by Rick Nieuwenhoven
8- 27