MANAGEMENT ADVISORY SERVICES

QUIZZER 13: RELEVANT COSTING FOR NON-ROUTINE DECISION-MAKING MSQ 013

RELEVANT COST CONCEPTS

1. True/False. The book value of old equipment is not a relevant cost in a decision.

2. True/False. A differential cost is a variable cost.

3. True/False. All future costs are relevant in decision making.

4. True/False. Variable costs are always relevant costs.

5. True/False. A sunk cost is a cost that has already been incurred but that can be avoided at least in part
depending on the action a manager takes.

6. True/False. A cost that will be incurred regardless of which course of action a manager takes is relevant to
the manager's decision.

7. True/False. Opportunity costs are recorded in the accounts of an organization.

8. For which of the following decisions are opportunity costs relevant?

Make or buy a part Keep or drop a product line
A. Yes Yes
B. Yes No
C. No Yes
D. No No

9. Which of the following costs are always irrelevant in decision making?

A. avoidable costs C. opportunity costs
B. sunk costs D. fixed costs

10. For which of the following decisions are sunk costs relevant?
A. the decision to keep an old machine or buy a new one.
B. the decision to sell a product at the split-off point or after further processing.
C. the decision to accept or reject a special order offer.
D. all of these.
E. none of these.

ADDING OR DROPPING A SEGMENT

11. True/False. One of the dangers of allocating common fixed costs to a product line is that such allocations can
make the line appear less profitable than it really is.

12. True/False. In a decision to drop a segment, the opportunity cost of the space occupied by the segment
would be the profit that could be derived from the best alternative use of the space.

13. True/False. Only the variable costs identified with a product are relevant in a decision concerning whether to
eliminate the product.

14. Allocated common fixed costs:

A. can make a product line appear to be unprofitable.
B. are always incremental costs.
C. are always relevant in decisions involving dropping a product line.
D. responses A, B, and C are all correct.

15. A study has been conducted to determine if one of the departments in Parry Company should be
discontinued. The contribution margin in the department is $50,000 per year. Fixed expenses charged to the
department are $65,000 per year. It is estimated that $40,000 of these fixed expenses could be eliminated if
the department is discontinued. These data indicate that if the department is discontinued, the company's
overall net operating income would:
A. decrease by $25,000 per year C. decrease by $10,000 per year
B. increase by $25,000 per year D. increase by $10,000 per year

The company's overall net operating income would decrease by the amount of the segment margin of the
department were to be discontinued.

16. Vanikoro Corporation currently has two divisions which had the following operating results for last year:
Cork Division Rubber Division
Sales P600,000 P300,000
Variable costs (310,000) (200,000)

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Contribution margin 290,000 100,000

Fixed costs for the division (110,000) (60,000)
Segment margin 180,000 40,000
Allocated corporate fixed costs (100,000) (50,000)
Net operating income (loss) P80,000 P(10,000)

Since the Rubber Division sustained a loss, the president of Vanikoro is considering the elimination of this
division. All of the fixed costs for the division could be eliminated if the division was dropped. If the Rubber
Division was dropped at the beginning of last year, how much higher or lower would Vanikoro's total net
operating income have been for the year?
A. $10,000 higher C. $50,000 higher
B. $40,000 lower D. $100,000 lower

THE SEGMENT MARGIN OF THE RUBBER DIVISION REPRESENTS THE AMOUNT BY WHICH THE
COMPANY'S OVERALL NET INCOME WOULD DROP IF THE RUBBER DIVISION WERE TO BE
DROPPED.

17. The management of Austin Corporation is considering dropping product R97C. Data from the company's
accounting system appear below:
Sales P130,000
Variable expenses 56,000
Fixed manufacturing expenses 49,000
Fixed selling and administrative expenses 35,000

In the company's accounting system all fixed expenses of the company are fully allocated to products. Further
investigation has revealed that $34,000 of the fixed manufacturing expenses and $20,000 of the fixed selling
and administrative expenses are avoidable if product R97C is discontinued.
A. Overall net operating income would increase by $20,000.
B. Overall net operating income would increase by $10,000.
C. Overall net operating income would decrease by $20,000.
D. Overall net operating income would decrease by $10,000.

The company's net operating income would decrease by the segment margin, $20,000, if product R97C were
dropped.

MAKE OR BUY
18. True/False. A merchandising company that buys all of its inventory from outside suppliers is an example of a
company that is vertically integrated.

19. The opportunity cost of making a component part in a factory with excess capacity for which there is no
alternative use is:
A. the variable manufacturing cost of the component.
B. the total manufacturing cost of the component.
C. the fixed manufacturing cost of the component.
D. zero.

20. In deciding whether to manufacture a part or buy it from an outside supplier, which of the following costs are
irrelevant?
Fixed overhead that Freight charges paid
will continue even if the by the purchaser if the
part is bought from part is bought from
an outside supplier an outside supplier
A. Yes Yes
B. Yes No
C. No Yes
D. No No

21. Consider the following statements:

I. A vertically integrated company is more dependent on its suppliers than a company that is not vertically
integrated.
II. Many companies feel they can control quality better by making their own parts.
III. A vertically integrated company realizes profits from the parts it is "making" instead of "buying" as well as
profits from its regular operations.

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Which of the above statements represent advantages to a company that is vertically integrated?
A. Only I B. Only III C. Only I and II D. Only II and III

22. Green Company produces 1,000 parts per year, which are used in the assembly of one of its products. The
unit product cost of these parts is:

Variable manufacturing cost P12

Fixed manufacturing cost 9
Unit product cost P21

The part can be purchased from an outside supplier at $20 per unit. If the part is purchased from the outside
supplier, two thirds of the fixed manufacturing costs can be eliminated. The annual impact on the company's
net operating income as a result of buying the part from the outside supplier would be:
A. $1,000 increase C. $5,000 increase
B. $1,000 decrease D. $2,000 decrease

23. Curly Inc. is considering whether to continue to make a component or to buy it from an outside supplier. The
company uses 16,000 of the components each year. The unit product cost of the component according to the
company's cost accounting system is given as follows:

Direct materials P8.10

Direct labor 6.40
Variable factory overhead 1.70
Fixed factory overhead 4.40

Assume that direct labor is a variable cost. Of the fixed manufacturing overhead, 30% is avoidable if the
component were bought from the outside supplier. In addition, making the component uses 1 minute on the
machine that is the company's current constraint. If the component were bought, this machine time would be freed
up for use on another product that requires 2 minutes on the constraining machine and that has a contribution
margin of $8.10 per unit. When deciding whether to make or buy the component, what cost of making the
component should be compared to the price of buying the component?
A. $20.60 B. $17.52 C. $24.65 D. $21.57

24. Part J88 is used in one of Quinney Corporation's products. The company makes 3,000 units of this part each
year. The company's Accounting Department reports the following costs of producing the part at this level of
activity:
Per unit
Direct materials P7.70
Direct labor P6.00
Variable manufacuring overhead P8.00
Supervisor’s salary P7.60
Depreciation of special equipment P5.90
Allocated general overhead P3.30

An outside supplier has offered to produce this part and sell it to the company for $32.10 each. If this offer is
accepted, the supervisor's salary and all of the variable costs, including direct labor, can be avoided. The
special equipment used to make the part was purchased many years ago and has no salvage value or other
use. The allocated general overhead represents fixed costs of the entire company. If the outside supplier's
offer were accepted, only $3,000 of these allocated general overhead costs would be avoided. If
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management decides to buy part J88 from the outside supplier rather than to continue making the part, what
would be the annual impact on the company's overall net operating income?
A. Net operating income would decline by $22,200 per year.
B. Net operating income would decline by $16,200 per year.
C. Net operating income would decline by $5,400 per year.
D. Net operating income would decline by $19,200 per year.

25. Refer to no. 24. If the company could use the space to make part J88 to produce part N19 that would
generate an additional segment margin of P10,000 per year, what would be the impact on the company's
overall net operating income of buying part J88 from the outside supplier?
A. Net operating income would decline by P4,600 per year.
B. Net operating income would increase by P4,600 per year.
C. Net operating income would decline by P15,400 per year.
D. Net operating income would increase by P15,400 per year.

26. Refer to no. 24. If the company could lease out the space used the space to make part for P20,000 per year,
what would be the impact on the company's overall net operating income of buying part J88 from the outside
supplier?
A. Net operating income would decline by P14,600 per year.
B. Net operating income would increase by P14,600 per year.
C. Net operating income would decline by P25,400 per year.
D. Net operating income would increase by P25,400 per year.

SPECIAL ORDERS
27. Consider a decision facing a company of either accepting or rejecting a special offer for one of its products. A
cost that is not relevant is:
A. direct materials.
B. variable overhead.
C. fixed overhead that will be avoided if the special offer is accepted.
D. common fixed overhead that will continue if the special offer is not accepted.

28. Knedler Corporation is preparing a bid for a special order that would require 720 liters of material C01D. The
company already has 200 liters of this raw material in stock that originally cost $9.90 per liter. Material C01D
is used in the company's main product and is replenished on a periodic basis. The resale value of the existing
stock of the material is $9.60 per liter. New stocks of the material can be readily purchased for $10.10 per
liter. What is the relevant cost of the 720 liters of the raw material when deciding how much to bid on the
special order?
A. $7,232 B. $7,272 C. $6,912 D. $6,972
Relevant cost of the raw material = 720 liters x $10.10 = $7,272

29. Scales Corporation has received a request for a special order of 6,000 units of product Y45 for $13.70 each.
Product Y45's unit product cost is $11.50, determined as follows:

Direct materials P2.50

Direct labor 1.90
Variable factory overhead 2.30
Fixed factory overhead 4.80

Direct labor is a variable cost. The special order would have no effect on the company's total fixed
manufacturing overhead costs. The customer would like modifications made to product Y45 that would
increase the variable costs by $8.10 per unit and that would require an investment of $20,000 in special
molds that would have no salvage value. This special order would have no effect on the company's other
sales. The company has ample spare capacity for producing the special order. If the special order is
accepted, the company's overall net operating income would increase (decrease) by

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A. ($26,600) B. $13,200 C. ($55,400) D. ($21,300)

30. Thomas Company is currently operating at a loss of $15,000. The sales manager has received a special
order for 5,000 units of product, which normally sells for $35 per unit. Costs associated with the product are:
direct material, $6; direct labor, $10; variable overhead, $3; applied fixed overhead, $4; and variable selling
expenses, $2. The special order would allow the use of a slightly lower grade of direct material, thereby
lowering the price per unit by $1.50 and selling expenses would be decreased by $1. If Thomas wants this
special order to increase the total net income for the firm to $10,000, what sales price must be quoted for
each of the 5,000 units?
A. $23.50 B. $24.50 C. $27.50 D. $34.00

In order to increase income to $10,000, there must be an increase of $25,000 or $5 per unit.
Direct materials $ 4.50
Direct Labor 10.00
Variable Overhead 3.00
Variable Selling Exp 1.00
Production Costs $18.50
Additional profit per
unit 5.00
Sales price/unit $23.50
=====

’31 to 32. Robertson Corporation sells a product for $18 per unit, and the standard cost card for the product
shows the following costs:
Direct material $ 1
Direct labor 2
Overhead (80% fixed) 7
Total $10

The only additional cost to Robertson would be foreign import taxes of $1 per unit.

31. Robertson received a special order for 1,000 units of the product. The only additional cost to Robertson would
be foreign import taxes of $1 per unit. If Robertson is able to sell all of the current production domestically,
what would be the minimum sales price that Robertson would consider for this special order?
A. $18.00 B. $11.00 C. $5.40 D. $19.00

The company would increase its minimum sales price to reflect the foreign import tax of $1
per unit.

32. Assume that Robertson has sufficient idle capacity to produce the 1,000 units. If Robertson wants to increase
its operating profit by $5,600, what would it charge as a per-unit selling price?
A. $18.00 B. $10.00 C. $11.00 D. $16.60

The company would want to charge a price equal to a per unit profit of $5.60 plus variable
costs per unit of $4.40 and the import tax per unit of $1.00. The total price is $11.00.

UTILIZATION OF CONSTRAINED RESOURCE

33. True/False. Managers should pay little attention to bottleneck operations because they have limited capacity
for producing output.

34. Which product would be selected in a decision that involves the utilization of a constrained resource?
A. the product with the lowest total cost per unit.
B. the product with the lowest variable cost per unit.

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C. the product that uses the least amount of constrained resource per unit.
D. the product with the highest contribution margin per unit.
E. the product with the highest contribution margin per unit of the constrained resource.

35. United Industries manufactures a number of products at its highly automated factory. The products are very
popular, with demand far exceeding the factory's capacity. To maximize profit, management should rank
products based on their:
A. gross margin
B. contribution margin
C. selling price
D. contribution margin per unit of the constrained resource

36. Supreme Celery Corporation manufactures four celery based products. Floods and fire on the west coast are
going to cause a shortage of celery for Supreme next month. Information related to the four celery products
that it produces are shown below. The numbers relate to the cost per case and the amount of celery per case
of product:
Jelly Cracker Soup Snack Bars
Spread
Sales price P40 P32 P35 P65
Variable costs P34 P22 P27 P50
Pounds of celery required 18 20 28 38

To maximize profit next month, in what order would it be best for Supreme to schedule production (first to
last)?
A. Jelly, Cracker Spread, Soup, Snack Bars C. Cracker Spread, Snack Bars, Jelly, Soup
B. Jelly, Snack Bars, Cracker Spread, Soup D. Snack Bars, Jelly, Soup, Cracker Spread

’37 to 38. Creelman Company makes four products in a single facility. Data concerning these products appear
below:

Products
A B C D
Selling price per unit P25.30 P28.00 P23.10 P27.50
Variable manufacturing cost per unit P13.20 P13.00 P9.30 P11.00
Variable selling cost per unit P1.50 P2.20 P3.40 P2.70
Milling machine minutes per unit 1.90 2.70 2.10 2.60
Monthly demand in units 4,000 1,000 1,000 1,000

The milling machines are potentially the constraint in the production facility. A total of 13,000 minutes are
available per month on these machines.

37. How many units of each products should be manufactured to maximize the profit of the company?
A B C D
A. 4,000 259 1,000 1,000
B. 4,000 1,000 259 1,000
C. 4,000 1,000 1,000 259
D. 259 1,000 1,000 1,000

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38. How many minutes of milling machine time would be required to satisfy demand for all four products?
A. 13,000 B. 11,600 C. 7,000 D. 15,000

SELL OR PROCESS FURTHER

39. True/False. All other things equal, it is profitable to continue processing a joint product after the split-off point
so long as the incremental revenue from further processing exceeds the incremental costs of further
processing.

40. True/False. Two or more different products that are manufactured in the same production period are known
as joint products.

41. Sheela Dairy Corporation buys unprocessed cows' milk from local farmers. At the dairy, this unprocessed milk
is broken down into cream and low-fat milk. The cream can be sold at this point or can be further processed
into butter. Which of the following would be relevant in the decision to further process the cream into butter?
A. the amount paid to the farmers to purchase the unprocessed milk.
B. the cost of breaking down the unprocessed milk into cream and low-fat milk.
C. the portion of corporate fixed expenses that are currently being allocated to cream.
D. none of these.

42. Degner Inc. has some material that originally cost $19,500. The material has a scrap value of $13,300 as is,
but if reworked at a cost of $2,100, it could be sold for $14,000. What would be the incremental effect on the
company's overall profit of reworking and selling the material rather than selling it as is as scrap?
A. ($20,900) B. $11,900 C. ($7,600) D. ($1,400)

43. Browning Company has 15,000 units in inventory that had a production cost of $3 per unit. These units
cannot be sold through normal channels due to a significant technology change. These units could be
reworked at a total cost of $23,000 and sold for $28,000. Another alternative is to sell the units to a junk
dealer for $8,500. The relevant cost for Browning to consider in making its decision is
A. $45,000 of original product costs.
B. $23,000 for reworking the units.
C. $68,000 for reworking the units.
D. $28,000 for selling the units to the junk dealer.

44. Products A, B, and C are produced from a single raw material input. The raw material costs $90,000, from
which 5,000 units of A, 10,000 units of B, and 15,000 units of C can be produced each period. Product A can
be sold at the split-off point for $2 per unit, or it can be processed further at a cost of $12,500 and then sold
for $5 per unit. Product A should be:
A. sold at the split-off point, since further processing would result in a loss of $0.50 per unit.
B. processed further, since this will increase profits by $2,500 each period.
C. sold at the split-off point, since further processing will result in a loss of $2,500 each period.
D. processed further, since this will increase profits by $12,500 each period.

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TEMPORARY SHUTDOWN
45. The company incurs fixed costs and expenses of P50,000. Its product sells for each P100 each, variable cost
per unit is P60. If the company closes shop temporarily fixed cost savings are estimated to amount to
P20,000, but additional costs for security and maintenance of P6,000 have to be incurred. How much sales
must the company have at shutdown point?
A. P35,000 B. P36,000 C. P50,000 D. None of these

Shutdown cost = Fixed cost – Fixed cost savings + Additional security and maintenance cost
= P50,000 – P20,000 + 6,000
= P36,000

Sales at shutdown point = (Fixed costs – Shutdown costs) / CM%

= (P50,000 – P36,000) / 40%
= P35,000

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