‘Chnpoar 04 - Funrdamwatals of Gost Analysis foe Dacikioe Making 4 Fundamentals of Cost Analysis for Decision Making Solutions to Review Questions a4 Costs that are —fixed in the short runil are usually not fixed in the long run. In fact few, if any. costs are fixed over a very long time horizon 4-2. ‘Asunk cost has taken place in the past and cannot be changed. A differential cost is one that will change with given decision 4-3, Strictly speaking, sunk costs can never be differential cests. However, sunk costs can determine the amounts of certain differential casts. For example, federal income taxes are based on historieal (sunk) costs. The disposal of a fixed asset may result in a tax based on the difference between the sales proceeds and the undepreciated sunk cost. Many contracts are based on sunk costs as well. Decisions may have contract implications that arise with changes in plans Shortrun decisions affect operations within one year (for example, the decision to accept a special order). Leng-run decisions affect operations for greater than one year (for example, expansion of plant capacity} 4-5, The full cost of @ product is the sum of sill fixed and variable costs of manufacturing and selling a unit. Full costis not always appropriate for making decisions especially short- tun decisions. Fixed costs are often irrelevant for short-run decisions (ie. fixed costs often remain unchanged from the status quo to the altemative}. 4-6. The product life cycie covers the time from initial research and development to the time at which support to the customer is withdrawn. Managers estimate revenues and costsChapear 0+ - Fundamsanals of Cost Amalytis for Decision Making throughout the product's life cycle to make pricing decisions. Life-cycle costs include not only the costs of development and production, but also the costs of maintenance and disposal. a7. Cost-plus pricing is most likely to be used for unique products where no market price information exists—areas like construction jobs, defense contracts, and custom orders. 4-8. Target cost is the target price minus some desired profit margin. Target price is a price set by management based on customers’ perceived value for the product and the price competitors charge. There are four steps to developing target prices and target costs: 1. Develop a product that satisfies the needs of potential customers 2. Choose a target price based on consumers’ perceived value of the product and competitor's prices. 3. Derive = target cost by subtracting the desired profit margin from the target piice. 4. Perform value engineering to achieve target costs. 48, Predatory pricing is the practice of a setting a selling price at a low price with the intent of driving competitors out of the market or of creating a barrier to entry for new competitors. Predatory pricing is illegal in many jurisdictions because, although there might be a short-term benefit to consumers, as competitors are driven out of the market. the firm practicing predatory pricing is able to act a5 a monoploly. 4-10. Dumping is the practice of exporting products to consumers in anather country at an export price below the domestic price. A cost accountant would help determine the cost of the product and the costs of exporting versus distributing the product domestically. a1 Price discrimination is the practice of selling identical goods or services to different customers at different prices. A cost accountant would help determine the costs of providing the product to different customers. Examples of costs that might differ would be support costs (for example, for software} or distribution costs (for example, for urban versus rural consumers}.Chaptar 04- Fundamentals of Cost Amabysis fhe Decision Making 4-12. Unit gross margins are typically computed with an allocation of fixed costs. Total fixed costs generally will not change with = change in volume within the relewant range. Unitizing the fixed costs results in treating them as though they are variable costs when, in fact, they are not. Moreover, when mukiple products are manufactured, the relstive contribution becomes the criterion for selecting the optimal product mix. Fixed costs allocations can distort the relative contributions and result in a suboptimal decision. 13, The company should compute the contribution margin of each product per unit of the constraining resource. It should rank the products from highest to lowest contribution margin per unit of constraining resource, then produce the produsts in order of this value. 4-14. Production constraints mean that managers have to consider the opportunity cost of using production resources. Producing one unit of Product A means that less of Product 6 can be produced. The lost contribution from selling Product 8 is an opportunity cost of producing Product A. The optimal product mix is the one that maximizes the total contribution margin from all products subject to the constraints. 4-15. Common nonfinancial considerations that are important in deciding to drop a product line include the effect on employees that work on that line. the impact on sales of other products if itis important to be known asa company that can produce the product dropped, the effect on the community from possible plant closings, and so on 4-16. The theory of constraints focuses on these three factors: 1. Throughput contribution: Sales dollars minus direct materials and other variable costs. 2. Investments: Inventories, equipment, buildings, and other assets used to generate throughput contribution. 2 Operating costs: All operating costs other than direct materials and other variable costs.