CA TM 2nd Edition Chapter 22 Eng

Chapter 22 Cost Accounting for Decision-making
Notes to teachers
1 This chapter deals with the application of costing concepts and techniques to
more complicated business decisions.
2 Teachers are advised to explain the concepts of sunk costs, opportunity costs,
incremental costs, relevant costs, irrelevant costs, avoidable costs and
unavoidable costs by using various examples. This is more useful than merely
reciting the definitions. Costs may be avoidable in one situation and not in
another. There is no hard and fast rule.
3 Examples are to be used to illustrate different types of business decisions: accept

or reject a special order; hire, make or buy a product/equipment; sell a product
now or process it further; retain or replace equipment; and eliminate or retain an
unprofitable business segment. It is recommended that the topics of ‘sell or
process further’ and ‘retain or replace equipment’ be taught at the end of the
chapter as these two types of decisions are the most difficult.
4 When analysing the various proposals for decision making, the key is to compare
the profit or loss before and after the proposal is adopted. The proposal that gives
the highest profit or lowest loss is to be chosen.
Check Your Progress

Q22-1 The restaurant should accept the order as it can earn a net profit of $48,000
on the order.
Order accepted
$
Sales revenue (1,000 × $550) 550,000
Less Cost of goods sold: Variable 175,000
Operating expenses: Variable 60,000
Opportunity cost 265,000
Delivery charge 2,000
Net profit 48,000
Q22-2 Avoidable costs are the costs which can be reduced or avoided when a
NSS BAFS: Frank Wood’s Cost Accounting 　　　　　　　　　 © Pearson Education Asia Limited 2016
Teacher’s Manual 2nd Edition 87
certain action is taken. Unavoidable costs are the costs which are incurred
regardless of what action is taken.
Q22-3 The management should buy the ice cream from outside suppliers as the
costs are $10,000 lower under the ‘buy’ alternative.
Make Buy
$ $
Direct materials 100,000 —
Direct labour 150,000 —
Variable manufacturing overheads 80,000 —
Fixed manufacturing overheads 120,000 ($120,000 − $30,000) 90,000
Cost of purchase — (50,000 × $7) 350,000
Total costs 450,000 440,000
Q22-4 In this case, we need to consider the change in sales revenue. If the sales
volume drops by 8% with no change in the selling price, sales revenue will
decrease by $48,000. The incremental analysis would be as follows:
Make Hire
$ $
Direct materials 100,000 80,000
Direct labour 150,000 75,000
Variable manufacturing overheads 80,000 60,000
Fixed manufacturing overheads 120,000 100,000
Hire charge — 100,000
Reduction in sales revenue — ($600,000 × 8%) 48,000
Total manufacturing costs 450,000 463,000
Total costs under the ‘hire’ alternative are higher than under the ‘make’
alternative. In this situation, the company should not hire the machinery.
Q22-5 The company should eliminate the ice cream segment as the net profit after
eliminating this segment will be higher than keeping this segment
($18,900,000 vs. $18,800,000).
Local Continental
lunch boxes lunch boxes Total
$ $ $
Sales revenue 60,000,000 12,000,000 72,000,000
Variable costs (24,000,000) (8,400,000) (32,400,000)
Contribution margin 36,000,000 3,600,000 39,600,000
Fixed costs (Workings) (18,583,333) (2,116,667) (20,700,000)
Net profit 17,416,667 1,483,333 18,900,000
Workings: Fixed costs are allocated as follows:
Local lunch box segment:

$ 60,000,000
$18,000,000 + ($700,000 × )
$ 60,000,000+ $ 12,000,000
= $18,583,333
Continental lunch box segment:

$ 12,000,000
$2,000,000 + ($700,000 × )
$ 60,000,000+ $ 12,000,000
= $2,116,667
Alternatively, we can compare the net loss suffered with and without the ice
cream segment. The company will arrive at the same decision.
Segment Segment
retained eliminated
$ $
Sales revenue 4,000,000 0
Variable costs (3,600,000) 0
Contribution margin 400,000 0
Fixed costs (1,200,000) (700,000)
Net loss (800,000) (700,000)
Q22-6 The company should eliminate the ice cream segment as the net profit after
eliminating this segment will be higher than keeping this segment
($19,000,000 vs. $18,800,000).
Local Continental
lunch boxes lunch boxes Total
$ $ $
Sales revenue (W1) 60,300,000 12,000,000 72,300,000
Variable costs (24,000,000) (8,400,000) (32,400,000)
Contribution margin 36,300,000 3,600,000 39,900,000
Fixed costs (W2) (18,767,220) (2,132,780) (20,900,000)
Net profit 17,532,780 1,467,220 19,000,000
Workings:
(W1) Local lunch box sales revenue = $60,000,000 + $300,000 =
$60,300,000
(W2) Fixed costs are allocated as follows:

Local lunch box business segment:
$ 60,300,000
$18,000,000 + ($800,000 × +
$ 60,300,000+ $ 12,000,000
$100,000)
= $18,767,220
Continental lunch box business segment:

$ 12,000,000
$2,000,000 + ($800,000 × )
$ 60,300,000+ $ 12,000,000
= $2,132,780
Alternatively, we can compare the net loss suffered with and without the ice
cream segment. The company will arrive at the same decision.
Segment Segment
retained eliminated
$ $
Sales revenue 4,000,000 300,000
Variable costs (3,600,000) 0
Contribution margin 400,000 300,000
Fixed costs (1,200,000) (900,000)
Net loss (800,000) (600,000)
Try This Activity

A22-1 (a) Jacky will choose watching a movie because this is his first priority.
(b) Singing karaoke
(c) He will then choose singing karaoke and his opportunity cost is playing
badminton.
A22-2 Incremental costs are the additional costs incurred when a certain action is
taken. Avoidable costs are the costs which can be reduced or avoided when
a certain action is taken. Incremental costs and avoidable costs are opposite
in nature.
Assessment
Short Questions
22.1 (a) A sunk cost; an irrelevant cost 1
(b) Not a sunk cost; a relevant cost 1
(c) A sunk cost; an irrelevant cost 1
22.2X (a) Avoidable 1
(b) Unavoidable 1
(c) Avoidable 1
22.3 (a) Avoidable 1
(b) Unavoidable 1
(c) Avoidable 1
(d) Unavoidable 1
(e) 30% is avoidable, 70% is unavoidable 1
22.4X Qualitative factors that need to be considered:

 The impact on the morale of existing staff 1
 The damage to relationships with customers 1
 The impact on the business’s reputation such as reducing its product

choices 1
(Any other reasonable answers)
Application problems
22.5 (a) & (b)
Order Order
accepted rejected
$ $
Sales (2,000 × $200) 400,000 0 1
Direct materials (2,000 × $25) (50,000) 0 1
Direct labour (2,000 × $40) (80,000) 0 1
Variable manufacturing overheads (2,000 × $15) (30,000) 0 1
Net profit 240,000 0 1
As net profit will increase by $240,000, this special order should be

accepted. 1
22.6X Costs to be incurred when the order is accepted:

$
175,00
0.5
Variable cost of goods sold (1,000 × $175) 0
Variable operating expenses (1,000 × $60) 60,000 0.5
Delivery charge 2,000 0.5
237,00
0.5
Total costs 0
The minimum price that the restaurant should charge is $237,000. 1
22.7 (a)
Keeping Closing
the outlet the outlet
$ $
Revenue 900,000 — 0.5
Variable costs (300,000) — 0.5
Traceable fixed costs (680,000) (W1) (136,000) 0.5 0.5
Allocated corporate overheads (150,000) — 0.5
Closure costs — (50,000) 0.5
Profit/(Loss) (230,000) (186,000) 0.5 0.5
Workings:
Traceable fixed costs after closing the outlet = $680,000 × 20%
= $136,000
The retail outlet should be closed as the company will suffer a smaller
loss following its closure. 1
(b) Qualitative factors that need to be considered:

 Impact on its corporate image as the retail outlet employs people
with disabilities
 Impact on the disabled employees as they may have great
difficulty finding alternative employment
(Any other reasonable answers, 1 mark)
22.8X (a)
Make Buy
$ $
Cost of purchase (W1) — 5,000,000 0.5
Direct materials (W2) 1,800,000 — 0.5
Direct labour (W3) 1,400,000 — 0.5
Variable factory overheads (W4) 200,000 — 0.5
Depreciation on production equipment (W5) 600,000 600,000 0.5 0.5
Administrative and selling overheads (W6) 2,000,000 2,000,000 0.5 0.5
Total costs 6,000,000 7,600,000 0.5 0.5
Workings:
(W1) Cost of purchase = 200,000 × $25 = $5,000,000
(W2) Direct materials = 200,000 × $9 = $1,800,000
(W3) Direct labour = 200,000 × $7 = $1,400,000
(W4) Variable factory overheads = 200,000 × $1 = $200,000
(W5) Depreciation on production equipment = 200,000 × $3

= $600,000
(W6) Administrative and selling overheads = 200,000 × $10

= $2,000,000
As the total costs of outsourcing the production of product A are

$1,600,000 higher than making it in-house (= $7,600,000 
$6,000,000), the company should not outsource its production. 2
(b) When making an outsourcing decision, the business should consider

the following qualitative factors:
 Product quality – Outside suppliers may not be able to meet the
product quality and reliability standards required by the business. 1
 Customers’ expectations – Customers may feel unhappy when they

find out the product they bought was not made by the business. 1
(Any other reasonable answers)
22.9X (a)
Per unit Total
$ $
Sales revenue 350 2,100,000 0.5
Direct materials 120 720,000 0.5
Direct labour 20 120,000 0.5
Variable production overheads ($70 + $60) 130 780,000 1
Cost of special equipment 40,000 0.5
Total costs (1,660,000)
Net profit 440,000 1
As the restaurant’s net profit will increase by $440,000, it should

accept this special order. 1
(b) If the restaurant does not have spare capacity, the restaurant should not
accept the special order. This is because it needs to give up a
contribution margin of $1,260,000 (= 6,000 × $210) for the $440,000
profit earned on the special order. 1
22.10 (a) Contribution margin per unit:

$
Sales ($1,600,000 ÷ 40,000) 40 0.5
Less Variable cost of goods sold ($800,000 ÷ 40,000) 20 0.5
Variable operating expenses ($40,000 ÷ 40,000) 1 0.5
Contribution margin 19 0.5
Breakeven point in units = ($320,000 + $60,000) ÷ $19 = 20,000 1
Breakeven point in sales dollars = 20,000 × $40 = $800,000 1
(b) Margin of safety in units = $800,000 ÷ $40 = 20,000 1
Margin of safety in sales dollars = $1,600,000 − $800,000 = $800,000 1
(c) Expected increase in profit by accepting the order:

$
150,00
Sales (6,000 × $25) 0.5
0
120,00
Less Variable cost of goods sold (6,000 × $20) 0.5
0
Variable operating expenses [6,000 × ($1 − $0.6)] 2,400 0.5
Profit 27,600 0.5
(d) Expected increase in profit by accepting the order:

$
Sales (2,500 × $29) 72,500 0.5
Less Variable cost of goods sold (2,500 × $20) 50,000 0.5
Variable operating expenses (2,500 × $1) 2,500 0.5
Profit 20,000 0.5
The order stated in part (c) should be accepted, as this will result in a
higher increase in profit. 1
22.11X (a) Outsourcing is the practice of buying products from outside suppliers
rather than producing them within the company. 1
(b) Comparison of costs:

Food service Keeping the
operations outsourced hospital cafe
$ $
Food costs — 8,900,000 0.5
Labour (W1) 85,000 850,000 0.5 0.5
Variable overheads (W2) 175,000 350,000 0.5 0.5
Food sales (W3) (1,150,000) (1,000,000) 0.5 0.5
Shinagawa's charges (W4) 8,942,500 — 1.5
Total costs 8,052,500 9,100,000
Workings:
(W1) Labour = $850,000 × 10% = $85,000
(W2) Variable overheads = $350,000 × 50% = $175,000
(W3) Food sales = $1,000,000 × 115% = $1,150,000
(W4) Shinagawa’s charges = 250 × 70% × $140 × 365 = $8,942,500
The hospital should outsource its food service operations as

outsourcing would result in lower total costs. The fixed hospital
overheads are irrelevant costs and should be ignored. 1
(c) Factors to consider include the food quality, the caterer’s reliability and
labour issues.
(Any two or other reasonable answers, 1 mark each)
22.12 (a) Avoidable costs

= $420,000 + $100,000 + $300,000 + ($200,000 × 10%) 2
= $840,000 1
(b) Purchase cost = 1,000 × $850 = $850,000 1
Profit will be reduced by $10,000 (= $850,000 − $840,000) if the

component is purchased from an outside supplier. 1
(c) Maximum price that Kangaroo is willing to pay

= Avoidable costs per unit
= $840,000 ÷ 1,000 1
= $840 per unit 1
22.13X (a)
Existing truck New truck
$ $
1,000,00
Variable operating costs ($165,000 × 10; $100,000 × 10) 1,650,000 0.5 0.5
0
(225,000
Current disposal value of the existing truck — 0.5
)
Purchase cost of the new truck — 900,000 0.5
1,675,00
Total operating costs 1,650,000 0.5 0.5
0
Difference in total operating costs = $1,675,000 − $1,650,000

= $25,000 1
The new truck has higher total operating costs over the 10-year period. 1
(b) The management should keep the existing truck as it has lower total
costs over the 10-year period. 1
22.14 (a)
Product X Product Y Product Z Total
$ $ $ $
Sales 7,000,000 9,000,000 — 16,000,000 0.5 each
(4,200,000
Variable costs (4,800,000) — (9,000,000) 0.5 each
)
Contribution margin 2,800,000 4,200,000 — 7,000,000 0.5 each
Fixed costs —
(1,000,000
Avoidable (1,800,000) — (2,800,000) 0.5 each
)
Fixed costs —
Unavoidable (600,000) (1,000,000) (540,000) (2,140,000) 0.5 each
Net profit/(loss) 1,200,000 1,400,000 (540,000) 2,060,000 0.5 each
If Product Z is eliminated, the unavoidable fixed costs of $540,000 will

remain. Net profit will become $2,060,000, which is lower than the original
net profit of $2,460,000. Therefore, Product Z should be kept. 1
(b) Effect on overall net profit:

Product X Product Y Product Z Total
$ $ $ $
7,000,000 1,500,00
Sales/Rental revenue 9,000,000 17,500,000 1
0
(4,200,000 (4,800,000
Variable costs — (9,000,000)
) )
2,800,000 4,200,000 1,500,00 8,500,000
Contribution margin 1
0
Fixed costs —
(1,000,000 (1,800,000
Avoidable — (2,800,000)
) )
Fixed costs —
(600,000) (1,000,000
Unavoidable (540,000) (2,140,000)
)
Net profit 1,200,000 1,400,000 960,000 3,560,000 1
The overall net profit will become $3,560,000, which is higher than the
original net profit of $2,460,000. In this case, Product Z should be
eliminated. 1
22.15X The profits generated by Forever Furniture Ltd when an unfinished table is
not processed further and when it is processed further are shown as follows:
Unfinished Finished
table table
$ $
Selling price 100 120 0.5 each
Direct materials (30) (34) 0.5 each
Direct labour (20) (28) 0.5 each
Variable manufacturing overheads (12) (16.8) 0.5 each
Fixed manufacturing overheads (8) (8) 0.5 each
Profit 30 33.2 0.5 each
As a finished table can generate a higher profit, Forever Furniture Ltd

should process the unfinished table further. 1
22.16 (a)
Total Bar Restaurant
$ $ $
Sales revenue 8,000,000 1,000,000 7,000,000 0.5
Variable costs (3,100,000) (600,000) (2,500,000) 0.5
Contribution margin 4,900,000 400,000 4,500,000 0.5
Traceable fixed costs (2,460,000) (260,000) (2,200,000) 0.5
Segment margin 2,440,000 140,000 2,300,000 0.5
Common fixed costs (Workings) (2,000,000) (200,000) (1,800,000) 1.5
Net profit 440,000 (60,000) 500,000 1
Workings:
Bar’s share of common fixed costs
= $2,000,000 × 1,000 ÷ (1,000 + 9,000)
= $200,000
Restaurant’s share of common fixed costs

= $2,000,000 × 9,000 ÷ (1,000 + 9,000)
= $1,800,000
(b) Income statement with the bar closed:
Total Bar Restaurant
$ $ $
Sales revenue 7,000,000 0 7,000,000 0.5
Variable costs (2,500,000) 0 (2,500,000) 0.5
Contribution margin 4,500,000 0 4,500,000 0.5
Traceable fixed costs (2,200,000) 0 (2,200,000) 0.5
Segment margin 2,300,000 0 2,300,000 0.5
Common fixed costs (2,000,000) 0 (2,000,000) 0.5
Net profit 300,000 0 300,000 1
The bar should not be closed as the company’s net profit will fall from
$440,000 to $300,000 following its closure, a decrease of $140,000. 1
(c) Qualitative reasons include:

 Customers will have fewer choices if the bar is closed.
 The bar’s workers will have to be laid off if the bar is closed. This
may affect the morale of the restaurant’s workers as they may also
worry about losing their jobs.
(Any one or other reasonable answers, 1 mark)
22.17 (a) Proposal A Proposal B

(i) Depreciation on the old machines Irrelevant Irrelevant 0.5
0.5
(ii) Gain on disposal of the old machines — Irrelevant

0.5
(iii) Disposal value of the old machines — Relevant

0.5
(iv) Fixed administrative and selling

expenses Relevant Irrelevant 0.5
0.5
(v) Purchase cost of the new machines Relevant Relevant 0.5
0.5
(vi) Variable manufacturing costs Relevant Relevant 0.5
0.5
(b) Total relevant costs incurred over the five-year period:

Proposal A Proposal B
$ $
Sales (W1) (600,000) (250,000)0.5 0.5
Variable manufacturing costs (W2) 1,900,000 1,250,000

1 1
Disposal value of the old machine — (180,000) 0.5
Purchase cost of the new machines 440,000 1,000,000

0.5 0.5
Fixed manufacturing overheads (W3) 50,000 — 0.5
Fixed administrative and selling expenses (W4) 100,000 — 0.5
Total relevant costs 1,890,000 1,820,000

0.5 0.5
Workings:
(W1) Proposal A’s sales = $120,000 × 5 = $600,000
Proposal B’s sales = $50,000 × 5 = $250,000
(W2) Proposal A’s variable manufacturing costs

= ($300,000 + $80,000) × 5 = $1,900,000
Proposal B’s variable manufacturing costs

= ($300,000  $50,000) × 5 = $1,250,000
(W3) $10,000 × 5 = $50,000
(W4) $20,000 × 5 = $100,000
Proposal B would be recommended. Moonwalker Express should

replace the old machines with new ones as this would result in lower
costs over the five-year period ($1,820,000 vs. $1,890,000), a saving of
$70,000. 1.5
(c) A sunk cost is a cost that has already been incurred and cannot be
recovered. It is a historical cost and should be excluded when making
decisions as it cannot be changed regardless of any future decisions. 1
Example: Purchase cost of the old sushi-making machines 1
22.18 (a)
Per unit 3,000 units
$ $ $
Costs of purchasing the CMOS image
sensors (5,000,000) 0.5
Benefits of purchasing the CMOS

image sensors:
Direct materials 550 1,650,000 0.5
Direct labour 220 660,000 0.5
Variable manufacturing overheads 280 840,000 0.5
Fixed manufacturing overheads

(avoidable portion):
Factory manager’s salaries
($750 × 1/3) 250 750,000 0.5
Machinery rental charges 510,000 0.5
4,410,000
Net costs of purchasing the component (590,000) 1
Based on the above analysis, Norton Ltd should reject the proposal and
continue to produce this component itself as the costs of purchasing
this component are $590,000 higher than making it in-house. 1
(b)
Per unit 3,000 units
$ $ $
Costs of purchasing the CMOS image
sensors (5,000,000) 0.5
Benefits of purchasing the CMOS

image sensors:
Direct materials 550 1,650,000
Direct labour 220 660,000
Variable manufacturing overheads 280 840,000
Fixed manufacturing overheads
(avoidable portion):
Factory manager’s salaries 250 750,000
Machinery rental charges 510,000
4,410,000 0.5
Profit earned on the new product line 600,000 0.5
Net benefits of purchasing the component 10,000 0.5
Thus, Norton Ltd should accept the proposal and purchase the
component from Sunflower Ltd as it can earn an additional profit of
$10,000. 1
(c) The opportunity cost of making a decision is the highest-valued

alternative forgone. 1
Example: The profit on the new product line which will be forgone if
Norton Limited produces the CMOS sensors itself. 1
22.19X (a) Costs per unit for the special order

= Variable costs ($100 + $125 + $60)
+ Additional direct materials cost ($30) 1
= $315 1
Stable Cabinet Ltd should accept this special order as the price offered
of $350 per unit is higher than the costs of $315 per unit. The company
can earn a profit of $35 per unit on this special order. 2
(b) Some of the costs are not counted as these costs are not relevant in the
decision-making process. For example, the fixed production overheads
remain unchanged regardless of what decision is made. 2
(c) The pricing strategy used by Stable Cabinet Ltd is called cost-plus
pricing. 1
Under this pricing strategy, the price is determined by adding a fixed
mark-up to the cost of a product. This pricing strategy is very easy to
use and can ensure that a certain amount of profit is earned. 2
(d) Stable Cabinet Ltd should consider the impact on existing customers
when they find out that a customer was able to buy products at a
discounted price. 1
Also, it should consider the reaction of its competitors. If they match

the discounted price and reduce their prices, how would this affect
Stable Cabinet Ltd’s profits? 1
(e) Currently, the incremental costs are $315 per Trendy cabinet. If the
company expands its production capacity to fill this special order,
incremental costs will become higher due to the costs of adding
capacity. 1
On the other hand, if the company uses its existing production capacity
to fill this special order, it will have to consider the opportunity costs of
giving up some sales of its regular products. 2
22.20 (a)
South Ocean East Harbour
Make Motors Motors
Costs of 1,000 units: $ $ $
Purchase cost — 125,000 90,000 0.5 each
Direct materials 50,000 — — 0.5
Direct labour 25,000 — — 0.5
Variable manufacturing overheads 20,000 — — 0.5
Fixed manufacturing overheads 35,000 24,500 10,500 0.5 each
Warranty costs — — 27,230 1.5
130,00
149,500 127,730
0 0.5 each
Note: The warranty costs are $10 per air-conditioner, i.e. $10,000 per
day (1,000 × 1% × $1,000) for three years. The present value of
an annuity of $10,000 for three years using an interest rate of
5% is $27,230 ($10,000 × 2.723).
Yoyogi Ltd should buy the motors from East Harbour Motors as this
will result in the lowest costs. 1
(b) Yoyogi Ltd should consider qualitative factors when deciding whether
to make or buy the motors. They include:
 Quality — Which of the three companies makes better motors?
 Delivery performance — Can the suppliers deliver the motors on
time? Is Yoyogi Ltd capable of making enough motors to meet its
production requirements?
 Commitment — Are the suppliers committed to supplying motors
to Yogogi Ltd on a long-term basis at reasonable prices?
 Compatibility — Are the motors purchased from outside suppliers
compatible with the other components used in the air-conditioners?
(Any two or other reasonable answers, 2 marks each)
(c) This practice is called outsourcing. 1
Yoyogi Ltd may still want to make the motors itself even though it can
buy them from outside suppliers at very attractive prices. This is
because there are factors other than price to consider. They include
quality, fear of losing trade secrets, effect on staff morale and
customers’ satisfaction.
(Any two or other reasonable answers, 1 mark each)
22.21X (a) Profit after eliminating the traditional DVD player product line:
$000
740,00
Sales 1
0
407,00
Less Variable manufacturing costs (W1) 1
0
Variable selling expenses (370,000 × $200) 74,000 1
259,00
Contribution margin 1
0
Less Fixed manufacturing costs (W2) 104,00 1
0
Fixed selling expenses (W3) 72,000 1.5
Net profit 83,000 1
If the traditional DVD player product line is eliminated, net profit will
be reduced by $42,000,000 ($125,000,000 − $83,000,000). 1
Workings:
(W1) Variable manufacturing costs of Blu-ray DVD players:
$000
Cost of goods sold 481,000
Less Fixed manufacturing costs (370,000 × $200) 74,000
Variable manufacturing costs 407,000
(W2) (1,000,000 × $30) + (370,000 × $200) = $104,000,000
(W3) Fixed selling expenses:

$000
Total selling expenses before eliminating the traditional
DVD player product line 194,000
Less Variable selling expenses:
Traditional DVD players (1,000,000 × $40) 40,000
Blu-ray DVD players (370,000 × $200) 74,000
Fixed selling expenses before eliminating the traditional
DVD player product line 80,000
Fixed selling expenses after eliminating the traditional DVD

player product line = $80,000,000 × 90% = $72,000,000
(b) Profit after eliminating the traditional DVD player product line:
$000
Sales (W4) 1,040,000 1
Less Variable manufacturing costs (W5) 572,000 1
Variable selling expenses (W6) 104,000 1
Contribution margin 364,000 1
Less Fixed manufacturing costs 104,000 0.5
Fixed selling expenses (W7) 80,000 1
Net profit 180,000 1
If the traditional DVD player product line is eliminated, net profit will
be increased by $55,000,000 ($180,000,000 − $125,000,000). 1
Workings:
(W4) $740,000,000 ÷ 370,000 × 520,000 = $1,040,000,000
(W5) $407,000,000 ÷ 370,000 × 520,000 = $572,000,000
(W6) $74,000,000 ÷ 370,000 × 520,000 = $104,000,000
(W7) Fixed selling expenses:
$000
Total selling expenses 194,000
Less Variable selling expenses:
Traditional DVD players (1,000,000 × $40) 40,000
Blu-ray DVD players (370,000 × $200) 74,000
Fixed selling expenses 80,000
22.22 (a)
Income Statement for the year ended 31 December 2015
Per unit 13,025 units 0.5
$ $ $000 $000
Sales 200,000 2,605,000 0.5 0.5
Less Variable
manufacturing
costs 45,666.79 594,810 0.5 0.5
Variable selling and

distribution costs 1,913.63 24,925 0.5 0.5
Salesmen’s
commissions 20,384.64 67,965.06 265,510 885,245 0.5 0.5
Contribution margin 132,034.94 1,719,755 0.5 0.5
Less Depreciation on plant and

equipment 239,750 0.5
Factory rent 377,980 0.5
Fixed administrative expenses 149,990 0.5
Fixed manufacturing overheads 220,405 0.5
Advertising expenses 500,680 0.5
Plant management staff salaries 123,715 1,612,520 0.5
Net profit 107,235 0.5
(b) (i) Contribution margin ratio

= $132,034.93 ÷ $200,000 × 100%
= 66.02% 1
(ii) Breakeven sales revenue:

Fixed costs ÷ Contribution margin ratio
= $1,612,520,000 ÷ 66.02%
= $2,442,471,978.18 1
(c)
Production Production line
line kept eliminated
$000 $000
Sales 405,000 — 0.5
Less Variable manufacturing costs 88,270 — 0.5
Variable selling and distribution costs 3,675 — 0.5
Salesmen's commissions 55,170 — 0.5
Total variable costs 147,115 —
Contribution margin 257,885 — 0.5
Less Depreciation of plant and equipment 36,750 36,750 0.5 0.5
Factory rent 80,000 — 0.5
Fixed administrative expenses 22,060 (W1) 11,030 0.5 0.5
Fixed manufacturing overheads 44,135 (W2) 35,308 0.5 0.5
Advertising expenses 73,560 — 0.5
Plant management staff salaries 66,205 — 0.5
Total fixed costs 322,710 83,088
Net loss (64,825) (83,088) 0.5 0.5
Workings:
(W1) $22,060,000 × 50% = $11,030,000
(W2) $44,135,000 × 80% = 35,308,000
The above analysis shows that the company’s net loss in the Southern
Africa market will increase by $18,263,000 (= 64,825,000 
$83,088,000) if it eliminates the production line for that market.
Therefore, the company should keep that production line. 1
22.23X (a) (i) Variable costs per unit:

$
Direct materials 800
Direct labour 300
Variable factory overheads ($300 × 150%) 450 0.5
Sales commissions ($4,000 × 10%) 400 0.5
1,950 0.5
Fixed costs = 12,000 × $400 + 850,000

= $5,650,000 0.5
$
Unit selling price 4,000
Variable costs per unit (1,950)
Unit contribution margin 2,050 1
Breakeven sales volume

= $5,650,000 ÷ $2,050
= 2,756.1
= 2,757 chairs 1
(ii) Margin of safety in units

= 12,000 – 2,757
= 9,243 chairs 1
Margin of safety ratio

= (9,243 ÷ 12,000) × 100%
= 77.03%
= 78% 1
(iii) Target sales volume

= ($5,650,000 + $10,000,000) ÷ $2,050
= 7,634.15 chairs
= 7,635 chairs 1
(b)
Order Order
accepted rejected
$ $
Revenue (2,000 × $3,500) 7,000,000 — 0.5
Costs:
Cost of goods sold
[2,000 × ($800 + $300 + $450 – $50)] (3,000,000) — 1
Machinery hire charge (100,000) — 0.5
Administration and selling expenses

0.5
(2,000 × $200) (400,000) —
Opportunity cost (2,000 × $2,050) (4,100,000) — 1
Net loss (600,000) — 0.5
As the company is already operating at full capacity, the acceptance of

the special order will result in a net loss of $600,000. Therefore, the
company should reject this special order. 1
(c)
Order Order
accepted rejected
$ $
Revenue (2,000 × $3,980) 7,960,000 — 1
Costs:
Cost of goods sold (3,000,000) — 0.5
Machinery hire charge (100,000) — 0.5
Administration and selling expenses (400,000) — 0.5
Packing cost (2,000 × $100) (200,000) — 0.5
Opportunity cost (4,100,000) — 0.5
Net profit 160,000 — 0.5
The acceptance of the special order will result in a net profit of

$160,000. Therefore, the company should accept this special order. 1
(d) Relevant costs are the expected future costs that must be considered
when making a decision. 1
Incremental costs are the additional costs incurred when a certain

action is taken. Incremental costs are relevant costs. 1
22.24 (a)
A01 B01
$ $
Unit selling price (W1) 125 140 0.5 0.5
Unit variable costs (50) (70 0.5 0.5
)
Unit contribution margin 75 70 0.5 0.5
Sales mix (W2) 2 3 0.5
0.5
Workings:
(W1) A01’s unit selling price = $25,000,000 ÷ 200,000 = $125
B01’s unit selling price = $42,000,000 ÷ 300,000 = $140
(W2) Sales mix of A01 = 200,000 ÷ (200,000 + 300,000) = 2/5
Sales mix of B01 = 300,000 ÷ (200,000 + 300,000) = 3/5
Weighted average unit contribution margin

= $75 × 2/5 + $70 × 3/5
= $72 0.5
Breakeven sales volume = $3,150,000 ÷ $72 = 43,750 units 0.5
Number of units of A01 = 43,750 × 2/5 = 17,500 units 0.5
Number of units of B01 = 43,750 × 3/5 = 26,250 units 0.5
(b)
A01 B01
$ $
Revised unit selling price (W3) 175 196 0.5 0.5
Unit variable costs

(50) (70
)
Unit contribution margin 125 126 0.5 0.5
Sales mix 2 3
Workings:
(W3) A01’s unit selling price = $125 × 140% = $175
B01’s unit selling price = $140 × 140% = $196
Weighted average unit contribution margin

= $125 × 2/5 + $126 × 3/5
= $125.6 1
Breakeven sales volume = $3,150,000 ÷ $125.6 = 25,079.62 units 0.5
Number of units of B01 = 25,079.62 × 3/5 = 15,047.77 units

= 15,048 units 0.5
(c) A01 B01

Unit contribution margin $75 $70
Direct labour per unit $9 $15
Direct labour hours per unit (W4) 0.9 1.5 0.5
0.5
Contribution per direct labour hour (W5) $84 $47 0.5
0.5
Ranking 1 2 0.5
0.5
Workings:
(W4) A01’s direct labour hours per unit = $9 ÷ $10
= 0.9 direct labour hours
B01’s direct labour hours per unit = $15 ÷ $10

= 1.5 direct labour hours
(W5) A01’s contribution per direct labour hour = $75 ÷ 0.9

= $83.33
= $84
B01’s contribution per direct labour hour = $70 ÷ 1.5

= $46.67
= $47
(d)
Make Buy
$ $
Direct materials cost (W6) 1,500,000 — 0.5
Direct labour costs (W7) 750,000 375,000 0.5 0.5
Variable overheads (W8) 1,2 — 0.5
Fixed overheads (W9) 350,000 245,000 0.5 0.5
Rent expense 200,000 200,000 0.5 0.5
Rent revenue — (200,000) 0.5
Cost of purchase (W10) — 4,000,000 0.5

Total costs 4,050,000 4,620,000
Workings:
(W6) Direct materials cost = 50,000 × $30 = $1,500,000
(W7) Direct labour cost, ‘make’ alternative = 50,000 × $15
= $750,000
Direct labour cost, ‘buy’ alternative = $750,000 × 50%

= $375,000
(W8) Variable overheads = 50,000 × $25 = $1,250,000
(W9) Fixed overheads = $350,000 × 70% = $245,000
(W10) Cost of purchase = 50,000 × $80 = $4,000,000
As costs are $570,000 lower (= $4,620,000  $4,050,000) under the

‘make’ alternative, Vickie Co Ltd should continue making the 50,000
units of B01 LCD touch screens itself. 1
(e) When the total costs of making or buying these LCD touch screens are the
same, there will be no difference regarding whether Vickie Co Ltd chooses to
make or buy those screens.
Make Buy
$ $
Direct materials cost (W6) 1,500,000 —
Direct labour costs (W7) 750,000 375,000
Variable overheads (W8) 1,2 —
Fixed overheads (W9) 350,000 245,000
Rent expense 200,000 200,000
Rent revenue — (200,000)
Cost of purchase (W10) — 3,43
Total costs 4,050,000 4,050
Required unit purchase price

= $3,430,000 ÷ 50,000
= $68.6 1
Past Exam Questions
22.25 (a) (i) Sunk Cost
Sunk cost is a past cost which has already been incurred or
committed and is not affected by the choice among various
alternatives.
Sunk costs are irrelevant for short-run decision making.
(ii) Unavoidable Cost

Unavoidable cost is a cost which cannot be saved by not adopting
an alternative.
Unavoidable costs are irrelevant for short-run decision making.
(b)
$
Direct Material A (6,000 × $80) 480,000
Direct Material B:
Acquisition cost (600 × $15) 9,000
Avoidable cost (500)
Direct labour — overtime premium (200 × $40 × 150%) 12,000
Overhead (1,200 × $80 × 60%) 57,600
Opportunity cost:
Overtime saving forgone by not choosing the first option
(250 × $40 × 150%) 15,000
Total relevant costs 573,100
Minimum quotation price for the second option = $573,100
22.27 (a) (i) Incremental benefit (cost savings per unit if offer was accepted):
$ $
Direct materials per unit savings ($60 × 20%) 12
Direct labour per unit savings ($40 × 10%) 4
Total production overhead per unit 30
Less Fixed production overhead per unit ($200,000 ÷ 10,000) 20
Original variable production overhead per unit 10
Variable production overhead per unit savings ($10 × 20%) 2
18
Since the incremental benefit of $18 is less than the incremental

cost (the offer unit price of $20), Dora Limited should not accept
the offer from Ellen Limited.
(ii) Qualitative factors to be considered:

(1) Whether the quality (e.g., durability) of Ellen Limited’s
packaging boxes is comparable to that of the existing ones?
(2) Whether the delivery (e.g., timing and location) of packaging
boxes from Ellen Limited is reliable and complies with the
internal production requirement?
(3) Whether idle internal production capacity due to external
purchase of packaging boxes can be put to beneficial use?
(Any other appropriate answers)
(b)
$
Unit selling price 162
Less Unit variable cost:
Direct materials (other than the packaging box) ($60 × 80%) 48
Packaging box 20
Direct labour ($40 × 90%) 36
Variable production overhead ($10 × 80%) 8
Contribution per unit 50
Total contribution from accepting order for 2,500 units

= $50 × 2,500
= $125,000
Thus, the maximum acceptable monthly rental fee of the production
machine should be $125,000.
22.29 (a) Production overhead absorption rate of PD1
= ($804,900 + $640,500) ÷ 350,000 machine hours
= $4.13 per machine hour
Production overhead absorption rate of PD2

= ($407,800 + $312,500) ÷ 250,000 direct labour hours
= $2.88 per direct labour hour
(b) (i) Variable production overhead absorption rate of PD1

= $640,500 ÷ 350,000 machine hours
= $1.83 per machine hour
Variable production overhead absorption rate of PD2

= $312,500 ÷ 250,000 direct labour hours
= $1.25 per direct labour hour
Product S Product T
$ $
Direct materials (W1) 19 22
Direct labour (W2) 26 38
Absorbed variable production overhead (W3) 43.3 41.96
Total variable production cost per unit 88.3 101.96
Offer price from potential supplier 70 130
Decision Buy Make
Workings:
(W1) Direct materials:
Product S: $15 + $4 = $19
Product T: $16 + $6 = $22
(W2) Direct labour:

Product S: $7 + $19 = $26
Product T: $8 + $30 = $38
(W3) Absorbed variable production overhead:

Product S: $1.83 × 10 + $1.25 × 20 = $43.3
Product T: $1.83 × 12 + $1.25 × 16 = $41.96
(ii) Non-financial factors include:
 Whether or not the quality of goods supplied is acceptable to
Caleb Limited and, most important of all, customers?
 Whether staff morale is affected as a result of making external
purchase?
 Whether the delivery time is reliable and timely?
(Any other appropriate answers)
22.30X (a) (i) Estimated annual profit for the coming year:
$000 $000
Sales ($120,000,000 ÷ 60% × 95%) 190,000
Less Variable cost of sales:
Direct materials ($12,000,000 ÷ 60% × 90%) 18,000
Direct labour ($18,000,000 ÷ 60%) 30,000
Production overheads ($24,000,000 ÷ 60%) 40,000
Selling overheads ($9,000,000 ÷ 60%) 15,000 103,000
Contribution 87,000
Less Fixed costs:
Production overheads` 20,000
Selling overheads ($15,000,000 + $4,000,000) 19,000 39,000
48,000
(ii) Breakeven point in units and margin of safety:

Current year Coming year
Units sold/to be sold 60,000 60,000 ÷ 60% = 100,000
Unit contribution $57,000,000 ÷ 60,000 $87,000,000 ÷ 100,000

= $950 = $870
Fixed costs $35,000,000 $39,000,000
Breakeven point $35,000,000 ÷ $950 $39,000,000 ÷ $870

in units = 36,843 units = 44,828 units
Margin of safety (60,000 − 36,843) (100,000 − 44,828)
ratio ÷ 60,000 × 100% ÷ 100,000 × 100%
= 38.6% = 55.17%
(iii) The proposed changes are worthwhile because the annual profit for
the coming year is higher. Even though the breakeven point will
increase from 36,843 to 44,828 units, the margin of safety ratio
will increase from 38.6% to 55.17% in the coming year, which
means that the risk of making a loss is lower.
(b) Minimum quote price for the special order:

$
Direct materials —Alpha (400 × $15 + 100 × $25) 8,500
Direct labour (2,000 × $50 × 150%) 150,000
Variable production overheads ($8 × 2,000) 16,000
Fixed production overheads —
174,500

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Chapter 22 Cost Accounting for Decision-making

3 Examples are to be used to illustrate different types of business decisions: accept

Check Your Progress

Workings: Fixed costs are allocated as follows:

Local lunch box segment:

Continental lunch box segment:

(W2) Fixed costs are allocated as follows:

Continental lunch box business segment:

Try This Activity

(b) Not a sunk cost; a relevant cost 1

(c) A sunk cost; an irrelevant cost 1

22.2X (a) Avoidable 1

22.3 (a) Avoidable 1

(e) 30% is avoidable, 70% is unavoidable 1

22.4X Qualitative factors that need to be considered:

 The damage to relationships with customers 1

 The impact on the business’s reputation such as reducing its product

(Any other reasonable answers)

Direct materials (2,000 × $25) (50,000) 0 1

Direct labour (2,000 × $40) (80,000) 0 1

Variable manufacturing overheads (2,000 × $15) (30,000) 0 1

Net profit 240,000 0 1

As net profit will increase by $240,000, this special order should be

22.6X Costs to be incurred when the order is accepted:

Delivery charge 2,000 0.5

The minimum price that the restaurant should charge is $237,000. 1

Variable costs (300,000) — 0.5

Traceable fixed costs (680,000) (W1) (136,000) 0.5 0.5

Allocated corporate overheads (150,000) — 0.5

Closure costs — (50,000) 0.5

Profit/(Loss) (230,000) (186,000) 0.5 0.5

(b) Qualitative factors that need to be considered:

Direct materials (W2) 1,800,000 — 0.5

Direct labour (W3) 1,400,000 — 0.5

Variable factory overheads (W4) 200,000 — 0.5

Depreciation on production equipment (W5) 600,000 600,000 0.5 0.5

Administrative and selling overheads (W6) 2,000,000 2,000,000 0.5 0.5

Total costs 6,000,000 7,600,000 0.5 0.5

(W2) Direct materials = 200,000 × $9 = $1,800,000

(W3) Direct labour = 200,000 × $7 = $1,400,000

(W4) Variable factory overheads = 200,000 × $1 = $200,000

(W5) Depreciation on production equipment = 200,000 × $3

(W6) Administrative and selling overheads = 200,000 × $10

As the total costs of outsourcing the production of product A are

(b) When making an outsourcing decision, the business should consider

 Customers’ expectations – Customers may feel unhappy when they

(Any other reasonable answers)

Direct materials 120 720,000 0.5

Direct labour 20 120,000 0.5

Variable production overheads ($70 + $60) 130 780,000 1

Cost of special equipment 40,000 0.5

Net profit 440,000 1

As the restaurant’s net profit will increase by $440,000, it should

22.10 (a) Contribution margin per unit:

Less Variable cost of goods sold ($800,000 ÷ 40,000) 20 0.5

Variable operating expenses ($40,000 ÷ 40,000) 1 0.5

Contribution margin 19 0.5

Breakeven point in units = ($320,000 + $60,000) ÷ $19 = 20,000 1