LEARNING OBJECTIVES:
When your students have finished studying this chapter, they should be
able to:
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CHAPTER 6: OVERVIEW
This chapter concludes a two-chapter sequence on relevant information
and its use in decision making.
Section Five: Indicates that future costs that do not differ among
alternatives are irrelevant for managerial decision making.
Section Six: Beware of unit costs and the volume levels for which they
are being reported.
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approach differ in their treatments of fixed factory-
overhead costs and in their emphasis on a functional or
behavioral categorization of costs.
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CHAPTER 6: ASSIGNMENTS
COGNITIVE EXERCISES
EXERCISES
27 Opportunity Costs
28 Opportunity Cost of Home Ownership
29 Hospital Opportunity Cost
30 Make or Buy
31 Sell or Process Further
32 Joint Products, Multiple Choice
33 Obsolete Inventory
34 Replacement of Old Equipment
35 Unit Costs
36 Relevant Investment
37 Weak Division
38 Opportunity Cost
39 Straightforward Absorption Statement
40 Straightforward Contribution Income Statement
41 Straightforward Absorption and Contribution
Statement
42 Absorption Statement
43 Contribution Income Statement
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PROBLEMS
CASES
59 Make or Buy
60 Make or Buy
61 Analysis with Contribution Income Statement
COLLABORATIVE EXERCISE
62 Outsourcing
63 Internet Exercise - Green Mountain Coffee
Company
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CHAPTER 6: OUTLINE
0. Opportunity, Outlay, and Differential Costs {L. O.
1}
Opportunity Cost - maximum available contribution to profit
forgone (i.e., rejected) by using limited resources for a particular
purpose. Outlay Cost - requires a cash disbursement sooner or
later and is the typical cost recorded by accountants.
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The alternative uses for the facilities that would be occupied
if the part was made should be considered. The previous
example is expanded to include the possible renting out of
the space used to make the parts, and the possibility of
producing other products in that space. In all cases,
companies should relate these decisions to the long-run
policies for the use of capacity.
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TEACHING TIP: Outsourcing - Have students read the
boxed insert on outsourcing and discuss the advantages and
disadvantages in class.
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old equipment.
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0. Obsolete Inventory
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or-replace analysis while omitting the irrelevant items.
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0.0 Irrelevance of Future Costs That Will Not Differ
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0.0 How Income Statements Influence Decision Making
{L. O. 7}
EXHIBIT 6-6 and EXHIBIT 6-7 provide schedules of factory
overhead, and selling and administrative expenses for Samson
Company
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CHAPTER 6: TRANSPARENCY MASTERS
The following exhibits are reproduced as transparency masters at the
end of this manual:
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CHAPTER 6: Quiz/Demonstration
Exercises
Learning Objective 1
1. The extra sleep you could have rather than attending an 8 a.m.
class in college is an example of a
a. sunk cost.
b. outlay cost.
c. opportunity cost.
d. misplaced cost.
a. outlay
b. opportunity
c. immediate
d. differential
a. Sunk
b. Outlay
c. Opportunity
d. Differential
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Learning Objective 2
4. ACE produces cars for both American and Japanese car companies.
It currently manufactures the transmissions that go into the cars.
SOY Corp. has offered to provide transmissions to ACE for $400
each. ACE produces 5,000 cars per month and has the following
costs for the manufacture of the transmissions:
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Learning Objective 3
Learning Objective 4
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inventory for some other use.
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9. The book value of old equipment is irrelevant in replacement
decisions because
Learning Objective 5
11. A copying machine salesman has offered to sell DRAKE Corp. a new
copier for $3,500. He claims that with this new copier you can
make copies for 2.75 each compared with your current cost of 3
per copy. DRAKE purchases copy paper for 1 per page, which is
included in both your current cost and the 2.75 cost provided by
the salesman. If DRAKE estimates that this copier will make
100,000 copies, it should
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Learning Objective 6
a. far-sighted management.
b. long-term effects of myopia.
c. a conflict between decision making and performance
evaluation.
d. sound business judgment in the long-run best interest of the
firm.
14. Managers are least likely to make decisions based on the effects of:
Learning Objective 7
15. Janice's operating income using the absorption approach for 2002
is:
a. $0 b. $10,000 c. $20,000 d.
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$32,000
16. Janice's operating income using the contribution approach for 2002
is:
a. $0 b. $10,000 c. $20,000
d. $32,000
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CHAPTER 6: Solutions to
Quiz/Demonstration Exercises
Make Buy
5. [d]
11. [d] $3,500/200,000 copies is 1.75 per copy. Adding this to the
cost of copy paper gives the 2.75 quote given by the
salesman. If only 100,000 copies can be produced, the cost
per copy would be 4.5 each.
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15. [d] Income under Absorption Approach
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CHAPTER 6: SUGGESTED READINGS
24
Lambson, V. and F. Jensen. "Sunk Costs and Firm Value Variability:
Theory and Evidence", American Economic Review, March 1998,
v.88 i.1, p. 307(7).
Roodhooft, F. and L. Warlop. "On the Role of Sunk Costs and Asset
Specificity in Outsourcing Decisions: A Research Note",
Accounting, Organizations, and Society, May 1999, v.24 i.4, p.
363(7).
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