Cost management accounting and control 6e by hansen mowen guan chapter 18

COST MANAGEMENT
Accounting & Control
Hansen▪Mowen▪Guan
Chapter 18
Activity Resource Usage
Model and Tactical Decision
Making
COPYRIGHT © 2009 South-Western Publishing, a division of Cengage Learning.
Cengage Learning and South-Western are trademarks used herein under license.

1


Study Objectives
1. Describe the tactical decision-making
model.
2. Define the concept of relevant costs and
revenues.
3. Explain how the activity resource usage
model is used in assessing relevancy.
4. Apply the tactical decision-making
concepts in a variety of business
situations.
2


Tactical Decision Making
Steps of the tactical decision making process
1. Recognize and define the problem.
2. Identify alternatives as possible solutions to the
problem, and eliminate alternatives that are not

feasible.
3. Identify the predicted costs and benefits
associated with each feasible alternative.
Eliminate the costs and benefits that are not
relevant to the decision.
3


Tactical Decision Making
Continued from previous slide
4. Compare the relevant costs and benefits for
each alternative, and then relate each
alternative to the overall strategic goals of the
firm and other important qualitative factors.
5. Select the alternative with the greatest benefit
which also supports the organization’s strategic
objectives.

4


Tactical Decision Making
Step 1: Define the
Problem

Each year 25 percent of the harvest by an apple
processor is small and odd-shaped.
These apples cannot be sold in the normal
distribution channels and have simply been
dumped in the orchards for fertilizer.

What should the firm do with these apples?

5


Tactical Decision Making
Step 2: Identify Feasible
Alternatives
• Sell the apples to pig farmers.
– Eliminate: not enough local farmers

• Bag the apples in five-pound bags and sell them to local
supermarkets as seconds.
– Feasible

• Rent a local canning facility and convert the apples to
applesauce.
– Feasible

• Rent a local canning facility and convert the apples to pie
filling.
– Eliminate: major capital investment required

• Continue with the current dumping practice.
– Eliminate: status quo

6


Tactical Decision Making

Step 3: Identify Predicted Costs and
Benefits; Eliminate Irrelevant
Costs
Bagging Alternative
Applesauce Alternative
5 lbs of apples per bag
Cost: $0.05 per pound for labor
and materials (bags and ties)
Revenue: $1.30 per bag

6 lbs of apples to produce five 16ounce cans of applesauce
Cost: $0.40 per pound for rent,
labor, apples, cans, and other
materials
Revenue: $0.78 per can

7


Tactical Decision Making
Step 4: Compare Relevant Costs and
Relate to Strategic Goals
Bagging Alternative

Applesauce Alternative

Revenue per lb
$0.26

Revenue per lb

$0.65

Cost per lb
0.05

Cost per lb
0.40

Net benefit per lb
Product
$0.21

Net benefit per lb
Forward
$0.25

differentiation
strategy

integration
strategy

8


Tactical Decision Making
Step 5: Select Best
Alternative
• The apple
producer

is reluctant to follow a
forward integration strategy
• The bagging alternative should be chosen

9


Tactical Decision Making

continued

10


Tactical Decision Making

Continued from previous slide

continued

11


Tactical Decision Making

Continued from previous slide

12

Relevant Costs and Revenues
• Relevant costs
– future costs that differ across alternatives

• Irrelevant Costs
– Past costs: already incurred “sunk costs”
are the same across alternatives; ignore

13


Relevancy, Cost Behavior, and the
Activity Resource Usage Model
• Flexible Resources
– Easily purchased in the amount needed
– Purchased at the time of use

• Committed resources
– Purchased before they are used

14


Relevancy, Cost Behavior, and the
Activity Resource Usage Model
• Flexible resources
– The activity resources demanded equal the
resources supplied
Demand changes

relevant

Demand constant

not relevant

15


Relevancy, Cost Behavior, and the
Activity Resource Usage Model
• Committed resources
– Excess of supply over demand is unused
capacity
Demand increase < unused capacity

not relevant

Demand increase > unused capacity

relevant

Demand decrease
Activity capacity reduced
Activity capacity unchanged

relevant
non relevant

16


Relevancy, Cost Behavior, and the
Activity Resource Usage Model
A company has five manufacturing engineers
who supply a capacity of 10,000 engineering
hours (2,000 hours each).
The cost of this activity capacity is $250,000,
or $25 per hour. The firm expects to use
9,000 hours.
If the firm decides to reject a special order
requiring 500 hours, the cost of engineering
would be irrelevant.
17


Relevancy, Cost Behavior, and the
Activity Resource Usage Model
The firm can purchase a component that will
drop the demand from engineering hours
from 9,000 to 7,000.
Since engineering activity capacity is
acquired in chunks of 2,000, the company
can lay off one engineer or reassign the
engineer to another plant.

18

Relevancy, Cost Behavior, and the
Activity Resource Usage Model

19


Illustrative Examples of
Tactical Decision Making
Assumptions of C-V-P Analysis
1. The analysis assumes a linear revenue function and a
linear cost function.
2. The analysis assumes that price, total fixed costs, and
unit variable costs can be accurately identified and
remain constant over the relevant range.
3. The analysis assumes that what is produced is sold.
4. For multiple-product analysis, the sales mix is assumed
to be known.
5. The selling price and costs are assumed to be known
with certainty.
20


Illustrative Examples of
Tactical Decision Making
• Common Decisions
– Make or Buy
– Keep or Drop
– Special Order
– Sell or Process Further

• Cost analysis informed by
– Activity-based cost management system
– Functional-based cost management system
21


Illustrative Examples of
Tactical Decision Making
Make-or-Buy Decision
Talmage Company produces a mechanical part used in one of
its engines. (Talmage produces engines for snowblowers.) An
outside supplier has offered to sell a part (Part 34B) for $4.75.
The company normally produces 100,000 units of the part each
year.

Flexible resources:

Committed resources:

• Using materials

• Providing supervision

• Using direct labor

• Moving materials

• Moving materials

• Inspecting products

• Providing power

• Setting up equipment

• Inspecting products

22


Illustrative Examples of
Tactical Decision Making
Make-or-Buy Decision

ABC: buy the part

23


Illustrative Examples of
Tactical Decision Making
Make-or-Buy Decision

Functional: make the part

24


Illustrative Examples of
Tactical Decision Making

Keep-or-Drop Decision

If a segment is
dropped only
the traceable
revenues and
costs should
vanish
ABC
classifications
provide
information on
traceable costs
Drop?

25