Video Assignment 03 Relevant Costing Video
Summary
TLDRThe lesson covers relevant costing, a key concept in decision-making that compares future costs between different activities. It explains differential costs, incremental and avoidable costs, and other concepts like traceable, replacement, opportunity, and sunk costs. The lesson uses simple examples, such as receiving special orders and choosing between college or work, to explain these cost types. The process for analyzing problems is outlined, focusing on evaluating alternatives both quantitatively and qualitatively. The instructor encourages students to prepare for upcoming problem-solving sessions using these concepts.
Takeaways
- 📚 Relevant costs, also called differential costs, represent the expected changes in future costs due to changes in activity levels.
- ⚖️ Differential costs are the difference between the total costs of two alternative actions in decision-making.
- ⬆️ Incremental costs occur when there is an increase in activity or volume, while avoidable costs arise when there is a decrease in activity.
- 🍪 Traceable costs are directly identifiable with a specific product, department, or division, such as the cost of chocolate chips in baking cookies.
- 🔄 Replacement costs are incurred when replacing old systems or assets with new ones.
- 🎓 Opportunity costs represent the benefits forgone by choosing one course of action over another, such as going to college versus working.
- ⛔ Sunk costs are past expenditures that cannot be recovered and are irrelevant to future decision-making.
- 💸 Out-of-pocket costs refer to unbudgeted or unexpected personal expenses.
- 📊 Relevant costing is used in evaluating alternatives for decision-making, such as make-or-buy decisions and evaluating supply, demand, or price analysis.
- 📝 The process of relevant costing involves defining the problem, identifying alternatives, weighing quantitative and qualitative consequences, and making a decision.
Q & A
What is the definition of relevant costs, also known as differential costs?
-Relevant costs, or differential costs, are the expected changes in future costs when shifting from one level of activity to another. They represent the difference in total costs between two alternative courses of action and are used in decision-making.
How are incremental costs and avoidable costs related to changes in activity or volume?
-Incremental costs occur when there is an increase in activity or volume, representing the additional costs incurred. Avoidable costs occur when there is a decrease in activity or volume, and they represent the costs that can be avoided when no longer operating at a higher level.
What is a traceable cost, and can you provide an example?
-A traceable cost is directly attributable to a specific product, job, department, or operating division. For example, the cost of chocolate chips in a cookie business is a traceable cost, as it can be directly identified with the production of cookies.
What are replacement costs, and when are they incurred?
-Replacement costs are incurred when something in the old system is replaced with a new one. These costs are associated with upgrading or substituting outdated resources or equipment with more current alternatives.
What is an opportunity cost, and how does it impact decision-making?
-Opportunity cost represents the measurable benefit forgone by choosing one alternative over another. For example, if you choose to attend college rather than getting a job, the opportunity cost is the salary you could have earned if you had taken the job.
What is a sunk cost, and why is it considered irrelevant for future decisions?
-A sunk cost is an unrecoverable cost that has already been incurred and cannot be changed. These costs are considered irrelevant in future decision-making because they do not affect future actions or outcomes. For example, the original cost of a machine bought for 800,000 pesos after two years is a sunk cost.
What are out-of-pocket costs, and how do they differ from other costs?
-Out-of-pocket costs refer to unbudgeted expenses or cash disbursements, often personal in nature. They differ from other costs because they are typically unexpected or not part of planned expenditures, such as emergency personal expenses.
What are some examples of problems that involve evaluating only costs in relevant costing?
-Examples include method change problems (evaluating alternative processes), make-or-buy decisions (comparing costs of raw materials or inputs), and order quantity problems (analyzing profits at different levels of quantity or volume).
What types of problems in relevant costing require evaluating both costs and revenues?
-Problems requiring evaluation of both costs and revenues include supply and demand analysis (break-even points), contribution pricing (analyzing contribution margins and variable costs), and decisions related to discontinuing a product or adding services.
What are the general steps in analyzing problems in relevant costing?
-The steps include: 1) Defining the problem and its impact on the business, 2) Identifying alternative solutions, 3) Weighing the quantitative consequences of each alternative, 4) Evaluating qualitative effects, and 5) Reaching a decision based on the analysis.
Outlines
📊 Introduction to Relevant Costing
This section introduces relevant costing, building on previous lessons in cost accounting and cost-volume-profit relationships. Relevant costs, also known as differential costs, refer to expected changes in future costs when comparing different levels of activity. These costs are crucial for decision-making, involving incremental costs (when activity increases) and avoidable costs (when activity decreases). The lesson emphasizes the importance of comparing current costs to future costs to determine the most beneficial course of action.
🍪 Practical Examples of Cost Concepts
Using the example of a homemade products business, this section explains how differential costs are calculated by comparing current costs to future costs when order volumes change. It also introduces various cost concepts such as traceable costs, replacement costs, opportunity costs, and sunk costs. Traceable costs are directly identifiable with a specific product or division, while replacement costs are incurred when replacing an old system. Opportunity costs represent the benefits of a forgone alternative, and sunk costs are past expenses that no longer affect future decisions.
🔍 Evaluating Alternatives in Relevant Costing
This section delves into the practical application of relevant costing in decision-making, covering several types of problems. These include method change problems, operations planning problems, make or buy decisions, and order quantity problems. Each scenario involves evaluating costs and sometimes revenues to determine the best course of action. The general steps in problem analysis are outlined: defining the problem, selecting alternative solutions, weighing quantitative and qualitative consequences, and making a final decision. The session concludes with a call to prepare for sample problems in the next class.
Mindmap
Keywords
💡Relevant Costs
💡Incremental Costs
💡Avoidable Costs
💡Traceable Costs
💡Replacement Costs
💡Opportunity Costs
💡Sunk Costs
💡Out-of-Pocket Costs
💡Make-or-Buy Decisions
💡Contribution Margin
Highlights
Introduction to relevant costing, also known as differential costs, which are changes in future costs from one level of activity to another.
Relevant costs are used in decision making to compare current costs with future costs resulting from different courses of action.
Incremental costs occur when there is an increase in activity, while avoidable costs occur when there is a decrease in activity.
Application of previous lessons, such as cost-volume-profit analysis, to understand the impact of relevant costing.
Example: Comparing current costs of 30 pieces with the future costs of 100 pieces due to a special order. The difference is classified as an incremental cost.
Avoidable costs are explained when the special customer stops ordering, and the additional costs associated with higher volume are eliminated.
Introduction to traceable costs, which can be directly linked to a product, job, or division within a company.
Example of traceable costs: The cost of chocolate chips in a cookie business, where the cost is directly linked to the product.
Explanation of replacement costs, which occur when replacing something in the old system with something new.
Introduction to opportunity costs: the measurable benefits lost by choosing one alternative over another.
Example of opportunity costs: Deciding between going to college or getting a job, and the financial benefits lost in each scenario.
Sunk costs: Costs that have already been incurred and are irrelevant to future decisions. Example: A machine purchased for 800,000 pesos after two years is a sunk cost.
Out-of-pocket costs: Cash disbursements that are not part of the budget, such as personal expenses.
General steps for analyzing relevant costing problems: Define the problem, identify alternative solutions, weigh quantitative and qualitative consequences, and reach a decision.
The lecture concludes by preparing students to solve sample problems related to relevant costing in the next session.
Transcripts
hi everyone our next lesson for inoac is
on relevant costing so during the past
weeks we've already covered the basic
concepts in cost accounting as well as
cost volume profit relationships so we
will now apply all those Concepts in
relevant costing so what are relevant
costs or also known as differential
costs these are the expected changes in
future cost from one level of activity
to another it's also called differential
costs because we are comparing the
difference in total costs between two
alternative courses of action so this is
basically the net relevant cost which is
used in decision making if there is an
increase in activity or volume for
example we are looking at an incremental
cost on the contrary if there is a
decrease in activity this is referred to
as avoidable costs in both cases we are
comparing the different
between the current costs at a certain
level of volume versus the future cost
of another level of volume as a result
of a different course of action or
decision so in this topic we will be
greatly applying the previous lessons
because we need to enumerate and compute
for all costs even the volumes and
profits in every given alternative
activities in order to decide which
alternative will be more beneficial to
the the decision
makers so for example let's look at a
simple business of homemade products if
you are used to selling an average
volume of 30 pieces of orders you
already have a record of your current
total cost at that level of orders
however if you suddenly receive an
additional special order which will
increase your volume of orders to a
total of say 100 pieces then the
difference of the future costs you will
incur if you accept the special orders
versus your current costs at your usual
volume of orders will be your
differential cost and it is classified
as an incremental cost so moving forward
if you've already decided to accept the
special orders on a more regular basis
and you're now used to serving this
level of volume it becomes somewhat your
current costs already so once you decide
in the future to stop serving the
special customer and the special orders
are dropped then you will be avoiding
that additional cost associated with the
volume of the special orders and hence
it is called avoidable
costs let's look at other cost Concepts
we also have what you call traceable
costs these are costs wherein its source
is directly identifiable or traceable to
a particular product job department or
an operating division within a
company let's have another simple
example of a business selling cookies so
you can easily trace the cost of the
chocolate chips being used for baking
cookies so this cost of chocolate chips
is a traceable
cost next we have rep replacement costs
these are costs that will be incurred
either now or in the future when you
decide to replace something in the old
system with a new
one we also have what we call
opportunity costs which represent the
measurable benefits or Advantage from
one forgone action so this is actually
what you've given up because of choosing
another alternative action so for
example imagine your deciding between
two practical actions of either going to
college or getting a job
first let's look at the benefits of each
alternative so if you go to college you
will earn a degree which can help you
get a job in the future with a higher
starting salary however if you decide to
get a job first before going to college
you can earn money right away though
with a rank and file position only so if
you choose to go to college
now your opportunity cost is the money
that you could have earned right away if
you would have gotten a job
first another concept is Sun costs these
are a recoverable costs because they
have already been incurred in the past
hence already depreciated expired or
used these are already considered
irrelevant cost in future decisions to
be made so for instance uh you buy a
machine worth 800,000
pesos after 2 years of usage that
original cost amounting to 800,000 pesos
is not anymore
relevant in your new decisions in the
future so it's already considered a sunk
cost lastly we have outof pocket costs
or unexpended Ed cash dispersements
these are usually not part of your
budget like personal
expenses in relevant costing since we
are concerned about evaluating
alternatives for decision making we will
be able to encounter several kinds of
problems problems wherein you'll only
need to evaluate costs may include
method change problems wherein you'll
evaluate alternative methods or
processes operations planning problems
here you'll Compare costs of different
schedules make or buy decisions wherein
you'll need to enumerate cost of raw
materials or other inputs and Order
quantity problems here you'll have
different profits resulting from
different costs at different levels of
quantity or order
volume we will also come across problems
where you need to evaluate both costs
and revenues to reach a position such
problems may concern Supply demand or
Price analysis wherein you evaluate the
break even point or apply other Concepts
in your cost volume profit
analysis contribution pricing problems
here you'll evaluate possibly
contribution margins and variable
costs discontinuing a product wherein we
evaluate costs and revenues usually
below Break Even points adding
Services here we look at opportunity in
sales in possible expansion
projects sell or process further here
we'll be able to weigh the costs and
revenues of buy products or other joint
products and other marketing
tactics where it involves different
kinds of price
evaluations or selling price
problems here are the the general steps
in analyzing problems first you have to
define the problem determine the impact
of the problem on the business so this
is in terms of either the functions that
are affected time commitment and even
the relationships to other management
plans your second step is to select the
possible alternative Solutions so you
have to think about what your options
are or the alternative courses of action
third you have to weigh the quantitative
consequences of each alternative you
have to identify all possible or
traceable
costs next identify the qualitative
effects or Consequences or those that
cannot be expressed in quantitative
terms and then lastly reach a decision
or a conclusion So based on your
evaluation of the Alternatives you have
to decide now which action will you
actually
take so now that we've already discussed
the concepts we need to know for
Relevant costing we are ready to take on
these sample problems during our next
synchronous session so that's it for now
guys thank you for listening please
don't miss out the next lecture bye
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