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CHAPTER 20
INCREMENTAL ANALYSIS
SUMMARY OF QUESTIONS BY LEARNING OBJECTIVES AND BLOOM’S TAXONOMY
Item
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True-False Statements
1.
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19.
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sg30.
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Multiple Choice Questions
31.
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143.
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62.
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35.
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36.
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64.
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120.
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148.
6
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37.
2
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38.
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66.
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94.
4
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122.
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150.
7
AN
39.
2
AP
67.
3
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95.
4
C
123.
5
K
151.
7
AN
40.
2
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68.
3
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96.
4
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124.
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152.
7
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41.
2
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69.
3
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97.
4
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125.
5
AP
153.
7
AN
42.
2
K
70.
3
AP
98.
4
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126.
5
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154.
7
C
43.
2
C
71.
3
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99.
4
AN
127.
5
AP
155.
7
AN
44.
2
K
72.
3
AP
100.
4
AN
128.
5
K
156.
7
AN
45.
2
C
73.
3
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101.
4
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129.
5
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157.
7
AN
46.
2
C
74.
4
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102.
4
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130.
5
AP
158.
7
C
47.
2
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75.
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103.
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131.
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159.
7
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48.
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76.
4
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104.
4
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132.
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st160.
1
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49.
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77.
4
AP
105.
4
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133.
6
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sg161.
3
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50.
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78.
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106.
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st162.
4
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79.
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107.
4
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135.
6
AP
sg163.
4
C
52.
2
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80.
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108.
4
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136.
6
AP
sg164.
6
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53.
3
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81.
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109.
5
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C
sg165.
7
C
54.
3
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82.
4
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110.
5
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st166.
7
K
55.
3
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83.
4
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111.
5
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139.
6
C
56.
3
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84.
4
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112.
5
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140.
6
C
57.
3
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85.
4
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113.
5
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141.
6
C
58.
3
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86.
4
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114.
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6
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Brief Exercises
167.
2
AP
170.
4
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173.
4
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176.
7
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179.
7
AN
168.
3
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171.
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174.
5
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177.
7
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169.
4
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172.
4
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175.
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7
AP
sg This question also appears in the Study Guide.
st This question also appears in a self-test at the student companion website.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
20 - 2
SUMMARY OF QUESTIONS BY LEARNING OBJECTIVES AND BLOOM’S TAXONOMY
Exercises
180.
2, 7
AN
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3
E
188.
4
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196.
7
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181.
3
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3,4
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198.
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183.
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7
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Completion Statements
200.
1
K
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3
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5
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Matching
206.
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Short-Answer Essay
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SUMMARY OF LEARNING OBJECTIVES BY QUESTION TYPE
Item
Type
Item
Type
Item
Type
Item
Type
Item
Type
Item
Type
Item
Type
Learning Objective 1
1.
TF
31.
MC
33.
MC
35.
MC
200.
C
26.
TF
32.
MC
34.
MC
160.
MC
Learning Objective 2
2.
TF
6.
TF
37.
MC
41.
MC
45.
MC
49.
MC
167.
BE
3.
TF
7.
TF
38.
MC
42.
MC
46.
MC
50.
MC
180.
Ex
4.
TF
27.
TF
39.
MC
43.
MC
47.
MC
51.
MC
201.
C
5.
TF
36.
MC
40.
MC
44.
MC
48.
MC
52.
MC
Learning Objective 3
8.
TF
53.
MC
58.
MC
63.
MC
68.
MC
73.
MC
183.
Ex
9.
TF
54.
MC
59.
MC
64.
MC
69.
MC
161.
MC
184.
Ex
10.
TF
55.
MC
60.
MC
65.
MC
70.
MC
168.
BE
185.
Ex
11.
TF
56.
MC
61.
MC
66.
MC
71.
MC
181.
Ex
202.
C
28.
TF
57.
MC
62.
MC
67.
MC
72.
MC
182.
Ex
Learning Objective 4
12.
TF
78.
MC
86.
MC
94.
MC
102.
MC
163.
MC
187.
Ex
13.
TF
79.
MC
87.
MC
95.
MC
103.
MC
169.
BE
188.
Ex
14.
TF
80.
MC
88.
MC
96.
MC
104.
MC
170.
BE
189.
Ex
15.
TF
81.
MC
89.
MC
97.
MC
105.
MC
171.
BE
203.
C
74.
MC
82.
MC
90.
MC
98.
MC
106.
MC
172.
BE
207.
SA
75.
MC
83.
MC
91.
MC
99.
MC
107.
MC
173.
BE
208.
SA
76.
MC
84.
MC
92.
MC
100.
MC
108.
MC
185.
Ex
77.
MC
85.
MC
93.
MC
101.
MC
162.
MC
186.
Ex
Learning Objective 5
16.
TF
110.
MC
115.
MC
120.
MC
125.
MC
130.
MC
192.
Ex
17.
TF
111.
MC
116.
MC
121.
MC
126.
MC
131.
MC
193.
Ex
18.
TF
112.
MC
117.
MC
122.
MC
127.
MC
174.
BE
204.
C
29.
TF
113.
MC
118.
MC
123.
MC
128.
MC
190.
Ex
109.
MC
114.
MC
119.
MC
124.
MC
129.
MC
191.
Ex
Incremental Analysis
20 - 3
Learning Objective 6
19.
TF
133.
MC
138.
MC
143.
MC
148.
MC
195.
Ex
20.
TF
134.
MC
139.
MC
144.
MC
149.
MC
205.
C
21.
TF
135.
MC
140.
MC
145.
MC
164.
MC
206.
MA
22.
TF
136.
MC
141.
MC
146.
MC
175.
BE
209.
SA
132.
MC
137.
MC
142.
MC
147.
MC
194.
Ex
Learning Objective 7
23.
TF
150.
MC
154.
MC
158.
MC
176.
BE
196.
Ex
24.
TF
151.
MC
155.
MC
159.
MC
177.
BE
197.
Ex
25.
TF
152.
MC
156.
MC
165.
MC
178.
BE
198.
Ex
30.
TF
153.
MC
157.
MC
166.
MC
179.
BE
199.
Ex
Note: TF = True-False BE = Brief Exercise C = Completion
MC = Multiple Choice Ex = Exercise SA = Short-Answer
MA = Matching
CHAPTER LEARNING OBJECTIVES
1. Identify the steps in management's decision-making process. Management's decision-
making process consists of (a) identifying the problem and assigning responsibility for the
decision, (b) determining and evaluating possible courses of action, (c) making the decision,
and (d) reviewing the results of the decision.
2. Describe the concept of incremental analysis. Incremental analysis identifies financial
data that change under alternative courses of action. These data are relevant to the decision
because they will vary in the future among the possible alternatives.
3. Identify the relevant costs in accepting an order at a special price. The relevant costs
are those that change if the order is accepted. The relevant information in accepting an order
at a special price is the difference between the variable manufacturing costs to produce the
special order and expected revenues. Any changes in fixed costs, opportunity costs, or other
incremental costs or savings (such as additional shipping) should be considered.
4. Identify the relevant costs in a make-or-buy decision. In a make-or-buy decision, the
relevant costs are (a) the variable manufacturing costs that will be saved as well as changes
to fixed manufacturing costs, (b) the purchase price, and (c) opportunity costs.
5. Identify the relevant costs in determining whether to sell or process materials further.
The decision rule for whether to sell or process materials further is: Process further as long
as the incremental revenue from processing exceeds the incremental processing costs.
6. Identify the relevant costs to be considered in repairing, retaining, or replacing
equipment. The relevant costs to be considered in determining whether equipment should
be retained, or replaced are the effects on variable costs and the cost of the new equipment.
Also, any disposal value of the existing asset must be considered.
7. Explain the relevant factors in whether to eliminate an unprofitable segment or
product. In deciding whether to eliminate an unprofitable segment or product, the relevant
costs are the variable costs that drive the contribution margin, if any, produced by the
segment or product. Disposition of the segment's or product's fixed expenses and
opportunity costs must also be considered.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
20 - 4
TRUE-FALSE STATEMENTS
1. An important step in management's decision-making process is to determine and evaluate
possible courses of action.
2. In making decisions, management ordinarily considers both financial and nonfinancial
information.
3. In incremental analysis, total variable costs will always change under alternative courses
of action, and total fixed costs will always remain constant.
4. Accountants are mainly involved in developing nonfinancial information for management's
consideration in choosing among alternatives.
5. Decision-making involves choosing among alternative courses of action.
6. Financial data are developed for a course of action under an incremental basis and then it
is compared to data developed under a differential basis before a decision is made.
7. In incremental analysis, total fixed costs will always remain constant under alternative
courses of action.
8. A special one-time order should never be accepted if the unit sales price is less than the
unit variable cost.
9. If a company has excess capacity and present markets will not be affected, it would be
profitable to accept an order at a special unit price even though the price is less than the
unit variable cost to manufacture the item.
10. A company should never accept an order for its product at less than its regular sales price.
11. If a company is operating at less than capacity, the incremental costs of a special order
will likely include variable manufacturing costs, but not fixed costs.
Incremental Analysis
20 - 5
12. An incremental make-or-buy decision depends solely on which alternative is the lowest
cost alternative.
13. A decision whether to continue to make a product or buy it externally depends on the
external price and the amount of variable and fixed costs that can be eliminated assuming
no alternative uses of resources.
14. An opportunity cost is the potential benefit obtained by using resources in an alternative
course of action.
15. If an incremental make or buy analysis indicates that it is cheaper to buy rather than make
an item, management should always make the decision to choose the lowest cost
alternative.
16. In a sell or process further decision, management should process further as long as the
incremental revenues from additional processing exceed the incremental variable costs.
17. It is always better to sell now rather than process further because of the time value of
money.
18. The basic decision rule in a sell or process further decision is: process further if the
incremental revenue from processing exceeds the incremental processing costs.
19. In a decision concerning replacing old equipment with new equipment, the book value of
the old equipment can be considered an opportunity cost.
20. In a decision concerning replacing old equipment with new equipment, the book value of
the old equipment can be considered a sunk cost.
21. In a decision to retain or replace old equipment, the salvage value of the old equipment is
relevant in incremental analysis.
22. It is better not to replace old equipment if it is not fully depreciated.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
20 - 6
23. From a quantitative standpoint, a segment should be eliminated if its contribution margin
is less than the fixed costs that can be eliminated.
24. The elimination of an unprofitable product line may adversely affect the remaining product
lines.
25. Many of the decisions involving incremental analysis have qualitative features, but since
they are not easily measured they should be ignored.
26. Accounting contributes to management's decision-making process through internal
reports that review the actual impact of the decision.
27. The process used to identify the financial data that change under alternative courses of
action is called allocation of limited resources.
28. If a company is operating at full capacity, the incremental costs of a special order will likely
include fixed manufacturing costs.
29. The basic decision rule in a sell or process further decision is: sell without further
processing as long as the incremental revenue from processing exceeds the incremental
processing costs.
30. In deciding on the future status of an unprofitable segment, management should
recognize that net income could decrease by eliminating the unprofitable segment.
Answers to True-False Statements
Item
Ans.
Item
Ans.
Item
Ans.
Item
Ans.
Item
Ans.
Item
Ans.
Item
Ans.
Incremental Analysis
20 - 7
MULTIPLE CHOICE QUESTIONS
31. A major accounting contribution to the managerial decision-making process in evaluating
possible courses of action is to
a. assign responsibility for the decision.
b. provide relevant revenue and cost data about each course of action.
c. determine the amount of money that should be spent on a project.
d. decide which actions that management should consider.
32. Which of the following stages of the management decision-making process is improperly
sequenced?
a. Evaluate possible courses of action → Make decision.
b. Assign responsibility for the decision → Identify the problem.
c. Identify the problem → Determine possible courses of action.
d. Assign responsibility for decision → Determine possible courses of action.
33. Internal reports that review the actual impact of decisions are prepared by
a. department heads.
b. the controller.
c. management accountants.
d. factory workers.
34. Which of the following steps in the management decision-making process does not
generally involve the managerial accountant?
a. Determine possible courses of action
b. Make the appropriate decision based on relevant data
c. Prepare internal reports that review the impact of decisions
d. None of these
35. Which is the first step in the management decision-making process?
a. Determine and evaluate possible courses of action.
b. Review results of the decision.
c. Identify the problem and assign responsibility.
d. Make a decision.
36. Which of the following will always be a relevant cost?
a. Sunk cost
b. Fixed cost
c. Variable cost
d. Opportunity cost
37. Costs that will differ between alternatives and influence the outcome of a decision are
a. sunk costs.
b. unavoidable costs.
c. relevant costs.
d. product costs.
38. A revenue that differs between alternatives and makes a difference in decision-making is
called a(n)
a. sales revenue.
b. incremental revenue.
c. unavoidable revenue.
d. irrelevant revenue.
39. Alvarez Company is considering the following alternatives:
Alternative A Alternative B
Revenues $50,000 $60,000
Variable costs 30,000 30,000
Fixed costs 10,000 16,000
What is the incremental profit?
a. $10,000
b. $0
c. $6,000
d. $4,000
40. Which of the following is an irrelevant cost?
a. An avoidable cost
b. An incremental cost
c. A sunk cost
d. An opportunity cost
41. Relevant costs are always
a. fixed costs.
b. variable costs.
c. avoidable costs.
d. sunk costs.
Incremental Analysis
20 - 9
42. The process of evaluating financial data that change under alternative courses of action is
called
a. double entry analysis.
b. contribution margin analysis.
c. incremental analysis.
d. cost-benefit analysis.
43. Nonfinancial information that management might evaluate in making a decision would not
include
a. employee turnover.
b. contribution margin.
c. the environment.
d. the corporate profile in the community.
44. Incremental analysis is synonymous with
a. difficult analysis.
b. differential analysis.
c. gross profit analysis.
d. derivative analysis.
45. In incremental analysis,
a. only costs are analyzed.
b. only revenues are analyzed.
c. both costs and revenues may be analyzed.
d. both costs and revenues that stay the same between alternate courses of action will
be analyzed.
46. Incremental analysis is most useful
a. in developing relevant information for management decisions.
b. in choosing between capital budgeting methods.
c. in evaluating the master budget.
d. as a replacement technique for variance analysis.
47. The source of data to serve as inputs in incremental analysis is generated by
a. market analysts.
b. engineers.
c. accountants.
d. all of these.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
20 - 10
48. Which of the following is not a true statement?
a. Incremental analysis might also be referred to as differential analysis.
b. Incremental analysis is the same as CVP analysis.
c. Incremental analysis is useful in making decisions.
d. Incremental analysis focuses on decisions that involve a choice among alternative
courses of action.
49. Incremental analysis would not be appropriate for
a. a make or buy decision.
b. an allocation of limited resource decision.
c. elimination of an unprofitable segment.
d. analysis of manufacturing variances.
50. Incremental analysis would be appropriate for
a. acceptance of an order at a special price.
b. a retain or replace equipment decision.
c. a sell or process further decision.
d. all of these.
51. Which of the following is a true statement about cost behaviors in incremental analysis?
1. Fixed costs will not change between alternatives.
2. Fixed costs may change between alternatives.
3. Variable costs will always change between alternatives.
a. 1
b. 2
c. 3
d. 2 and 3
52. A company is considering the following alternatives:
Alternative 1 Alternative 2
Revenues $120,000 $120,000
Variable costs 60,000 70,000
Fixed costs 35,000 35,000
Which of the following are relevant in choosing between the alternatives?
a. Variable costs
b. Revenues
c. Fixed costs
d. Variable costs and fixed costs
Incremental Analysis
20 - 11
53. It costs Garner Company $12 of variable and $5 of fixed costs to produce one bathroom
scale which normally sells for $35. A foreign wholesaler offers to purchase 3,000 scales at
$15 each. Garner would incur special shipping costs of $1 per scale if the order were
accepted. Garner has sufficient unused capacity to produce the 3,000 scales. If the
special order is accepted, what will be the effect on net income?
a. $6,000 increase
b. $6,000 decrease
c. $9,000 decrease
d. $45,000 increase
54. Baden Company manufactures a product with a unit variable cost of $100 and a unit sales
price of $176. Fixed manufacturing costs were $480,000 when 10,000 units were
produced and sold. The company has a one-time opportunity to sell an additional 1,000
units at $140 each in a foreign market which would not affect its present sales. If the
company has sufficient capacity to produce the additional units, acceptance of the special
order would affect net income as follows:
a. Income would decrease by $8,000.
b. Income would increase by $8,000.
c. Income would increase by $140,000.
d. Income would increase by $40,000.
55. In incremental analysis,
a. costs are not relevant if they change between alternatives.
b. all costs are relevant if they change between alternatives.
c. only fixed costs are relevant.
d. only variable costs are relevant.
56. If a plant is operating at full capacity and receives a one-time opportunity to accept an
order at a special price below its usual price, then
a. only variable costs are relevant.
b. fixed costs are not relevant.
c. the order will likely be accepted.
d. the order will likely be rejected.
57. Miley, Inc. has excess capacity. Under what situations should the company accept a
special order for less than the current selling price?
a. Never
b. When additional fixed costs must be incurred to accommodate the order
c. When the company thinks it can use the cheaper materials without the customer's
knowledge
d. When incremental revenues exceed incremental costs
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
20 - 12
58. If a company must expand capacity to accept a special order, it is likely that there will be
a. an increase in unit variable costs.
b. no increase in fixed costs.
c. an increase in variable and fixed costs per unit.
d. an increase in fixed costs.
59. Which of the following is true if a company can accept a special order without affecting its
regular sales and is within plant capacity?
a. Net income will not be affected.
b. Net income will increase if the special sales price per unit exceeds the unit variable
costs.
c. Net income will decrease.
d. Additional fixed costs will probably be incurred.
60. If a company anticipates that other sales will be affected by the acceptance of a special
order, then
a. lost sales should be considered in the incremental analysis.
b. lost sales should not be considered in the incremental analysis.
c. the order should not be accepted.
d. the order will only be accepted if the plant is below capacity.
61. Martin Company incurred the following costs for 70,000 units:
Variable costs $420,000
Fixed costs 392,000
Martin has received a special order from a foreign company for 3,000 units. There is
sufficient capacity to fill the order without jeopardizing regular sales. Filling the order will
require spending an additional $6,300 for shipping.
If Martin wants to break even on the order, what should the unit sales price be?
a. $6.00
b. $8.10
c. $11.60
d. $13.70
62. Martin Company incurred the following costs for 70,000 units:
Variable costs $420,000
Fixed costs 392,000
Martin has received a special order from a foreign company for 3,000 units. There is
sufficient capacity to fill the order without jeopardizing regular sales. Filling the order will
require spending an additional $6,300 for shipping.
Incremental Analysis
20 - 13
MC. 62 (cont.)
If Martin wants to earn $6,000 on the order, what should the unit price be?
a. $9.70
b. $15.70
c. $8.00
d. $10.10
63. Canosta, Inc. determined that it must expand its capacity to accept a special order. Which
situation is likely?
a. Unit variable costs will increase.
b. Fixed costs will not be relevant.
c. Both variable and fixed costs will be relevant.
d. The company should accept the order.
64. A company is within plant capacity. It is contemplating whether a special order should be
accepted. The order will not impact regular sales. If the company accepts the special
order, what will occur?
a. Incremental costs will not be affected.
b. Net income will increase if the special sales price per unit exceeds the unit variable
costs.
c. There are no incremental revenues.
d. Both fixed and variable costs will increase.
65. Argus Company anticipates that other sales will be affected by the acceptance of a
special order. What should the company do?
a. Reject the order.
b. Consider the opportunity cost of lost sales in the incremental analysis.
c. Accept the order.
d. Accept the order if the plant is below capacity.
66. It costs Lannon Fields $28 of variable costs and $12 of allocated fixed costs to produce an
industrial trash can that sells for $60. A buyer in Mexico offers to purchase 3,000 units at
$36 each. Lannon Fields has excess capacity and can handle the additional production.
What effect will acceptance of the offer have on net income?
a. Decrease $12,000
b. Increase $12,000
c. Increase $108,000
d. Increase $24,000
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67. A factory is operating at less than 100% capacity. Potential additional business will not
use up the remainder of the plant capacity. Given the following list of costs, which one
should be ignored in a decision to produce additional units of product?
a. Variable selling expenses
b. Fixed factory overhead
c. Direct labor
d. Contribution margin of additional units
68. A company is contemplating the acceptance of a special order. The order would not affect
regular sales and could be filled without exceeding plant capacity. However, a new
stamping machine would have to be purchased in order to stamp the customer’s name on
the product. Which of the following is likely?
a. Total variable costs will be irrelevant.
b. Only variable costs will be relevant.
c. Only fixed costs will be relevant.
d. Both variable and fixed costs will be relevant.
69. A company contemplating the acceptance of a special order has the following unit cost
behavior, based on 10,000 units:
Direct materials $ 4
Direct labor 10
Variable overhead 8
Fixed overhead 6
A foreign company wants to purchase 2,000 units at a special unit price of $25. The
normal price per unit is $40. In addition, a special stamping machine will have to be
purchased for $4,000 in order to stamp the foreign company’s name on the product. The
incremental income (loss) from accepting the order is
a. $6,000.
b. $2,000.
c. $(6,000).
d. $(2,000).
Incremental Analysis
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70. A company’s unit costs based on 100,000 units are:
Variable costs $75
Fixed costs 30
The normal unit sales price per unit is $165. A special order from a foreign company has
been received for 5,000 units at $135 a unit. In order to fulfill the order, 3,000 units of
regular sales would have to be foregone.
The opportunity cost associated with this order is
a. $225,000.
b. $495,000.
c. $270,000.
d. $405,000.
71. A company’s unit costs based on 100,000 units are:
Variable costs $75
Fixed costs 30
The normal unit sales price per unit is $165. A special order from a foreign company has
been received for 5,000 units at $135 a unit. In order to fulfill the order, 3,000 units of
regular sales would have to be foregone.
The incremental profit (loss) from accepting the order would be
a. $30,000.
b. $(150,000).
c. $180,000.
d. $(90,000).
72. Able Company’s unit manufacturing cost is:
Variable Costs $50
Fixed Costs 25
A special order for 2,000 units has been received from a foreign company. The unit price
requested is $55. The normal unit price is $80. If the order is accepted, unit variable costs
will increase by $2 for additional freight costs. If the order is accepted, incremental profit
(loss) will be
a. $(46,000).
b. $6,000.
c. $(40,000).
d. $10,000.
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73. In the analysis concerning the acceptance or rejection of a special order, which items are
relevant?
a. Variable costs only
b. Fixed costs only
c. Variable costs and fixed costs
d. Variable costs and unavoidable costs
74. What of the following would not be relevant in a make-or-buy decision?
a. Unavoidable variable costs
b. Incremental fixed costs
c. Opportunity costs
d. Avoidable fixed cost
75. Which of the following is not a qualitative factor to be considered in a make-or-buy decision?
a. Possible lost jobs from buying outside
b. Supplier’s ability to satisfy quality standards
c. Incremental benefit from buying outside
d. Supplier’s ability to meet production schedule
76. Clemente Inc. incurs the following costs to produce 10,000 units of a subcomponent:
Direct materials $8,400
Direct labor 11,250
Variable overhead 12,600
Fixed overhead 16,200
An outside supplier has offered to sell Clemente the subcomponent for $2.85 a unit.
If Clemente accepts the offer, by how much will net income increase (decrease)?
a. $3,750
b. $19,950
c. $(8,850)
d. $(2,850)
Incremental Analysis
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77. Clemente Inc. incurs the following costs to produce 10,000 units of a subcomponent:
Direct materials $8,400
Direct labor 11,250
Variable overhead 12,600
Fixed overhead 16,200
An outside supplier has offered to sell Clemente the subcomponent for $2.85 a unit.
If Clemente could avoid $3,000 of fixed overhead by accepting the offer, net income would
increase (decrease) by
a. $750.
b. $(5,850).
c. $(3,150).
d. $6,750.
78. Clemente Inc. incurs the following costs to produce 10,000 units of a subcomponent:
Direct materials $8,400
Direct labor 11,250
Variable overhead 12,600
Fixed overhead 16,200
An outside supplier has offered to sell Clemente the subcomponent for $2.85 a unit.
If Clemente accepts the offer, it could use the production capacity to produce another
product that would generate additional income of $3,600. The increase (decrease) in net
income from accepting the offer would be
a. $150.
b. $7,350.
c. $(150).
d. $(3,600).
79. Ortiz Co. produces 5,000 units of part A12E. The following costs were incurred for that
level of production:
Direct materials $ 55,000
Direct labor 160,000
Variable overhead 75,000
Fixed overhead 175,000
If Ortiz buys the part from an outside supplier, $40,000 of the fixed overhead is avoidable.
What is the relevant cost per unit of part A12E?
a. $58
b. $85
c. $93
d. $66
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80. Ortiz Co. produces 5,000 units of part A12E. The following costs were incurred for that level
of production:
Direct materials $ 55,000
Direct labor 160,000
Variable overhead 75,000
Fixed overhead 175,000
If Ortiz buys the part from an outside supplier, $40,000 of the fixed overhead is avoidable.
If the outside supplier offers a unit price of $68, net income will increase (decrease) by
a. $(10,000).
b. $125,000.
c. $(50,000).
d. $85,000.
81. In a make-or-buy decision, which costs can be considered relevant?
a. Unavoidable variable costs, incremental fixed costs, and sunk costs
b. Incremental variable costs, unavoidable fixed costs, and opportunity costs
c. Incremental variable costs, incremental fixed costs, and sunk costs
d. Incremental variable costs, incremental fixed costs, and opportunity costs
82. Billings Company has the following costs when producing 100,000 units:
Variable costs $600,000
Fixed costs 900,000
An outside supplier has offered to make the item at $4.50 a unit. If the decision is made to
purchase the item outside, current production facilities could be leased to another
company for $165,000. The net increase (decrease) in the net income of accepting the
supplier’s offer is
a. $285,000.
b. $315,000.
c. $(15,000).
d. $840,000.
Incremental Analysis
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83. Sanders Inc. has the following costs when producing 100,000 units:
Variable costs $600,000
Fixed costs 900,000
An outside supplier is interested in producing the item for Sanders. If the item is produced
outside, Sanders could use the released production facilities to make another item that
would generate $150,000 of net income. At what unit price would Sanders accept the
outside supplier’s offer if Sanders wanted to increase net income by $120,000?
a. $8.70
b. $6.30
c. $7.50
d. $5.70
84. Which statement is true concerning the decision rule on whether to make or buy?
a. The company should buy if the cost of buying is less than the cost of producing.
b. The company should buy if the incremental revenue exceeds the incremental costs.
c. The company should buy as long as total revenue exceeds present revenues.
d. The company should buy assuming no additional fixed costs are incurred.
85. Which one of the following does not affect a make-or-buy decision?
a. Variable manufacturing costs
b. Opportunity costs
c. Incremental revenue
d. Direct labor
86. During 2012, it cost Westa, Inc. $18 per unit to produce part T5. During 2013, it has
increased to $21 per unit. In 2013, Southside Company has offered to provide Part T5 for
$16 per unit to Westa. As it pertains to the make-or-buy decision, which statement is true?
a. Differential costs are $5 per unit.
b. Incremental costs are $2 per unit.
c. Net relevant costs are $2 per unit.
d. Incremental revenues are $3 per unit.
87. Chapman Company manufactures widgets. Embree Company has approached Chapman
with a proposal to sell the company widgets at a price of $125,000 for 100,000 units.
Chapman is currently making these components in its own factory. The following costs are
associated with this part of the process when 100,000 units are produced:
Direct materials $ 46,500
Direct labor 43,500
Manufacturing overhead 60,000
Total $150,000
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MC. 87 (cont.)
The manufacturing overhead consists of $24,000 of costs that will be eliminated if the
components are no longer produced by Chapman. From Chapman’s point of view, how
much is the incremental cost or savings if the widgets are bought instead of made?
a. $25,000 incremental savings
b. $11,000 incremental cost
c. $11,000 incremental savings
d. $25,000 incremental cost
88. The cost to produce Part A was $20 per unit in 2012. During 2013, it has increased to $23
per unit. In 2013, Supplier Company has offered to supply Part A for $18 per unit. For the
make-or-buy decision,
a. incremental revenues are $5 per unit.
b. incremental costs are $3 per unit.
c. net relevant costs are $3 per unit.
d. differential costs are $5 per unit.
89. Max Company uses 20,000 units of Part A in producing its products. A supplier offers to
make Part A for $7. Max Company has relevant costs of $8 a unit to manufacture Part A.
If there is excess capacity, the opportunity cost of buying Part A from the supplier is
a. $0.
b. $20,000.
c. $140,000.
d. $160,000.
90. Truckel, Inc. currently manufactures a wicket as its main product. The costs per unit are as
follows:
Direct materials and direct labor $11
Variable overhead 5
Fixed overhead 8
Total $24
The fixed overhead is an allocated common cost. How much is the relevant cost of the
wicket?
a. $36
b. $24
c. $19
d. $16
Incremental Analysis
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91. Saran Company has contacted Truckel with an offer to sell it 5,000 of the wickets for $18
each. If Truckel makes the wickets, variable costs are $16 per unit. Fixed costs are $8 per
unit; however, $5 per unit is unavoidable. Should Truckel make or buy the wickets?
a. Buy; savings = $15,000
b. Buy; savings = $5,000
c. Make; savings = $10,000
d. Make; savings = $5,000
92. Galley Industries can produce 100 units of a necessary component part with the following
costs:
Direct Materials $20,000
Direct Labor 9,000
Variable Overhead 21,000
Fixed Overhead 8,000
If Galley Industries purchases the component externally, $2,000 of the fixed costs can be
avoided. Below what external price for the 100 units would Galley choose to buy instead
of make?
a. $50,000
b. $56,000
c. $44,000
d. $52,000
93. Which decision will involve no incremental revenues?
a. Make or buy decision
b. Drop a product line
c. Accept a special order
d. Additional processing decision
94. An opportunity cost
a. should be initially recorded as an asset.
b. is the cost of a new product proposal.
c. is the potential benefit that may be obtained by following an alternative course of action.
d. is classified as manufacturing overhead.
95. Opportunity cost must be considered in decisions involving
a. budgeting.
b. financial accounting.
c. CVP analysis.
d. resources that have alternative uses.
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96. The opportunity cost of an alternate course of action that is relevant to a make-or-buy
decision is
a. subtracted from the "Make" costs.
b. added to the "Make" costs.
c. added to the "Buy" costs.
d. none of these.
97. Opportunity cost is usually
a. a standard cost.
b. a potential benefit.
c. a sunk cost.
d. included as part of cost of goods sold.
98. Each of the following is a disadvantage of buying rather than making a component of a
company's product except that
a. quality control specifications may not be met.
b. the outside supplier could increase prices significantly in the future.
c. profitable product lines may be dropped.
d. the supplier may not deliver on time.
99. Tex's Manufacturing Company can make 100 units of a necessary component part with
the following costs:
Direct Materials $120,000
Direct Labor 25,000
Variable Overhead 45,000
Fixed Overhead 30,000
If Tex's Manufacturing Company purchases the component externally, $20,000 of the
fixed costs can be avoided. At what external price for the 100 units is the company
indifferent between making or buying?
a. $190,000
b. $200,000
c. $210,000
d. $220,000
Incremental Analysis
20 - 23
100. Tex's Manufacturing Company can make 100 units of a necessary component part with
the following costs:
Direct Materials $120,000
Direct Labor 25,000
Variable Overhead 45,000
Fixed Overhead 30,000
If Tex's Manufacturing Company can purchase the component externally for $190,000
and only $5,000 of the fixed costs can be avoided, what is the correct make-or-buy
decision?
a. Buy and save $5,000
b. Make and save $5,000
c. Make and save $15,000
d. Buy and save $15,000
101. Bell's Shop can make 1,000 units of a necessary component with the following costs:
Direct Materials $24,000
Direct Labor 6,000
Variable Overhead 3,000
Fixed Overhead ?
The company can purchase the 1,000 units externally for $39,000. The unavoidable fixed
costs are $2,000 if the units are purchased externally. An analysis shows that at this
external price, the company is indifferent between making or buying the part. What are the
fixed overhead costs of making the component?
a. $8,000
b. $6,000
c. $4,000
d. Cannot be determined.
102. Ruth Company produces 1,000 units of a necessary component with the following costs:
Direct Materials $34,000
Direct Labor 15,000
Variable Overhead 9,000
Fixed Overhead 10,000
Ruth Company could avoid $6,000 in fixed overhead costs if it acquires the components
externally. If cost minimization is the major consideration and the company would prefer to
buy the components, what is the maximum external price that Ruth Company would
accept to acquire the 1,000 units externally?
a. $58,000
b. $64,000
c. $59,000
d. $62,000
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103. Ruth Company produces 1,000 units of a necessary component with the following costs:
Direct Materials $27,000
Direct Labor 16,000
Variable Overhead 4,000
Fixed Overhead 7,000
None of Ruth Company's fixed overhead costs can be reduced, but another product could
be made that would increase profit contribution by $8,000 if the components were
acquired externally. If cost minimization is the major consideration and the company
would prefer to buy the components, what is the maximum external price that Ruth
Company would be willing to accept to acquire the 1,000 units externally?
a. $46,000
b. $58,000
c. $51,000
d. $55,000
104. Fornelli, Inc. can produce 100 units of a component part with the following costs:
Direct Materials $15,000
Direct Labor 6,500
Variable Overhead 16,000
Fixed Overhead 11,000
If Fornelli, Inc. can purchase the units externally for $40,000, by what amount will its total
costs change?
a. An increase of $40,000
b. An increase of $2,500
c. An increase of $8,500
d. A decrease of $11,000
105. Fornelli, Inc. can produce 100 units of a component part with the following costs:
Direct Materials $15,000
Direct Labor 6,500
Variable Overhead 16,000
Fixed Overhead 11,000
If Fornelli, Inc. can purchase the component part externally for $44,000 and only $4,000 of
the fixed costs can be avoided, what is the correct make-or-buy decision?
a. Make and save $500
b. Buy and save $500
c. Make and save $2,500
d. Buy and save $6,500
Incremental Analysis
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106. Crigui Music produces 60,000 CDs on which to record music. The CDs have the following
costs:
Direct Materials $13,000
Direct Labor 15,000
Variable Overhead 3,000
Fixed Overhead 7,000
Crigui could avoid $4,000 in fixed overhead costs if it acquires the CDs externally. If cost
minimization is the major consideration and the company would prefer to buy the 60,000
units externally, what is the maximum external price that Crigui would expect to pay for
the units?
a. $34,000
b. $31,000
c. $38,000
d. $35,000
107. Crigui Music produces 60,000 CDs on which to record music. The CDs have the following
costs:
Direct Materials $13,000
Direct Labor 15,000
Variable Overhead 3,000
Fixed Overhead 7,000
None of Crigui’s fixed overhead costs can be reduced, but another product could be made
that would increase profit contribution by $4,000 if the CDs were acquired externally. If
cost minimization is the major consideration and the company would prefer to buy the
CDs, what is the maximum external price that Crigui would be willing to accept to acquire
the 60,000 units externally?
a. $38,000
b. $34,000
c. $35,000
d. $42,000
108. Tasty Bites produces corn chips. The cost of one batch is below:
Direct materials $18
Direct labor 13
Variable overhead 11
Fixed overhead 14
An outside supplier has offered to produce the corn chips for $30 per batch. How much
will Tasty Bites save if it accepts the offer?
a. $15 per batch
b. $12 per batch
c. $26 per batch
d. $1 per batch
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109. NF Toy Company is unsure of whether to sell its product assembled or unassembled. The
unit cost of the unassembled product is $24 and NF Toy would sell it for $52. The cost to
assemble the product is estimated at $17 per unit and the company believes the market
would support a price of $68 on the assembled unit. What decision should NF Toy make?
a. Sell before assembly, the company will be better off by $1 per unit.
b. Sell before assembly, the company will be better off by $16 per unit.
c. Process further, the company will be better off by $23 per unit.
d. Process further, the company will be better off by $11 per unit.
110. Moreland Clean Company spent $8,000 to produce Product 89, which can be sold as is
for $10,000, or processed further incurring additional costs of $3,000 and then be sold for
$14,000. Which amounts are relevant to the decision about Product 89?
a. $8,000, $10,000, and $14,000
b. $8,000, $3,000, and $14,000
c. $10,000, $3,000, and $14,000
d. $8,000, $10,000, $3,000 and $14,000
111. Pratt Company has old inventory on hand that cost $15,000. Its scrap value is $20,000.
The inventory could be sold for $50,000 if manufactured further at an additional cost of
$15,000. What should Pratt do?
a. Sell the inventory for $20,000 scrap value
b. Dispose of the inventory to avoid any further decline in value
c. Hold the inventory at its $15,000 cost
d. Manufacture further and sell it for $50,000
112. New Age Makeup produces face cream. Each bottle of face cream costs $10 to produce
and can be sold for $13. The bottles can be sold as is, or processed further into sunscreen
at a cost of $14 each. New Age Makeup could sell the sunscreen bottles for $23 each.
a. Face cream must be processed further because its profit is $9 each.
b. Face cream must not be processed further because costs increase more than
revenue.
c. Face cream must not be processed further because it decreases profit by $1 each.
d. Face cream must be processed further because it increases profit by $3 each.
Incremental Analysis
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113. Janssen Company has old inventory on hand that cost $24,000. Its scrap value is
$32,000. The inventory could be sold for $80,000 if manufactured further at an additional
cost of $24,000. What should Janssen do?
a. Sell the inventory for $32,000 scrap value
b. Dispose of the inventory to avoid any further decline in value
c. Hold the inventory at its $24,000 cost
d. Manufacture further and sell it for $80,000.
114. A company has a process that results in 24,000 pounds of Product A that can be sold for
$8 per pound. An alternative would be to process Product A further at a cost of $160,000
and then sell it for $14 per pound. Should management sell Product A now or should
Product A be processed further and then sold? What is the effect of the action?
a. Process further, the company will be better off by $16,000.
b. Sell now, the company will be better off by $16,000.
c. Process further, the company will be better off by $144,000.
d. Sell now, the company will be better off by $160,000.
115. The decision rule on whether to sell or process further
a. varies from situation to situation.
b. is process further as long as total revenue exceeds present revenues.
c. is process further if incremental revenue from such processing exceeds incremental
fixed costs.
d. is process further if incremental revenue from such processing exceeds the
incremental processing costs.
116. Eddy Company is starting business and is unsure of whether to sell its product assembled
or unassembled. The unit cost of the unassembled product is $60 and Eddy Company
would sell it for $135. The cost to assemble the product is estimated at $27 per unit and
Eddy Company believes the market would support a price of $174 on the assembled unit.
What is the correct decision using the sell or process further decision rule?
a. Sell before assembly, the company will be better off by $27 per unit.
b. Sell before assembly, the company will be better off by $39 per unit.
c. Process further, the company will be better off by $39 per unit.
d. Process further, the company will be better off by $12 per unit.
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117. Mallory Company manufactures widgets. Bowden Company has approached Mallory with
a proposal to sell the company widgets at a price of $82,000 for 100,000 units. Mallory is
currently making these components in its own factory. The following costs are associated
with this part of the process when 100,000 units are produced:
Direct material $ 31,000
Direct labor 29,000
Manufacturing overhead 40,000
Total $100,000
The manufacturing overhead consists of $16,000 of costs that will be eliminated if the
components are no longer produced by Mallory. From Mallory's point of view, how much
is the incremental cost or savings if the widgets are bought instead of made?
a. $18,000 incremental savings
b. $6,000 incremental cost
c. $2,000 incremental savings
d. $18,000 incremental cost
118. The focus of a sell or process further decision is
a. incremental revenue.
b. incremental cost.
c. both incremental revenue and incremental cost.
d. neither incremental revenue nor incremental cost.
119. Marcus Company gathered the following data about the three products that it produces:
Present Estimated Additional Estimated Sales
Product Sales Value Processing Costs if Processed Further
A $12,000 $8,000 $21,000
B 14,000 5,000 18,000
C 11,000 3,000 16,000
Which of the products should not be processed further?
a. Product A
b. Product B
c. Product C
d. Products A and C
Incremental Analysis
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120. Serene Dairy has four product lines: sour cream, ice cream, yogurt, and butter. The total
cost of producing the milk base for the products is $45,000, which has been allocated
based on the gallons of milk base used by each product. Results for July follow:
Sour Cream Ice Cream Yogurt Butter Total
Units sold 2,000 500 400 2,000 4,900
Revenue $10,000 $20,000 $10,000 $20,000 $60,000
Variable departmental costs 6,000 13,000 4,200 4,800 28,000
Fixed costs 5,000 2,000 3,000 7,000 17,000
Net income (loss) $ (1,000) $ 5,000 $ 2,800 $ 8,200 $15,000
How much are total joint costs of the products?
a. $28,000
b. $17,000
c. $45,000
d. $15,000
121. Which of the following is not involved in the sell or process further decision?
a. Revenues
b. Variable costs
c. Opportunity costs
d. Fixed costs
122. All of the following are relevant to the sell or process further decision except
a. costs incurred beyond the split-off point.
b. revenues at the split-off point.
c. costs incurred before the split-off point.
d. revenues beyond the split-off point.
123. Costs incurred before the split-off point are
a. sunk costs.
b. incremental costs.
c. relevant costs.
d. opportunity costs.
124. Which of the following terms are synonymous?
a. Avoidable costs and irrelevant costs
b. Unavoidable costs and incremental costs
c. Sunk costs and relevant costs
d. Joint costs and sunk costs
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125.
Paul Bunyon Lumber Co. produces several products that can be sold at the split-off point or
processed further and then sold. The following results are from a recent period:
Sales Value Additional Sales Value after
Product at Split-off Variable Costs Further Processing
Green lumber $159,600 $24,000 $178,000
Rough lumber 124,000 28,200 173,600
Sawdust 102,000 19,600 130,000
The additional profit that would result from processing rough lumber further is
a. $21,400.
b. $49,600.
c. $145,400.
d. $95,800.
126.
Paul Bunyon Lumber Co. produces several products that can be sold at the split-off point or
processed further and then sold. The following results are from a recent period:
Sales Value Additional Sales Value after
Product at Split-off Variable Costs Further Processing
Green lumber $159,600 $24,000 $178,000
Rough lumber 124,000 28,200 173,600
Sawdust 102,000 19,600 130,000
Which products should be processed further?
a. Green lumber and rough lumber
b. Green lumber and sawdust
c. Rough lumber and sawdust
d. All three products
Incremental Analysis
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127.
Paul Bunyon Lumber Co. produces several products that can be sold at the split-off point or
processed further and then sold. The following results are from a recent period:
Sales Value Additional Sales Value after
Product at Split-off Variable Costs Further Processing
Green lumber $159,600 $24,000 $178,000
Rough lumber 124,000 28,200 173,600
Sawdust 102,000 19,600 130,000
What is the increase in profit if the appropriate products are processed further?
a. $24,200
b. $29,800
c. $96,000
d. $255,800
128. The point in the production process when joint products are readily identifiable is the
a. separation point.
b. split-off point.
c. common point.
d. break-even point.
129. The costs incurred prior to the split-off point are referred to as
a. separable costs.
b. split-off costs.
c. joint product costs.
d. joint costs.
130. Hi-Tech Inc. has several outdated computers that cost a total of $17,800 and could be
sold as scrap for $4,600. They could be updated for an additional $2,400 and sold. If Hi-
Tech updates the computers and sells them, net income will increase by $9,000.
At what price were the updated versions sold?
a. $26,800
b. $13,200
c. $13,600
d. $16,000
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131. Hi-Tech Inc. has several outdated computers that cost a total of $17,800 and could be
sold as scrap for $4,600. They could be updated for an additional $2,400 and sold. If Hi-
Tech updates the computers and sells them, net income will increase by $9,000.
What amount would be considered sunk costs?
a. $2,400
b. $9,000
c. $17,800
d. $20,200
132. When deciding whether or not to replace old equipment with new equipment, the
overriding consideration is the
a. book value of the old equipment.
b. cost of replacing the old equipment.
c. salvage value of the old equipment.
d. difference between future cost savings and the new equipment’s costs.
133. In an equipment replacement decision, the cost of the old equipment is a(n)
a. incremental cost.
b. sunk cost.
c. relevant cost.
d. opportunity cost.
134. Chung Inc. is considering the replacement of a piece of equipment with a newer model.
The following data has been collected:
Old Equipment New Equipment
Purchase price $225,000 $375,000
Accumulated depreciation 90,000 - 0 -
Annual operating costs 300,000 240,000
If the old equipment is replaced now, it can be sold for $60,000. Both the old equipment’s
remaining useful life and the new equipment’s useful life is 5 years.
Which of the following amounts is irrelevant to the replacement decision?
a. $375,000
b. $135,000
c. $315,000
d. $60,000
Incremental Analysis
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135. Chung Inc. is considering the replacement of a piece of equipment with a newer model.
The following data has been collected:
Old Equipment New Equipment
Purchase price $225,000 $375,000
Accumulated depreciation 90,000 - 0 -
Annual operating costs 300,000 240,000
If the old equipment is replaced now, it can be sold for $60,000. Both the old equipment’s
remaining useful life and the new equipment’s useful life is 5 years.
What is the net cost of the new equipment?
a. $375,000
b. $315,000
c. $150,000
d. $75,000
136. Chung Inc. is considering the replacement of a piece of equipment with a newer model.
The following data has been collected:
Old Equipment New Equipment
Purchase price $225,000 $375,000
Accumulated depreciation 90,000 - 0 -
Annual operating costs 300,000 240,000
If the old equipment is replaced now, it can be sold for $60,000. Both the old equipment’s
remaining useful life and the new equipment’s useful life is 5 years.
The net advantage (disadvantage) of replacing the old equipment with the new equipment is
a. $60,000
b. $(15,000)
c. $(75,000)
d. $90,000
137. Which of the following is relevant information in a decision whether old equipment
presently being used should be replaced by new equipment?
a. The cost of the old equipment
b. The salvage value of the old equipment
c. The book value of the old equipment
d. The accumulated depreciation of the old equipment
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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138. A company is deciding whether or not to replace some old equipment with new
equipment. Which of the following is not considered in the incremental analysis?
a. Annual operating cost of the new equipment
b. Annual operating cost of the old equipment
c. Net cost of the new equipment
d. Book value of the old equipment
139. What role does a trade-in allowance on old equipment play in a decision to retain or
replace equipment?
a. It is relevant since it increases the cost of the new equipment.
b. It is not relevant since it reduces the cost of the old equipment.
c. It is not relevant to the decision since it does not impact the cost of the new
equipment.
d. It is relevant since it reduces the cost of the new equipment.
140. A company decided to replace an old machine with a new machine. Which of the following
is considered a relevant cost?
a. The book value of the old equipment
b. Depreciation expense of the old equipment
c. The loss on disposal of the old equipment
d. The current disposal price of the old equipment
141. The cash disposal value of old equipment is considered to be a (an)
a. irrelevant cost.
b. avoidable cost.
c. sunk cost.
d. relevant cost.
142. Which of the following is not relevant information in a decision whether old equipment
presently being used should be replaced by new equipment?
a. The cash price of the new equipment
b. The salvage value of the old equipment
c. The book value of the old equipment
d. The cost savings if the new equipment is purchased
143. Book value of old equipment is considered to be a
a. relevant cost.
b. semi-relevant cost.
c. sunk cost.
d. cost that can be changed by a present or future decision.
Incremental Analysis
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144. A company is deciding on whether to replace some old equipment with new equipment.
Which of the following is not a relevant cost for incremental analysis?
a. Annual operating cost of the new equipment
b. Annual operating cost of the old equipment
c. Net cost of the new equipment
d. Accumulated depreciation on the old equipment
145. A company is considering replacing old equipment with new equipment. Which of the
following is a relevant cost for incremental analysis?
a. Annual depreciation charge on the old equipment
b. Book value of the old equipment
c. Estimated annual depreciation of the new equipment
d. Cost of the new equipment
146. In a retain or replace equipment decision, trade-in allowance available on old equipment
a. increases the cost of the new equipment.
b. is relevant because it will not be realized if the old equipment is retained.
c. is not relevant to the decision.
d. reduces the cost of the old equipment.
147. Sala Co. is contemplating the replacement of an old machine with a new one. The
following information has been gathered:
Old Machine New Machine
Price $300,000 $600,000
Accumulated Depreciation 90,000 -0-
Remaining useful life 10 years -0-
Useful life -0- 10 years
Annual operating costs $240,000 $180,600
If the old machine is replaced, it can be sold for $24,000.
Which of the following amounts is a sunk cost?
a. $240,000
b. $180,600
c. $600,000
d. $210,000
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148. Sala Co. is contemplating the replacement of an old machine with a new one. The
following information has been gathered:
Old Machine New Machine
Price $300,000 $600,000
Accumulated Depreciation 90,000 -0-
Remaining useful life 10 years -0-
Useful life -0- 10 years
Annual operating costs $240,000 $180,600
If the old machine is replaced, it can be sold for $24,000.
Which of the following amounts is relevant to the replacement decision?
a. $210,000
b. $300,000
c. $59,400
d. $90,000
149. Sala Co. is contemplating the replacement of an old machine with a new one. The
following information has been gathered:
Old Machine New Machine
Price $300,000 $600,000
Accumulated Depreciation 90,000 -0-
Remaining useful life 10 years -0-
Useful life -0- 10 years
Annual operating costs $240,000 $180,600
If the old machine is replaced, it can be sold for $24,000.
The net advantage (disadvantage) of replacing the old machine is
a. $18,000
b. $24,000
c. $(6,000)
d. $(60,000)
Incremental Analysis
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150. Abel Company produces three versions of baseball bats: wood, aluminum, and hard
rubber. A condensed segmented income statement for a recent period follows:
Wood Aluminum Hard Rubber Total
Sales $500,000 $200,000 $65,000 $765,000
Variable expenses 325,000 140,000 58,000 523,000
Contribution margin 175,000 60,000 7,000 242,000
Fixed expenses 75,000 35,000 22,000 132,000
Net income (loss) $100,000 $ 25,000 $(15,000) $110,000
Assume none of the fixed expenses for the hard rubber line are avoidable. What will be
total net income if the line is dropped?
a. $125,000
b. $103,000
c. $105,000
d. $140,000
151. Abel Company produces three versions of baseball bats: wood, aluminum, and hard
rubber. A condensed segmented income statement for a recent period follows:
Wood Aluminum Hard Rubber Total
Sales $500,000 $200,000 $65,000 $765,000
Variable expenses 325,000 140,000 58,000 523,000
Contribution margin 175,000 60,000 7,000 242,000
Fixed expenses 75,000 35,000 22,000 132,000
Net income (loss) $100,000 $ 25,000 $(15,000) $110,000
Assume all of the fixed expenses for the hard rubber line are avoidable. What will be total
net income if the line is dropped?
a. $125,000
b. $103,000
c. $105,000
d. $140,000
152. What will most likely occur if a company eliminates an unprofitable segment when a
portion of fixed costs are unavoidable?
a. All expenses of the eliminated segment will be eliminated.
b. Net income will decrease.
c. Net income will increase.
d. The company's variable costs will increase.
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153. A company has three product lines, one of which reflects the following results:
Sales $215,000
Variable expenses 125,000
Contribution margin 90,000
Fixed expenses 130,000
Net loss $ (40,000)
If this product line is eliminated, 60% of the fixed expenses can be eliminated and the
other 40% will be allocated to other product lines. If management decides to eliminate this
product line, the company's net income will
a. increase by $40,000.
b. decrease by $90,000.
c. decrease by $12,000.
d. increase by $12,000.
154. A company is considering eliminating a product line. The fixed costs currently allocated to
the product line will be allocated to other product lines upon discontinuance. If the product
line is discontinued,
a. total net income will increase by the amount of the product line's fixed costs.
b. total net income will decrease by the amount of the product line's fixed costs.
c. the contribution margin of the product line will indicate the net income increase or
decrease.
d. the company's total fixed costs will decrease.
155. A segment has the following data:
Sales $700,000
Variable expenses 300,000
Fixed expenses 550,000
What will be the incremental effect on net income if this segment is eliminated, assuming
the fixed expenses will be allocated to profitable segments?
a. $400,000 increase
b. $400,000 decrease
c. $5,000 decrease
d. Cannot be determined from the data provided.
Incremental Analysis
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156. Corn Crunchers has three product lines. Its only unprofitable line is Corn Nuts, the results
of which appear below for 2013:
Sales $1,400,000
Variable expenses 920,000
Fixed expenses 600,000
Net loss $ (120,000)
If this product line is eliminated, 30% of the fixed expenses can be eliminated. How much
are the relevant costs in the decision to eliminate this product line?
a. $180,000
b. $1,520,000
c. $1,340,000
d. $1,100,000
157. North Division has the following information:
Sales $1,200,000
Variable expenses 640,000
Fixed expenses 620,000
If this division is eliminated, the fixed expenses will be allocated to the company’s other
divisions. What is the incremental effect on net income if the division is dropped?
a. $60,000 increase
b. $620,000 decrease
c. $560,000 decrease
d. $580,000 increase
158. The potential effects of the decision to eliminate a line of business on existing employees
and the community are
a. ignored in incremental analysis.
b. quantitative factors.
c. qualitative factors.
d. opportunity costs.
159. When will the elimination of a product line have no effect on the company’s overall profit?
a. When the avoidable fixed costs equal the product line’s contribution margin
b. When the unavoidable fixed costs equal the product line’s contribution margin
c. When there are no fixed costs incurred by the product line
d. When the product line contribution margin is negative
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160. Accounting's contribution to the decision-making process occurs in all of the following
steps except to
a. identify the problem and assign responsibility.
b. determine possible courses of action.
c. review results of the decision.
d. make a decision.
161. It costs Dryer Company $26 per unit ($18 variable and $8 fixed) to produce its product,
which normally sells for $38 per unit. A foreign wholesaler offers to purchase 5,000 units
at $21 each. Dryer would incur special shipping costs of $2 per unit if the order were
accepted. Dryer has sufficient unused capacity to produce the 5,000 units. If the special
order is accepted, what will be the effect on net income?
a. $5,000 decrease
b. $5,000 increase
c. $15,000 increase
d. $90,000 increase
162. In a make-or-buy decision, opportunity costs are
a. added to the make total cost.
b. deducted from the make total cost.
c. added to the buy total cost.
d. ignored.
163. Which of the following would generally not affect a make-or-buy decision?
a. Selling expenses
b. Direct labor
c. Variable manufacturing costs
d. Opportunity cost
164. A cost that cannot be changed by any present or future decision is a(n)
a. incremental cost.
b opportunity cost.
c. sunk cost.
d. variable cost.
165. If an unprofitable segment is eliminated
a. it is impossible for net income to decrease.
b. fixed expenses allocated to the eliminated segment will be eliminated.
c. variable expenses of the eliminated segment will be eliminated.
d. it is impossible for net income to increase.
Incremental Analysis
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166. All of the following are relevant in deciding whether to eliminate an unprofitable segment
except the segment's
a. sales.
b. variable expenses.
c. contribution margin.
d. fixed expenses.
Answers to Multiple Choice Questions
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Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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BRIEF EXERCISES
BE 167
Sedgwick Inc. is considering Plan 1 which is estimated to have sales of $40,000 and costs of
$15,500. The company currently has sales of $37,000 and costs of $14,000.
Instructions
Compare plans using incremental analysis.
Incremental increase in profit if Plan 1 is selected $1,500
BE 168
Pederson Enterprises produces giant stuffed bears. Each bear consists of $12 of variable costs
and $9 of fixed costs and sells for $45. A wholesaler offers to buy 8,000 units at $14 each, of
which Pederson has the capacity to produce. Pederson will incur extra shipping costs of $1 per
bear.
Instructions
Determine the incremental income or loss that Pederson Enterprises would realize by accepting
the special order.
BE 169
Notson, Inc. produces several models of clocks. An outside supplier has offered to produce the
commercial clocks for Notson for $420 each. Notson needs 1,200 clocks annually. Notson has
provided the following unit costs for its commercial clocks:
Direct materials $100
Direct labor 140
Variable overhead 80
Fixed overhead (40% avoidable) 150
Instructions
Prepare an incremental analysis which shows the effect of the make-or-buy decision.
Incremental Analysis
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Incremental net cost to buy $ (48,000)
BE 170
Parks Corporation currently manufactures 3,000 staplers annually for its main product. The costs
per stapler are as follows:
Direct materials $ 3.00
Direct labor 7.00
Variable overhead 4.00
Fixed overhead 7.00
Total $21.00
Gallup Company has contacted Parks with an offer to sell it 3,000 staplers for $18.00 each. $5 of
the fixed overhead per unit is unavoidable.
Instructions
Prepare an incremental analysis for the make-or-buy decision.
BE 171
Calc, Inc. owns a machine that produces baskets for the gift packages the company sells. The
company uses 900 baskets in production each month. The costs of making one basket is $4 for
direct materials, $3 for variable manufacturing overhead, $2 for direct labor, and $5 for fixed
manufacturing overhead. The unit cost is based on the monthly production of 900 baskets. The
company determined that 30% of the fixed manufacturing overhead is avoidable. An outside
supplier has offered to sell Calc the baskets for $13 each, and can supply all the units it needs.
Instructions
Prepare an incremental analysis to determine if Calc should buy the baskets from the supplier.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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BE 172
Hernandez, Inc. manufactures three models of picture frames for a total of 8,000 frames per year.
The unit cost to produce a metal frame follows:
Direct materials $ 6
Direct labor 8
Variable overhead 2
Fixed overhead (70% unavoidable) 5
Total $21
A local company has offered to supply Hernandez the 8,000 metal frames it needs for $17 each.
Instructions
Create an incremental analysis for the make-or-buy decision.
Incremental Analysis
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BE 173
Wood Chuck Furniture currently manufactures rocking chairs as its main product. Each chair
uses one seat cushion and one back cushion with the following costs per set of cushions (one
seat and one back):
Direct materials $ 1
Direct labor 10
Variable overhead 5
Fixed overhead 8
Total $24
Shepert Company has contacted Wood Chuck with an offer to sell it 5,000 sets of cushions for
$18 each. If Wood Chuck buys the cushions, $2 of the fixed overhead per unit will be allocated to
other products.
Instructions
Should Wood Chuck make or buy the cushions?
BE 174
Paola Farms, Inc. produces a crop of chickens at a total cost of $66,000. The production
generates 60,000 chickens which can be sold for $1 each to a slaughtering company, or the
chickens can be slaughtered in house and then sold for $2.75 each. It costs $65,000 more to turn
the annual chicken crop into chicken meat.
Instructions
If Paola Farms slaughters the chickens, determine how much incremental profit or loss it would
report. What should Paola Farms do?
BE 175
Elmdale Company has a machine that affixes labels to bottles. The machine has a book value of
$80,000 and a remaining useful life of 3 years and no salvage value. A new, more efficient
machine is available at a cost of $300,000 that will have a 5-year useful life with no salvage
value. The new machine will lower annual variable production costs from $520,000 to $410,000.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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BE 175 (Cont.)
Instructions
Prepare an analysis showing whether the old machine should be retained or replaced.
BE 176
Keith Inc. has 4 product lines: sour cream, ice cream, yogurt, and butter. Demand of individual
products is not affected by changes in other product lines. 30% of the fixed costs are direct, and
the other 70% are allocated. Results of June follow:
Sour Cream Ice Cream Yogurt Butter Total
Units sold 2,000 500 400 200 3,100
Revenue $10,000 $20,000 $10,000 $20,000 $60,000
Variable departmental costs 6,000 13,000 4,200 4,800 28,000
Fixed costs 5,000 2,000 3,000 7,000 17,000
Net income (loss) $ (1,000) $ 5,000 $ 2,800 $ 8,200 $15,000
Instructions
Prepare an incremental analysis of the effect of dropping the sour cream product line.
BE 177
Parino Company has three product lines in its retail stores: books, videos, and music. The
allocated fixed costs are based on units sold and are unavoidable. Demand of individual products
is not affected by changes in other product lines. Results of the fourth quarter are presented
below:
Books Music Videos Total
Units sold 1,000 2,000 2,000 5,000
Revenue $24,000 $48,000 $30,000 $102,000
Variable departmental costs 15,000 22,000 23,000 60,000
Direct fixed costs 3,000 6,000 4,000 13,000
Allocated fixed costs 4,400 8,800 8,800 22,000
Net income (loss) $ 1,600 $11,200 $ (5,800) $ 7,000
Incremental Analysis
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BE 177 (Cont.)
Instructions
Prepare an incremental analysis of the effect of dropping the Video product line.
BE 178
Harmark has three product lines in its retail stores: kites, wind socks, and flags. Results of the
fourth quarter are presented below:
Kites Wind Socks Flags Total
Units sold 1,000 2,000 2,000 5,000
Revenue $22,000 $40,000 $23,000 $85,000
Variable departmental costs 17,000 22,000 12,000 51,000
Direct fixed costs 1,000 3,000 2,000 6,000
Allocated fixed costs 8,000 8,000 8,000 24,000
Net income (loss) $ (4,000) $ 7,000 $ 1,000 $ 4,000
The allocated fixed costs are unavoidable. Demand of individual products is not affected by
changes in other product lines.
Instructions
What will happen to profits if Harmark discontinues the Kites product line?
BE 179
Dolls R Us sells three products in its retail stores: baby dolls, teenage dolls, and plush dolls.
Results of the fourth quarter are below:
Baby Dolls Teenage Dolls Plush Dolls Total
Units sold 1,000 2,000 2,000 5,000
Revenue $32,000 $43,000 $26,000 $101,000
Variable departmental costs 22,000 24,000 13,000 59,000
Direct fixed costs 5,000 4,000 3,000 12,000
Allocated fixed costs 6,000 7,000 7,000 20,000
Net income (loss) $ (1,000) $ 8,000 $ 3,000 $ 10,000
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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BE 179 (cont.)
Instructions
Demand for individual products is not affected by changes in other product lines. Prepare an
incremental analysis to determine if the Baby Dolls should be discontinued
EXERCISES
Ex. 180
Roland Company operates a small factory in which it manufactures two products: A and B.
Production and sales result for last year were as follow:
A B
Units sold 8,000 16,000
Selling price per unit 65 52
Variable costs per unit 35 30
Fixed costs per unit 15 15
For purposes of simplicity, the firm allocates total fixed costs over the total number of units of A
and B produced and sold.
The research department has developed a new product (C) as a replacement for product B.
Market studies show that Roland Company could sell 11,000 units of C next year at a price of
$80, the variable costs per unit of C are $39. The introduction of product C will lead to a 10%
increase in demand for product A and discontinuation of product B. If the company does not
introduce the new product, it expects next year's result to be the same as last year's.
Instructions
Should Roland Company introduce product C next year? Explain why or why not. Show
calculations to support your decision.
Incremental Analysis
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Ex. 181
Felter Company produced and sold 50,000 units of product and is operating at 70% of plant
capacity. Unit information about its product is as follows:
Sales price $70
Variable manufacturing cost $45
Fixed manufacturing cost ($500,000 ÷ 50,000) 10 55
Profit per unit $15
The company received a proposal from a foreign company to buy 10,000 units of Felter
Company's product for $50 per unit. This is a one-time only order and acceptance of this proposal
will not affect the company's regular sales. The president of Felter Company is reluctant to accept
the proposal because he is concerned that the company will lose money on the special order.
Instructions
Prepare a schedule reflecting an incremental analysis of this proposal and indicate the effect the
acceptance of this order might have on the company's income.
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Ex. 182
Carney Company manufactures cappuccino makers. For the first eight months of 2013, the
company reported the following operating results while operating at 80% of plant capacity:
Sales (500,000 units) $90,000,000
Cost of goods sold 54,000,000
Gross profit 36,000,000
Operating expenses 24,000,000
Net income $12,000,000
An analysis of costs and expenses reveals that variable cost of goods sold is $95 per unit and
variable operating expenses are $35 per unit.
In September, Carney Company receives a special order for 40,000 machines at $135 each from
a major coffee shop franchise. Acceptance of the order would result in $10,000 of shipping costs
but no increase in fixed expenses.
Instructions
(a) Prepare an incremental analysis for the special order.
(b) Should Carney Company accept the special order? Justify your answer.
Incremental Analysis
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Ex. 183
Gregg Company supplies schools with floor mattresses to use in physical education classes.
Gregg has received a special order from a large school district to buy 600 mats at $45 each.
Acceptance of the special order will not affect fixed costs but will result in $1,200 of shipping costs.
For the first 6 months of 2013, the company reported the following operating results while
operating at 80% capacity:
Sales (100,000 units) $7,000,000
Cost of goods sold 4,200,000
Gross profit 2,800,000
Operating expenses 2,000,000
Net income $ 800,000
Cost of goods sold was 75% variable and 25% fixed; operating expenses were 70% variable and
30% fixed.
Instructions
(a) Prepare an incremental analysis for the special order.
(b) Should Gregg Company accept the special order? Justify your answer.
Ex. 184
Larkin Company produces golf discs which it normally sells to retailers for $6 each. The cost of
manufacturing 25,000 golf discs is:
Materials $ 10,000
Labor 30,000
Variable overhead 20,000
Fixed overhead 40,000
Total $100,000
Larkin also incurs 5% sales commission ($0.30) on each disc sold.
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Ex 184 (cont.)
Rudd Corporation offers Larkin $4.25 per disc for 3,000 discs. Rudd would sell the discs
under its own brand name in foreign markets not yet served by Larkin. If Larkin accepts the offer,
its fixed overhead will increase from $40,000 to $43,000 due to the purchase of a new imprinting
machine. No sales commission will result from the special order.
Instructions
(a) Prepare an incremental analysis for the special order.
(b) Should Innova accept the special order? Why or why not?
Ex. 185
Kasten, Inc. budgeted 10,000 widgets for production during 2013. Kasten has capacity to produce
12,000 units. Fixed factory overhead is allocated to production. The following estimated costs
were provided:
Direct material ($7/unit) $ 70,000
Direct labor ($15/hr. × 2 hrs./unit) 300,000
Variable manufacturing overhead ($4/unit) 40,000
Fixed factory overhead costs ($5/unit) 50,000
Total $460,000
Cost per unit = $46
Instructions
Answer each of the following independent questions:
1. Kasten received an order for 1,000 units from a new customer in a country in which Kasten
has never done business. This customer has offered $43 per widget. Should Kasten accept
the order?
2. Kasten received an offer from another company to manufacture the same quality widgets for
$39. Should Kasten let someone else manufacture all 10,000 widgets and focus only on
distribution?
Incremental Analysis
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Ex. 186
Coyle Company manufactured 6,000 units of a component part that is used in its product and
incurred the following costs:
Direct materials $35,000
Direct labor 15,000
Variable manufacturing overhead 10,000
Fixed manufacturing overhead 20,000
$80,000
Another company has offered to sell the same component part to the company for $13 per unit.
The fixed manufacturing overhead consists mainly of depreciation on the equipment used to
manufacture the part and would not be reduced if the component part was purchased from the
outside firm. If the component part is purchased from the outside firm, Coyle Company has the
opportunity to use the factory equipment to produce another product which is estimated to have a
contribution margin of $22,000.
Instructions
Prepare an incremental analysis report for Coyle Company which can serve as informational
input into this make or buy decision.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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Ex. 187
Agler Corporation currently manufactures a subassembly for its main product. The costs per unit
are as follows:
Direct materials $ 1
Direct labor 10
Variable overhead 5
Fixed overhead 8
Total $24
Funkhouser Company has contacted Agler with an offer to sell it 4,000 of the subassemblies for
$17 each. If Agler buys the subassemblies, $2 of the fixed overhead per unit will be allocated to
other products.
Instructions
Should Agler make or buy the subassemblies? Explain your answer.
Ex. 188
Kuhn Bicycle Company has been manufacturing its own seats for its bicycles. The company is
currently operating at 100% capacity, and variable manufacturing overhead is charged to
production at the rate of 60% of direct labor cost. The direct materials and direct labor cost per
unit to make the bicycle seats are $8.00 and $9.00, respectively. Normal production is 50,000
bicycles per year.
A supplier offers to make the bicycle seats at a price of $21 each. If the bicycle company accepts
this offer, all variable manufacturing costs will be eliminated, but the $30,000 of fixed
manufacturing overhead currently being charged to the bicycle seats will have to be absorbed by
other products.
Instructions
(a) Prepare the incremental analysis for the decision to make or buy the bicycle seats.
(b) Should Kuhn Bicycle Company buy the seats from the outside supplier? Justify your answer.
Incremental Analysis
20 - 55
Solution 188 (15–20 min.)
Ex. 189
Larkin, Inc. uses 1,000 units of the component NJF1 every month to manufacture one of its
products. The unit costs incurred to manufacture the component are as follows:
Direct materials $65
Direct labor 48
Overhead 96
Total $209
Overhead costs include variable material handling costs of $10, which are applied to products on
the basis of direct material costs. The remainder of the overhead costs are applied on the basis of
direct labor dollars and consist of 50% variable costs and 50% fixed costs.
A vendor has offered to supply the NJF1 component at a price of $175 per unit.
Instructions
(a) Should Larkin purchase the component from the outside vendor if its capacity remains idle?
(b) Should Larkin purchase the component from the outside vendor if it can use its facilities to
manufacture another product? What information will Interdesign need to make an accurate
decision? Show your calculations.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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Ex. 190
A company manufactures three products using the same production process. The costs incurred
up to the split-off point are $200,000. These costs are allocated to the products on the basis of
their sales value at the split-off point. The number of units produced, the selling prices per unit of
the three products at the split-off point and after further processing, and the additional processing
costs are as follow:
Number of Selling Price Selling Price Additional
Product Units Produced at Split-off after Processing Processing Costs
X 5,000 $10.00 $15.00 $14,000
Y 10,000 11.60 16.20 21,000
Z 4,000 19.40 21.60 12,000
Instructions
(a) Which product(s) should be processed further and which should be sold at the split-off point?
(b) Would your decision be different if the company was using the quantity of output to allocate
joint costs? Explain.
Incremental Analysis
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Ex. 191
Spencer Chemical Corporation produces an oil-based chemical product which it sells to paint
manufacturers. In 2013, the company incurred $344,000 of costs to produce 40,000 gallons of the
chemical. The selling price of the chemical is $12.00 per gallon. The costs per unit to
manufacture a gallon of the chemical are presented below:
Direct materials $6.00
Direct labor 1.20
Variable manufacturing overhead .80
Fixed manufacturing overhead .60
Total manufacturing costs $8.60
The company is considering manufacturing the paint itself. If the company processes the
chemical further and manufactures the paint itself, the following additional costs per gallon will be
incurred: Direct materials $1.70, Direct labor $.60, Variable manufacturing overhead $.50. No
increase in fixed manufacturing overhead is expected. The company can sell the paint at $15.50
per gallon.
Instructions
Determine the incremental per gallon increase in net income and the total increase in net income
if the company manufactures the paint.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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Ex. 192
Ecker, Inc. produces milk at a total cost of $66,000. The production generates 60,000 gallons of
milk which can be sold for $1 per gallon to a pasteurization company, or the milk can be
processed further into ice cream and then sold for $3 per gallon. It costs $75,000 more to turn the
annual milk supply into ice cream.
Instructions
If Ecker processes the milk into ice cream, how much is the incremental profit or loss? Should
Ecker process the milk into ice cream or sell it as is?
Ex. 193
Speedy Bikes could sell its bicycles to retailers either assembled or unassembled. The cost of an
unassembled bike is as follows.
Direct materials $150
Direct labor 70
Variable overhead (70% of direct labor) 49
Fixed overhead (30% of direct labor) 21
Manufacturing cost per unit $290
The unassembled bikes are sold to retailers at $450 each.
Speedy currently has unused productive capacity that is expected to continue indefinitely;
management has concluded that some of this capacity can be used to assemble the bikes and
sell them at $495 each. Assembling the bikes will increase direct materials by $5 per bike, and
direct labor by $10 per bike. Additional variable overhead will be incurred at the normal rates, but
there will be no additional fixed overhead as a result of assembling the bikes.
Instructions
(a) Prepare an incremental analysis for the sell-or-process-further decision.
(b) Should Speedy sell or process further? Why or why not?
Incremental Analysis
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Ex. 194
Harris Timber Corporation uses a machine that removes the bark from cut timber. The machine is
unreliable and results in a significant amount of downtime and excessive labor costs. The
management is considering replacing the machine with a more efficient one which will minimize
downtime and excessive labor costs. Data are presented below for the two machines:
Old Machine New Machine
Original purchase cost $340,000 $370,000
Accumulated depreciation 230,000 —
Estimated life 5 years 5 years
It is estimated that the new machine will produce annual cost savings of $85,000. The old
machine can be sold to a scrap dealer for $8,000. Both machines will have a salvage value of
zero if operated for the remainder of their useful lives.
Instructions
Determine whether the company should purchase the new machine.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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Ex. 195
Kinder Enterprises relies heavily on a copier machine to process its paperwork. Recently the copy
clerk has not been able to process all the necessary copies within the regular work week.
Management is considering updating the copier machine with a faster model.
Current Copier New Model
Original purchase cost $10,000 $20,000
Accumulated depreciation 8,000 —
Estimated operating costs (annual) 7,000 2,600
Useful life 5 years 5 years
If sold now, the current copier would have a salvage value of $1,000. If operated for the
remainder of its useful life, the current machine would have zero salvage value. The new machine
is expected to have zero salvage value after five years.
Instructions
Prepare an analysis to show whether the company should retain or replace the machine.
Ex. 196
Milwaukee, Inc. has three divisions: Bud, Wise, and Er. The results of May, 2013 are presented
below.
Bud Wise Er Total
Units sold 3,000 5,000 2,000 10,000
Revenue $70,000 $50,000 $40,000 $160,000
Less variable costs 32,000 26,000 16,000 74,000
Less direct fixed costs 14,000 19,000 12,000 45,000
Less allocated fixed costs 6,000 10,000 4,000 20,000
Net income $18,000 $ (5,000) $ 8,000 $ 21,000
All of the allocated costs will continue even if a division is discontinued. Milwaukee allocates
indirect fixed costs based on the number of units to be sold. Since the Wise division has a net
loss, Milwaukee feels that it should be discontinued. Milwaukee feels if the division is closed, that
sales at the Bud division will increase by 12%, and that sales at the Er division will stay the same.
Instructions
(a) Prepare an analysis showing the effect of discontinuing the Wise division.
(b) Should Milwaukee close the Wise division? Briefly indicate why or why not.
Incremental Analysis
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Ex. 197
Trump Forest Corporation operates two divisions, the Timber Division and the Consumer
Division. The Timber Division manufactures and sells logs to paper manufacturers. The
Consumer Division operates retail lumber mills which sell a variety of products in the do-it-
yourself homeowner market. The company is considering disposing of the Consumer Division
since it has been consistently unprofitable for a number of years. The income statements for the
two divisions for the year ended December 31, 2013 are presented below:
Timber Division Consumer Division Total
Sales $1,500,000 $500,000 $2,000,000
Cost of goods sold 900,000 350,000 1,250,000
Gross profit 600,000 150,000 750,000
Selling & administrative expenses 250,000 180,000 430,000
Net income $ 350,000 $ (30,000) $ 320,000
In the Consumer Division, 70% of the cost of goods sold are variable costs and 35% of selling
and administrative expenses are variable costs. The management of the company feels it can
save $45,000 of fixed cost of goods sold and $50,000 of fixed selling expenses if it discontinues
operation of the Consumer Division.
Instructions
(a) Determine whether the company should discontinue operating the Consumer Division.
(b) If the company had discontinued the division for 2013, determine what net income would
have been.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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Ex. 198
Mercer has three product lines in its retail stores: books, videos, and music. Results of the fourth
quarter are presented below:
Books Music Videos Total
Units sold 1,000 2,000 2,000 5,000
Revenue $20,000 $40,000 $25,000 $85,000
Variable departmental costs 17,000 22,000 12,000 51,000
Direct fixed costs 1,000 3,000 2,000 6,000
Allocated fixed costs 7,000 7,000 7,000 21,000
Net income (loss) $ (5,000) $ 8,000 $ 4,000 $ 7,000
The allocated fixed costs are unavoidable. Demand of individual products are not affected by
changes in other product lines.
Instructions
What will happen to profits if Mercer discontinues the Books product line?
Incremental Analysis
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Ex. 199
A recent accounting graduate from Marvel State University evaluated the operating performance
of Fanning Company's four divisions. The following presentation was made to Fanning's Board of
Directors. During the presentation, the accountant made the recommendation to eliminate the
Southern Division stating that total net income would increase by $60,000. (See analysis below.)
Other Three Divisions Southern Division Total
Sales $2,000,000 $480,000 $2,480,000
Cost of Goods Sold 950,000 400,000 1,350,000
Gross Profit 1,050,000 80,000 1,130,000
Operating Expenses 800,000 140,000 940,000
Net Income $ 250,000 $ (60,000) $ 190,000
For the other divisions, cost of goods sold is 80% variable and operating expenses are 70%
variable. The cost of goods sold for the Southern Division is 30% fixed, and its operating
expenses are 75% fixed. If the division is eliminated, only $15,000 of the fixed operating costs will
be eliminated.
Instructions
Do you concur with the new accountant's recommendation? Present a schedule to support your
answer.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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COMPLETION STATEMENTS
200. An important purpose of management accounting is to provide _____________________
for decision making.
201. The process used to identify the financial data that change under alternative courses of
action is called __________________ analysis.
202. In a decision on whether an order should be accepted at a special price when there is
plant capacity available, a major consideration is whether the special price exceeds
__________________.
203. The potential benefit that may be obtained by following an alternative course of action is
called an _________________ cost.
204. A decision whether to sell a product now or to process it further, depends on whether the
incremental _____________ from processing further are greater than the incremental
processing ______________.
205. The ______________ value of old equipment is irrelevant in a decision to replace that
equipment and is often referred to as a _____________ cost.
Answers to Completion Statements
Incremental Analysis
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MATCHING
206. Match the items below by entering the appropriate code letter in the space provided.
A. Incremental analysis
B. Opportunity cost
C. Sunk cost
____ 1. A cost that cannot be changed by any present or future decision.
____ 2. The process of identifying the financial data that change under alternative courses of
action.
____ 3. The potential benefit that may be lost from following an alternative course of action.
Test Bank for Accounting, Tools for Business Decision Making Fifth Edition
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SHORT-ANSWER ESSAY QUESTIONS
S-A E 207
Management is often faced with the alternative of continuing to make a product or component
internally, or going to an external source and purchasing the product or component. In gathering
relevant information for these two alternatives, briefly identify the quantitative factors that should
be considered. Are there any qualitative factors that should also be considered?
S-A E 208
Define the term "opportunity cost." How may this cost be relevant in a make-or-buy decision?
S-A E 209 (Communication)
You are the general accountant for Word Systems, Inc., a typing service based in Los Angeles,
California. The company has decided to upgrade its equipment. It currently has a widely used
version of a word processing program. The company wishes to invest in more up-to-date software
and to improve its printing capabilities.
Two options have emerged. Option #1 is for the company to keep its existing computer system,
and upgrade its word processing program. The memory of each individual work station would be
enhanced, and a larger, more efficient printer would be used. Better telecommunications
equipment would allow for the electronic transmission of some documents as well.
Option #2 would be for the company to invest in an entirely different computer system. The
software for this system is extremely impressive, and it comes with individual laser printers.
However, the company is not well known, and the software does not connect well with well-known
software. The net present value information for these options follows:
Option #1 Option #2
Initial Investment $(95,000) $(270,000)
Cost savings of labor over 4 years 95,000 270,000
Incremental Analysis
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S-A E 209 (Cont.)
Required:
Prepare a brief report for management in which you make a recommendation for one system or
the other, using the information given.
