ACC513 Managerial Accounting Lesson 3 – Differential Cost Analysis and Capital Expenditure Decisions
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This lesson begins with several applications of one principle – differential analysis. Differential analysis is the analysis of differences among particular alternative actions. It deals with managers’ need to know the differential effect of various alternative actions on profits.
The emphasis then shifts to long-run decisions with examination of changes in plant or operating capacity. The importance of separating the investing and financing aspects of a long-tern decision is covered. The steps of the net present value method are presented, as well as the impact of income tax on these decisions. Finally, internal rate of return and cash flow analysis are covered in the context of long-run decisions.
Lesson Learning Objectives
By the conclusion of this Lesson you should be able to:
- Apply the differential principle and know how to identify costs for differential analysis.
- Apply differential analysis to product choice decisions.
- Identify the factors underlying make-or-buy decisions.
- Demonstrate how linear programming optimizes the use of scarce resources.
- Appraise the reasoning behind the separation of the investing and financing aspects of making long-term decisions.
- Explain the role of capital expenditure decisions in the strategic planning process.
- Describe the internal rate of return method of assessing investment alternatives.
Study Chapters 7 and 8 of the text.
The following assignments should be completed and submitted to the course faculty via the learning platform for evaluation and grading. Whenever possible, submit your responses to all assignment questions in one WORD document.
Short Answer Questions
- When, if ever, are fixed costs differential?
- How is the evaluation of short-term pricing decisions different from the evaluation of long-term decisions?
- Should facility-sustaining costs be considered in making a short-term pricing decision?
- When is the use of full cost information appropriate for pricing decisions?
- Describe the relevant costs for make-or-buy decisions.
- Describe the two distinct decisions of the capital budgeting process.
- Explain the factors that influence the market rate of interest a company must pay for borrowed funds.
- “If an investment does not fit with an organization’s strategic plan, it is probably not a good idea, even if the net present value is positive.” Under what conditions would this be a true statement? When would it be false?
- How, if at all, should the amount of inflation incorporated in the cost of capital influence project future cash flows for a project?
- In measuring the cost of capital, management often measures the cost of the individual equities. A firm has no contractual obligation to pay anything to common shareholders. How can the capital they provide be said to have a cost other than zero?
Professional Development Questions
- In chapter 7 of the text (page 249), answer case study question #27. (Squeaky Clean; customer profitability )
- In chapter 8 of the text (page 291), answer case study questions #23 a, b and (Nugget Company; Net present value and mutually exclusive projects)