Weygandt Managerial 6e SM Release To Printer Ch07 N PDF

CHAPTER 7
Incremental Analysis
ASSIGNMENT CLASSIFICATION TABLE
Brief A B
Learning Objectives Questions Exercises Do It! Exercises Problems Problems
1. Identify the steps in 1, 2 1 1

managements decision-
making process.
2. Describe the concept 3, 4 2 1, 17

of incremental analysis.
3. Identify the relevant 5 3 1 2, 3, 4, 18 1A 1B

costs in accepting an
order at a special price.
4. Identify the relevant 6, 7 4 2 5, 6, 7, 2A 2B

costs in a make-or-buy 8, 18
decision.
5. Identify the relevant costs 8, 9, 10 5, 6 3 9, 10, 11, 3A 3B

in determining whether to 12, 18
sell or process materials
further.
6. Identify the relevant costs 11 7 13, 14, 18 4A 4B

to be considered in
repairing, retaining or
replacing equipment.
7. Identify the relevant costs 12 8 4 15, 16, 5A 5B

in deciding whether to 17, 18
eliminate an unprofitable
segment.
Copyright 2012 John Wiley & Sons, Inc. Weygandt, Managerial Accounting, 6/e, Solutions Manual (For Instructor Use Only) 7-1
ASSIGNMENT CHARACTERISTICS TABLE
Problem Difficulty Time

Number Description Level Allotted (min.)
1A Use incremental analysis for special order and identify Simple 2030
nonfinancial factors in the decision.
2A Use incremental analysis related to make or buy, Moderate 3040

consider opportunity cost, and identify nonfinancial
factors.
3A Determine if product should be sold or processed further. Moderate 3040
4A Compute gain or loss, and determine if equipment should Moderate 3040

be replaced.
5A Prepare incremental analysis concerning elimination of Moderate 3040

divisions.
1B Use incremental analysis for special order and identify Simple 2030
nonfinancial factors in the decision.
2B Use incremental analysis related to make or buy, Moderate 3040

consider opportunity cost, and identify nonfinancial
factors.
3B Determine if product should be sold or processed further. Moderate 3040
4B Compute gain or loss, and determine if equipment should Moderate 3040

be replaced.
5B Prepare incremental analysis concerning elimination of Moderate 2030

divisions.
7-2 Copyright 2012 John Wiley & Sons, Inc. Weygandt, Managerial Accounting, 6/e, Solutions Manual (For Instructor Use Only)
Correlation Chart between Blooms Taxonomy, Learning Objectives and End-of-Chapter Exercises and Problems
Learning Objective Knowledge Comprehension Application Analysis Synthesis Evaluation
*1. Identify the steps in managements BE7-1 Q7-1 E7-1

decision-making process. Q7-2
*2. Describe the concept of Q7-3 E7-1 BE7-2 E7-17
Copyright 2012 John Wiley & Sons, Inc.

incremental analysis. Q7-4
*3. Identify the relevant costs in Q7-5 BE7-3 E7-2 E7-18

accepting an order at a special DI7-1 E7-3 P7-1A
price. E7-4 P7-1B
BLOOMS TAXONOMY TABLE
*4. Identify the relevant costs in a Q7-6 BE7-4 E7-5 E7-18

make-or-buy decision. Q7-7 DI7-2 E7-6 P7-2A
E7-7 P7-2B
E7-8

determining whether to sell or Q7-9 BE7-6 E7-10 P7-3A
process materials further. Q7-10 DI7-3 E7-11 P7-3B
E7-12
*6. Identify the relevant costs to be Q7-11 BE7-7 E7-13 P7-4A

considered in repairing, retaining E7-14 P7-4B
or replacing equipment. E7-18
Weygandt, Managerial Accounting, 6/e, Solutions Manual

deciding whether to eliminate DI7-4 E7-16 P7-5A
an unprofitable segment. E7-17 P7-5B
Broadening Your Perspective BYP7-1 BYP7-2 BYP7-8 BYP7-3

BYP7-4 BYP7-9 BYP7-6
BYP7-5 BYP7-7
(For Instructor Use Only)

7-3
ANSWERS TO QUESTIONS
1. The following steps are frequently involved in managements decision-making process:

(1) Identify the problem and assign responsibility.
(2) Determine and evaluate possible courses of action.
(3) Make a decision.
(4) Review results of the decision.
2. My roommate is incorrect. Accounting contributes to the decision-making process at Steps 2 and 4.

Prior to the decision, accounting provides relevant revenue and cost data for each course of action.
Following the decision, internal reports are prepared to show the actual impact of the decision.
3. Disagree. Incremental analysis involves the identification of financial data that change under
alternative courses of action.
4. In incremental analysis, the important point to consider is whether costs will differ (change)
between the two alternatives. As a result, sometimes (1) variable costs do not change under the
alternative courses of action and (2) fixed costs do change.
5. The relevant data in deciding whether to accept an order at a special price are the incremental
revenues to be obtained compared to the incremental costs of filling the special order.
6. The manufacturing costs that are relevant in the make-or-buy decision are those that will change
if the parts are purchased.
7. Opportunity cost may be defined as the potential benefit that may be obtained by following an
alternative course of action. Opportunity cost is relevant in a make-or-buy decision when the
facilities used to make the part can be used to generate additional income.
8. The decision rule in a decision to sell a product or to process it further is: Process further as
long as the incremental revenue from the additional processing exceeds the incremental
processing costs.
9. Joint products are products that are produced from a single raw material and a common
production process. An accounting issue related to joint products is how to allocate the joint costs
incurred during the production process that creates the joint products.
10. Joint costs are irrelevant to a sell-or-process-further decision because they are sunk costs and
will not change whether the decision is to sell the existing product or process it further. Therefore,
joint costs are ignored in this decision.
11. A sunk cost is a cost that cannot be changed by any present or future decision. Sunk costs, such
as the book value of an old piece of equipment, therefore, are not relevant in a decision to retain
or replace equipment.
12. Net income will be lower if an unprofitable product line is eliminated when the product line is
producing a positive contribution margin and its fixed costs cannot be avoided or reduced.
SOLUTIONS TO BRIEF EXERCISES
BRIEF EXERCISE 7-1
The correct order is:
1. Identify the problem and assign responsibility.

2. Determine and evaluate possible courses of action.
3. Make a decision.
4. Review results of the decision.
BRIEF EXERCISE 7-2
Net Income
Alternative Alternative Increase
A B (Decrease)
Revenues $160,000 $180,000 ($ 20,000)
Costs 100,000 125,000 (25,000)
Net income $ 60,000 $ 55,000 ($ 5,000)
Alternative A is better than Alternative B.
BRIEF EXERCISE 7-3
Net Income
Reject Accept Increase
Order Order (Decrease)
Revenues $0 $75,000 * ($ 75,000)
CostsVariable manufacturing 0 60,000 ** ( (60,000)
Shipping 0 6,000 *** ( (6,000)
Net income $0 $ 9,000 ($ 9,000)
The special order should be accepted.
*3,000 X $25
**3,000 X $20
***3,000 X $ 2
BRIEF EXERCISE 7-4
Net Income
Increase
Make Buy (Decrease)
Variable manufacturing costs $50,000 $ 0 $ 50,000
Fixed manufacturing costs 30,000 30,000 0
Purchase price 0 60,000 (60,000)
Total annual cost $80,000 $90,000 ($(10,000)
The decision should be to make the part.
BRIEF EXERCISE 7-5
Process Net Income

Sell Further Increase (Decrease)
Sales price per unit $62.00 $70.00 $8.00
Cost per unit
Variable 36.00 43.00 ( (7.00)
Fixed 10.00 10.00 0
Total 46.00 53.00 ( (7.00)
Net income per unit $16.00 $17.00 $1.00
The bookcases should be processed further because the incremental

revenues exceed incremental costs by $1.00 per unit.
BRIEF EXERCISE 7-6
The allocated joint costs are irrelevant to the sell or process further
decisions. If AB1 is processed further, the company will earn incremental
revenue of $50,000 ($150,000 $100,000) and only incur incremental costs of
$45,000. Therefore, the company should process AB1 further and sell AB2.
If XY1 is processed further, the company will earn incremental revenue of
$35,000 ($130,000 $95,000) but will incur incremental costs of $50,000.
Therefore, the company should sell XY1 rather than process it further.
BRIEF EXERCISE 7-7
Net 4-Year
Income
Retain Replace Increase
Equipment Equipment (Decrease)
Variable manufacturing costs
for 4 years $3,000,000 $2,500,000 ($ 500,000
New machine cost (30,000) 300,000 ((300,000)
Sell old machine (30,000) 30,000
Total $3,000,000 $2,770,000 $ 230,000
The old factory machine should be replaced.
BRIEF EXERCISE 7-8
Net Income
Continue Eliminate Increase (Decrease)
Sales $200,000 $ 0 $(200,000)
Variable costs 180,000 0 (180,000)
Contribution margin 20,000 ( 0 (20,000)
Fixed costs 30,000 20,000) ( 10,000)
Net income ($ (10,000) $(20,000) $ (10,000)
The Big Bart product line should be continued because $20,000 of contribu-
tion margin will not be realized if the line is eliminated. This amount is
greater than the $10,000 savings of fixed costs.
SOLUTIONS FOR DO IT! REVIEW EXERCISES
DO IT! 7-1
Net Income
Reject Accept Increase (Decrease)
Revenues $ 0 $180,000 $180,000
Costs $ 0 138,000* (138,000)
Net income $ 0 $ 42,000 $ 42,000
*(6,000 X $20) + (6,000 X $3)
Given the results of the above analysis, Maize Company should accept the
special order.
DO IT! 7-2
(a)
Net Income
Make Buy Increase (Decrease)
Direct materials $ 30,000 $ 0 $ 30,000
Direct labor 42,000 0 42,000
Variable manufacturing
costs 45,000 0 45,000
Fixed manufacturing
costs 60,000 45,000 15,000
Purchase price 0 162,000 (162,000)
Total cost $177,000 $207,000 $ (30,000)
Given the results of the above analysis, Rubble Company will incur
$30,000 of additional costs if it buys the switches.
(b)
Net Income
Make Buy Increase (Decrease)
Total cost $177,000 $207,000 $(30,000)
Opportunity cost 34,000 0 34,000
Total cost $211,000 $207,000 $ 4,000
Yes, the answer is different: The analysis shows that net income will
be increased by $4,000 if Rubble Company purchases the switches.
DO IT! 7-3
Process Net Income

Sell Further Increase (Decrease)
Sales per unit $75 $100 $25
Cost per unit
Variable $40 $ 57 ($17)
Fixed 10 13 (3)
Total $50 $ 70 ($20)
Net income per unit $25 $ 30 $ 5
The tables should be processed further and Mesa Verde should finish the
tables because the incremental revenues exceed incremental costs by
$5 per unit.
DO IT! 7-4
Net Income
Continue Eliminate Increase (Decrease)
Sales $500,000 $ 0 $(500,000)
Variable costs 370,000 0 370,000
Contribution margin 130,000 0 (130,000)
Fixed costs 150,000 38,000 112,000
Net income $ (20,000) $(38,000) $ (18,000)
The analysis indicates that Gator should not eliminate the gloves and mittens
line because net income would decrease $18,000.
SOLUTIONS TO EXERCISES
EXERCISE 7-1
1. False. The first step in managements decision-making process is identify
the problem and assign responsibility.
2. False. The final step in managements decision-making process is to
review the results of the decision.
3. True.
4. False. In making business decisions, management ordinarily considers
both financial and nonfinancial information.
5. True.
6. True.
7. False. Costs that are the same under all alternative courses of action do
not affect the decision.
8. False. When using incremental analysis, either costs or revenues or both
will change under alternative courses of action.
9. False. Sometimes variable costs will not change under alternative courses
of action, but fixed costs will.
EXERCISE 7-2
(a) Net Income

Revenues ($4.80) $ 0 $24,000 $24,000
Materials ($0.50) 0 (2,500) (2,500)
Labor ($1.50) 0 (7,500) (7,500)
Variable overhead ($1.00) 0 (5,000) (5,000)
Fixed overhead 0 (6,000) (6,000)
Sales commissions 0 0 0
Net income $ 0 $ 3,000 $ 3,000
(b) As shown in the incremental analysis, Gruden should accept the special
order because incremental revenue exceeds incremental expenses by
$3,000.
(c) It is assumed that sales of the golf discs in other markets would not be
affected by this special order. If other sales were affected, Gruden would
have to consider the lost sales in making the decision. Second, if Gruden
is operating at full capacity, it is likely that the special order would be
rejected.
EXERCISE 7-3
(a) Net Income

Revenues (15,000 X $7.60) $0 $114,000 ($114,000)
Cost of goods sold 0 78,000 (1) ( (78,000)
Operating expenses 0 30,000 (2) ( (30,000)
Net income $0 $ 6,000 ($ 6,000)
(1) Variable cost of goods sold = $2,600,000 X 70% = $1,820,000.

Variable cost of goods sold per unit = $1,820,000 350,000 = $5.20
Variable cost of goods sold for the special order = $5.20 X 15,000
= $78,000.
(2) Variable operating expenses = $840,000 X 75% = $630,000

$630,000 350,000 = $1.80 per unit
15,000 X $1.80 = $27,000
$27,000 + $3,000 = $30,000
(b) As shown in the incremental analysis, Leno Company should accept

the special order because incremental revenues exceed incremental
expenses by $6,000.
EXERCISE 7-4
Net Income
Revenues $0 $1,187,500 (1) $1,187,500
Variable costs:
Direct materials 0 500,000 (500,000)
Direct labor 0 187,500 (187,500)
Variable overhead 0 250,000 (250,000)
Total variable costs 0 937,500 (937,500)
Net income $0 $ 250,000 $ 250,000
(1) [($2.00 + $0.75 + $1.00 + $1.00) X 250,000]
Klean Fiber should accept the Armys offer since it would increase net
income by $250,000.
EXERCISE 7-5
(a) Net Income

Increase
Make Buy (Decrease)
Direct materials (30,000 X $4.00) $120,000 $ 0 $ 120,000
Direct labor (30,000 X $5.00) 150,000 0 150,000
Variable overhead costs
($150,000 X 70%) 105,000 0 105,000
Fixed manufacturing costs 45,000 45,000 0
Purchase price (30,000 X $12.75) 0 382,500 ( (382,500)
Total annual cost $420,000 $427,500 ($ (7,500)
(b) No, Schopp Inc. should not purchase the shades. As indicated by the
incremental analysis, it would cost the company $7,500 more to pur-
chase the lamp shades.
(c) Yes, by purchasing the lamp shades, a total cost saving of $17,500 will
result as shown below.
Net Income
Increase
Make Buy (Decrease)
Total annual cost (above) $420,000 $427,500 $ (7,500)
Opportunity cost 25,000 0 (25,000)
Total cost $445,000 $427,500 $(17,500)
EXERCISE 7-6
(a) 1.
Net Income
Increase
Make Buy (Decrease)
Direct materials $1,000,000 $ 0 $ 1,000,000
Direct labor 800,000 0 800,000
Variable overhead 120,000 0 120,000
Fixed overhead 600,000 195,000 405,000
Purchase price 0 2,300,000 (2,300,000)
Total annual cost $2,520,000 $2,495,000 $ 25,000
Yes. The offer should be accepted as net income will increase by $25,000.
EXERCISE 7-6 (Continued)
2.
Net Income
Increase
Make Buy (Decrease)
Direct materials $1,000,000 $ 0 $ 1,000,000
Direct labor 800,000 0 800,000
Variable overhead 120,000 0 120,000
Fixed overhead 600,000 600,000 0
Purchase price 0 2,300,000 (2,300,000)
Totals $2,925,000 $2,900,000 $ 25,000
Yes. The offer should be accepted as net income would be $25,000 more.
(b) Qualitative factors include the possibility of laying off those employees
that produced the robot and the resulting poor morale of the remaining
employees, maintaining quality standards, and controlling the purchase
price in the future.
EXERCISE 7-7
(a) Net Income

Increase
Make Sails Buy Sails (Decrease)
Direct materials $100 $ 0 $ 100
Direct labor 80 0 80
Variable overhead 35 0 35
Purchase price 0 250 (250)
Total unit cost $215 $250 $ (35)
Gibbs should be making the sails, because they could save $35 per
unit or $42,000. The president was including the fixed overhead cost
in the calculation. Variable overhead = Total overhead ($100) Fixed
overhead ($78,000 1,200) = $35. This amount has been allocated, so
Gibbs will incur the cost whether or not they make the sails. This is an
example of an irrelevant cost, because it does not differ between the
two alternatives.
(b) The best decision would be to rent out the space as shown below.
The differential savings would be $77,000 $42,000 = $35,000.
Net Income
Per Make Increase
(Based on 1,200 units) Unit Sails Buy Sails (Decrease)
Manufacturing cost $215 $258,000 $ 0 $ 258,000
Purchase price $250 0 300,000 (300,000)
Total annual cost $335,000 $300,000 $ 35,000
(c) Qualitative factors to consider would be (1) whether Gibbs will be able
to exercise control over the future price of the product (2) whether Gibbs
will be able to exercise control over the quality of the product and
(3) the potential for interruptions in the supply of the product.
EXERCISE 7-8
(a) Net Income

Increase
Make IMC2 Buy IMC2 (Decrease)
Direct materials $ 65.00 $ 0 $ 65.00
Direct labor 45.00 0 45.00
Material handling 6.50 0 6.50
Variable overhead 72.00* 0 72.00
Purchase price 0 200.00 (200.00)
Total unit cost $188.50 $200.00 $ (11.50)
*Variable overhead = 60% X ($126.50 6.50)
The unit should not be purchased from the outside vendor, as the per
unit cost would be $11.50 greater than if they made it.
(b) In order for Innova to make an accurate decision, they would have to
know the opportunity cost of manufacturing the other product. As
determined in (a), purchasing the product from outside would cost
$11,500 more (1,000 X $11.50). Innova would have to increase their
contribution margin by more than $11,500 through the manufacture of
the other product, before it would be economical for them to purchase
the IMC2 from the outside vendor.
(c) Qualitative factors to consider would be (1) quality of the component

(2) on-time delivery, and (3) reliability of the vendor.
EXERCISE 7-9
Net Income
Sell Process Further Increase
(Basic Kit) (Stage 2 Kit) (Decrease)
Sales per unit $30 ( )$35( ) $(5)
Costs per unit
Direct materials $14 ( ) $ 7 (1) $(7)
Direct labor 0 ( ) 9 (2) (9)
Total $14 ( ) $16 ( ) $(2)
Net income per unit $16 ( ) $19 ( ) $(3)
(1) The cost of materials decreases because Rachel can make two Stage
2 Kits from the materials for a basic kit.
(2) The total time to make the two kits is one hour at $18 per hour or
$9 per unit.
Rachel should carry the Stage 2 Kits. The incremental revenue, $5, exceeds
the incremental processing costs, $2. Thus, net income will increase by
processing the kits further.
EXERCISE 7-10
(a) Sales ($60,000 + $15,000 + $55,000) $ 130,000

Joint costs (100,000)
Net income $ 30,000
(b) Sales ($190,000 + $35,000 + $215,000) $ 440,000

Additional costs ($100,000 + $30,000 + $150,000) (280,000)
Net income $ 60,000
(c)
Product 10 Product 12 Product 14
(1)
Incremental revenue $ 130,000 $ 20,000 $ 160,000
Incremental costs (100,000) (30,000) (150,000)
Incremental profit (loss) $ 30,000 $(10,000) $ 10,000
(1)
Sales value after further processing Sales value @ split-off point
Products 10 and 14 should be processed further and product 12 should be

sold at the split-off point.
(d) Sales ($190,000 + $15,000 + $215,000) $ 420,000

Additional costs ($100,000 + $150,000) (250,000)
Net income $ 70,000
Net income is $10,000 ($70,000 $60,000) higher in (d) than in (b) because
product 12 is not processed further, thereby increasing overall profit $10,000.
EXERCISE 7-11
To determine whether each of the three joint products should be sold as is,
or processed further, we must determine the incremental profit or loss that
would be earned by each. The allocated joint costs are irrelevant to the
decision since these costs will not change whether or not the products are
sold as is or processed further.
Larco Marco Narco
Incremental revenue $100,000* $100,000 ** $395,000 ***
Incremental cost (110,000) (85,000 ) (250,000 )
Incremental profit (loss) $ (10,000) $ 15,000 $145,000
From this analysis we see that Marco and Narco should be processed further
because the incremental revenue exceeds the incremental costs, but Larco
should be sold as is.
*$300,000 $200,000 **$400,000 $300,000 ***$800,000 $405,000
EXERCISE 7-12
(a) The costs that are relevant in this decision are the incremental revenues
and the incremental costs associated with processing the material
past the split-off point. Any costs incurred up to the split-off point are
sunk costs, and therefore, irrelevant to this decision.
(b) Revenue after further processing:
Product D$60,000 (4,000 units X $15.00 per unit)
Product E$97,200 (6,000 units X $16.20 per unit)
Product F$45,200 (2,000 units X $22.60 per unit)
Revenue at split-off:
Product D$40,000 (4,000 units X $10.00 per unit)
Product E$69,600 (6,000 units X $11.60 per unit)
Product F$38,800 (2,000 units X $19.40 per unit)
D E F
Incremental revenue $20,000 $27,600 $ 6,400
Incremental cost (14,000) (20,000) (9,000)
Increase (decrease) in profit $ 6,000 $ 7,600 $(2,600)
Products D and E should be processed further.
(c) The decision would remain the same. It does not matter how the joint
costs are allocated because joint costs are irrelevant to this decision.
EXERCISE 7-13
(a) Cost $100,000

Accumulated depreciation (25,000*)
Book value 75,000
Sales proceeds 40,000
Loss on sale $ 35,000
*One years depreciation: ($100,000 $0) 4 years
(b)
Net Income
Scanner Scanner (Decrease)
Annual operating costs $315,000* $225,000** $ 90,000
New scanner cost 110,000 (110,000)
Old scanner salvage (40,000) 40,000
Total $315,000 $295,000 $ 20,000
*(3 years X $105,000)

**[3 years X ($105,000 $30,000)]
Yes. Benson Hospital should replace the old scanner because it will
result in a savings of $20,000 over the next four years.
(c) As shown in (a) above, replacing the old scanner will result in
reporting a loss of $35,000. Reluctance to report losses of this nature
is the usual reason for not recognizing that a poor decision was made
in the past. The remaining book value of the old scanner ($75,000) is
a sunk cost. It will be deducted in the future, if the scanner is retained,
or written off now if it is replaced. However, if it is replaced now, that
cost will be partially offset by the salvage value that Dyno is willing to
pay ($40,000).
EXERCISE 7-14
Net Income
Machine Machine (Decrease)
Operating costs $125,000 (1) ($100,000) (2) ($ 25,000
New machine cost 0 ( 25,000) ( (25,000)
Salvage value (old) 0 ( (6,000) ( 6,000
Total $125,000 ($119,000) ($ 6,000
(1) $25,000 X 5.
(2) $20,000 X 5.
The current machine should be replaced. The incremental analysis shows

that net income for the five-year period will be $6,000 higher by replacing the
current machine.
EXERCISE 7-15
Net Income
Increase
Continue Eliminate (Decrease)
Sales $100,000) $( 0) $(100,000)
Variable costs
Cost of goods sold ( 61,000) ( 0) (61,000)
Operating expenses (26,000) ( 0) (26,000)
Total variable (87,000) ( 0) (87,000)
Contribution margin (13,000) ( 0) (13,000)
Fixed costs
Cost of goods sold (15,000) (15,000) ( 0)
Operating expenses (24,000) (24,000) ( 0)
Total fixed (39,000) (39,000) ( 0)
Net income (loss) $(26,000) $(39,000) $ (13,000)
Judy is incorrect. The incremental analysis shows that net income will be
$13,000 less if the Huron Division is eliminated. This amount equals the
contribution margin that would be lost through discontinuing the division.
(Note: None of the fixed costs can be avoided.)
EXERCISE 7-16
(a) $30,000 + $70,000 $40,000 = $60,000
(b) Tingler Shocker Total

Sales $300,000 $500,000 $800,000
Variable expenses 150,000 200,000 350,000
Contribution margin 150,000 300,000 450,000
Fixed expenses 142,500* 267,500** 410,000
Net income $ 7,500 $ 32,500 $ 40,000
*$30,000 + [($300,000 $800,000) X $300,000]
**$80,000 + [($500,000 $800,000) X $300,000]
(c) As shown in the analysis above, Cawley should not eliminate the
Stunner product line. Elimination of the line would cause net income
to drop from $60,000 to $40,000. The reason for this decrease in net
income is that elimination of the product line would result in the loss
of $55,000 of contribution margin while saving only $35,000 of fixed
expenses.
EXERCISE 7-17
Calculation of contribution margin per unit:
C D E
Selling price per unit $95 $75 $115
Less: variable costs/unit 50 40 40
Contribution margin/unit $45 $35 $ 75
Fixed costs = $22 X (9,000 + 20,000) = $638,000
Company profit with Products C and D:
C D Total
Units sold 9,000 20,000
Sales revenue $855,000 $1,500,000 $2,355,000

Less: Variable costs 450,000 800,000 $1,250,000
Contribution margin $405,000 $ 700,000 1,105,000
Less: Fixed costs 638,000
Net income $ 467,000
Company profit with Products C and E:
C E Total
Units sold 9,900* 10,000
Sales revenue $940,500 $1,150,000 $2,090,500

Less: Variable costs 495,000 400,000 895,000
Contribution margin $445,500 $ 750,000 1,195,500
Less: Fixed costs 638,000
*Product C sales increase by 10%, (9,000 X 110%)
Yes they should introduce Product E since net profit would increase by
$90,500 ($557,500 $467,000).
EXERCISE 7-18
1. Irrelevant. Unavoidable costs will be incurred regardless of the

decision made.
2. Relevant.
3. Irrelevant. This is a sunk cost and all sunk costs are irrelevant.
4. Irrelevant. These are sunk costs.
5. Relevant.
6. Relevant.
7. Relevant.
8. Relevant.
9. Irrelevant. If there is no change in the direct materials charge regardless

of the decision made, the cost is irrelevant.
10. Relevant.
SOLUTIONS TO PROBLEMS
PROBLEM 7-1A
(a) Net Income

Revenues (10,000 X $27) $0 $270,000 $ 270,000
Selling and administrative
expenses 0 20,000 (2) ( (20,000)
Net income $0 $ 30,000 $ 30,000
(1) Variable costs = $3,600,000 $960,000 = $2,640,000;

$2,640,000 120,000 units = $22.00 per unit;
10,000 X $22.00 = $220,000.
(2) Variable costs = $405,000 $225,000 = $180,000;

$180,000 120,000 units = $1.50 per unit;
10,000 X ($1.50 + $0.50) = $20,000.
(b) Yes, the special order should be accepted because net income will
increase by $30,000.
(c) Unit selling price = $22.00 (variable manufacturing costs) + $2.00 variable
selling and administrative expenses + $4.00 net income = $28.
(d) Nonfinancial factors to be considered are: (1) possible effect on domestic

sales, (2) possible alternative uses of the unused plant capacity, and
(3) ability to meet customers schedule for delivery without increasing
costs.
PROBLEM 7-2A
(a) Net Income

Increase
Make CISCO Buy CISCO (Decrease)
Direct materials
(8,000 X $4.80) $38,400 $ 0 ($38,400)
Direct labor
(8,000 X $4.30) 34,400 0 ( 34,400)
Indirect labor
(8,000 X $.43) 3,440 0 ( 3,440)
Utilities (8,000 X $.40) 3,200 0 ( 3,200)
Depreciation 3,000 900 ( 2,100)
Property taxes 700 200 ( 500)
Insurance 1,500 600 ( 900)
Purchase price 0 80,000 ( (80,000)
Freight and inspection
(8,000 X $.35) 0 2,800 ( (2,800)
Receiving costs 0 1,300 ( (1,300)
(b) The company should continue to make CISCO because net income
would be $1,160 less if CISCO were purchased from the supplier.
(c) The decision would be different. Because of the opportunity cost of

$3,000, net income will be $1,840 higher if CISCO is purchased as
shown below:
Net Income
Increase
Make CISCO Buy CISCO (Decrease)
Total annual cost $84,640 $85,800 $(1,160)
Opportunity cost 3,000 0 (3,000)
Total cost $87,640 $85,800 $(1,840)
(d) Nonfinancial factors include: (1) the adverse effect on employees if

CISCO is purchased, (2) how long the supplier will be able to satisfy
the Shatner Manufacturing Companys quality control standards at the
quoted price per unit, and (3) whether the supplier will deliver the units
when they are needed by Shatner.
PROBLEM 7-3A
(a) (1) Table Cleaner Not Processed Further
Sales:
FloorShine (600,000 30) X $20 $400,000
Table Cleaner (300,000 25) X $18 216,000
Total revenue $616,000
Costs:
CDG 210,000
Additional costs of FloorShine 240,000
Total costs 450,000
Gross profit $166,000
(2) Table Cleaner Processed Further
Sales:
FloorShine $400,000
Table Stain Remover (300,000 25) X $14 168,000
Table Polish (300,000 25) X $14 168,000
Costs:
CDG 210,000
Additional costs of FloorShine 240,000
TCP 100,000
Total costs 550,000
(3) If the table cleaner is processed further overall company profits will
be $20,000 higher. Therefore, management made the wrong decision
by choosing to not process table cleaner further.
PROBLEM 7-3A (Continued)
(b) Dont Process Process Net Income

Table Cleaner Table Cleaner Increase
Further Further (Decrease)
Incremental revenue $216,000 $336,000 $120,000
Incremental costs 0 100,000 (100,000)
Totals $216,000 $236,000 $ 20,000
When trying to decide if the table cleaner should be processed further into
TSR and TP, only the relevant data need be considered. All of the costs that
occurred prior to the creation of the table cleaner are sunk costs and can
be ignored. The decision should be made by comparing the incremental
revenue from further processing to the incremental costs.
PROBLEM 7-4A
(a) Cost $120,000

Book value 96,000
Sales proceeds (25,000)
Loss on sale $ 71,000
*$120,000 5 years = $24,000
(b) (1) Retain Old Elevator

Revenues ($240,000 X 4 yrs.) $960,000
Less costs:
Variable costs ($35,000 X 4) $140,000
Fixed costs ($23,000 X 4) 92,000
Selling & administrative 116,000*
Depreciation 96,000 444,000
Net income $516,000
*($29,000 X 4)
(2) Replace Old Elevator

Revenues $960,000
Less costs:
Variable costs ($10,000 X 4) $ 40,000
Fixed costs ($8,500 X 4) 34,000
Selling and administrative 116,000
Operating income 610,000
Less: Loss on old elevator 71,000
Net income $539,000
(c) Net Income

Old Elevator Old Elevator (Decrease)
Variable operating costs $140,000 $ 40,000 $ 100,000
Fixed operating costs 92,000 34,000 58,000
New elevator cost 160,000 (160,000)
Salvage on old elevator . (25,000) 25,000
Totals $232,000 $209,000 $ 23,000
(d) MEMO
TO: Ron Richter
FROM: Student
SUBJECT: Relevant Data for Decision to Replace Old Elevator
When deciding whether or not to replace any old equipment, the analysis
should only include cost data relevant to the replacement decision. The
$71,000 loss that would be experienced if we replace the old elevator with
the newer model is related to a sunk cost, namely the cost of the old
elevator. Sunk costs are irrelevant in decision making.
The loss occurs when comparing the book value of the old elevator to the
cash proceeds that would be received. The book value of $96,000 would be
deducted as depreciation expense over the next four years if the elevator
were retained. If the elevator is replaced with the newer model, the book
value will be expensed in the current year, less the cash proceeds received
on disposal. Therefore, the $96,000 book value will be expensed under
either alternative, making it irrelevant.
PROBLEM 7-5A
(a) Division I Division II

Sales $250,000 $200,000
Variable costs
Cost of goods sold 150,000 172,800
Selling and administrative 30,000 42,000
Total variable expenses 180,000 214,800
Contribution margin ($ 70,000) $ (14,800)
(b) (1) Net Income

Increase
Division I Continue Eliminate (Decrease)
Contribution margin (above) $(70,000) $( 0) $(70,000)
Fixed costs
Cost of goods sold (50,000) (25,000) 25,000
Selling and administrative (45,000) (22,500) 22,500
Total fixed expenses (95,000) (47,500) 47,500
Income (loss) from operations $(25,000) $(47,500) $(22,500)
(2) Net Income

Increase
Division II Continue Eliminate (Decrease)
Contribution margin (above) $(14,800) $( 0) $14,800
Fixed costs
Cost of goods sold (19,200 ( 9,600) ( 9,600
Selling and administrative ( 18,000 ( 9,000) 9,000
Total fixed expenses ( 37,200 (18,600) 18,600
Income (loss) from operations $(52,000) $(18,600) $33,400
Division II should be eliminated as its negative contribution margin is

$14,800. Income from operations would increase $33,400 if Division II
is eliminated.
Division I should be continued because it is producing positive con-

tribution margin of $70,000. Income from operations will decrease
$22,500 by discontinuing this division.
(c) GUTIERREZ COMPANY

CVP Income Statement
For the Quarter Ended March 31, 2014
Divisions
I III IV Total
Sales $250,000 $500,000 $450,000 $1,200,000
Variable costs
Cost of goods sold 150,000 240,000 187,500 577,500
Selling and
administrative 30,000 30,000 30,000 90,000
Total variable
costs 180,000 270,000 217,500 667,500
Contribution margin 70,000 230,000 232,500 532,500
Fixed costs
Cost of goods sold (1) 53,200 63,200 65,700 182,100
Selling and
administrative (2) 48,000 33,000 23,000 104,000
Total fixed
costs 101,200 96,200 88,700 286,100
Income (loss) from
operations $(31,200) $133,800 $143,800 $ 246,400
(1) Divisions fixed cost of goods sold plus 1/3 of Division IIs
unavoidable fixed cost of goods sold [$192,000 X (100% 90%) X
50% = $9,600]. Each divisions share is $3,200.
(2) Divisions fixed selling and administrative expense plus 1/3 of

Division IIs unavoidable fixed selling and administrative expenses
[$60,000 X (100% 70%) X 50% = $9,000]. Each divisions share
is $3,000.
(d) Income from operations with Division II of $213,000 (given) plus

incremental income of $33,400 from eliminating Division II = $246,400
income from operations without Division II.
PROBLEM 7-1B
(a) Net Income

Revenues (10,000 X $30) $0 $300,000 $ 300,000
Selling and administrative
expenses 0 25,000 (2) ( (25,000)
Net income $0 $ 35,000 $ 35,000
(1) Variable costs = $3,060,000 $900,000 = $2,160,000;

$2,160,000 90,000 units = $24 per unit;
10,000 X $24 = $240,000.
(2) Variable costs = $360,000 $180,000 = $180,000;

$180,000 90,000 units = $2.00 per unit;
10,000 X ($2.00 + $0.50) = $25,000.
(b) Yes, the special order should be accepted because net income will be
increased by $35,000.
(c) Unit selling price = $24 (variable manufacturing costs) + $2.50 (variable
selling and administrative expenses) + $5.50 (net income) = $32.00.
(d) Nonquantitative factors to be considered are: (1) possible effect on

domestic sales, (2) possible alternative uses of the unused plant
capacity, and (3) ability to meet customers schedule for delivery without
increasing costs.
PROBLEM 7-2B
(a) Net Income

Increase
Make FIZBE Buy FIZBE (Decrease)
Direct materials (5,000 X $4.75) $23,750 $ 0 ($ 23,750
Direct labor (5,000 X $4.60) 23,000 0 ( 23,000
Indirect labor (5,000 X $.45) 2,250 0 ( 2,250
Utilities (5,000 X $.35) 1,750 0 ( 1,750
Depreciation 2,000 900 ( 1,100
Property taxes 700 200 ( 500
Insurance 1,500 600 ( 900
Purchase price 0 56,000 ( (56,000)
Freight and inspection (
(5,000 X $.30) 0 1,500 (1,500)
Receiving costs 0 500 (500)
(b) The company should continue to make FIZBE because net income
would be $4,750 less if FIZBE were purchased from the supplier.
(c) The decision would be different. Because of the opportunity cost of

$6,000, net income will be $1,250 higher if FIZBE is purchased as shown
below:
Net Income
Increase
Make FIZBE Buy FIZBE (Decrease)
Total annual cost $54,950 $59,700 $(4,750)
Total cost $60,950 $59,700 $ 1,250
(d) Nonfinancial factors include: (1) the adverse effect on employees

if FIZBE is purchased, (2) how long the supplier will be able to satisfy
the Gill Corporations quality control standards at the quoted price per
unit, and (3) will the supplier deliver the units when they are needed
by Gill?
PROBLEM 7-3B
(a) (1) General-Purpose Cleaner Not Processed Further
Sales
ShineBrite (750,000 25) X $15 $450,000
General-Purpose Cleaner (250,000 20) X $20 250,000
Costs
NPR 200,000
Additional costs for ShineBrite 300,000
Total costs 500,000
(2) General-Purpose is Processed Further
Sales
ShineBrite (750,000 25) X $15 $450,000
Premium Cleaner (250,000 20) X $16 200,000
Premium Stain Remover (250,000 20) X $16 200,000
Costs
NPR 200,000
Additional costs for ShineBrite 300,000
PST 140,000
Total costs 640,000
(3) If the general-purpose cleaner is processed further overall company

profits will be $10,000 higher. Therefore, management made the
wrong decision by choosing to not process the general-purpose
cleaner further.
PROBLEM 7-3B (Continued)
(b) Dont Process Process Net Income

G-P Cleaner G-P Cleaner Increase
Further Further (Decrease)
Incremental revenue $250,000 $400,000 $150,000
Incremental costs 0 140,000 (140,000)
Totals $250,000 $260,000 $ 10,000
When trying to decide if the general-purpose cleaner should be processed

further into PC and PSR, only the relevant data need be considered. All of
the costs that occurred prior to the creation of the general-purpose cleaner
are sunk costs and can be ignored. The decision should be made by com-
paring the incremental revenue from further processing to the incremental
costs.
PROBLEM 7-4B
(a) Cost $210,000

Book value 168,000
Sales proceeds (58,000)
Loss on sale $110,000
*$210,000 5 years = $42,000
(b) (1) Retain Old Equipment

Revenues ($360,000 X 4 yrs.) $1,440,000
Less costs:
Variable costs $200,000
Fixed costs 120,000
Selling & administrative 180,000
(2) Replace Old Equipment

Revenues $1,440,000
Less costs:
Variable costs $ 48,000
Fixed costs 20,000
Selling and administrative 180,000
Operating income 942,000
Less: Loss on old equipment 110,000
(c) Net Income

Retain Old Replace Old Increase
Equipment Equipment (Decrease)
Variable costs $200,000 $ 48,000 $152,000
Fixed costs 120,000 20,000 100,000
New equipment cost 250,000 (250,000)
Salvage on old equipment . (58,000) 58,000
Totals $320,000 $260,000 $ 60,000
(d) MEMO
TO: Gene Simmons
FROM: Student
SUBJECT: Relevant Data for Decision to Replace Old Equipment
When deciding whether or not to replace any old equipment, the analysis
should only include cost data relevant to the replacement decision. The
$110,000 loss that would be experienced if we replace the old equipment
with the newer equipment is related to a sunk cost, namely the cost of the
old equipment. Sunk costs are irrelevant in decision making.
The loss occurs when comparing the book value of the old equipment to
the cash proceeds that would be received. The book value of $168,000
would be deducted as depreciation expense over the next four years if the
equipment were retained. If the equipment is replaced with the newer model
the book value will be expensed in the current year, less the cash proceeds
received on disposal. Therefore, the $168,000 book value will be expensed
under either alternative, making it irrelevant.
PROBLEM 7-5B
(a) Division Division

III IV
Sales $310,000 $170,000
Variable expenses
Cost of goods sold 189,000 140,400
Selling and administrative 45,000 49,000
Total variable expenses 234,000 189,400
Contribution margin $ 76,000 ($ (19,400)
(b) (1) Net Income

Increase
Division III Continue Eliminate (Decrease)
Contribution margin (above) $ 76,000 $ 0 $(76,000)
Fixed expenses
Cost of goods sold 81,000 (40,500 40,500
Selling and administrative 30,000 15,000 15,000
Total fixed expenses 111,000 55,500 55,500
Income (loss) from operations ($(35,000) $(55,500) $(20,500)
(2) Net Income

Increase
Division IV Continue Eliminate (Decrease)
Contribution margin (above) $(19,400) $ 0 $19,400
Fixed expenses
Cost of goods sold (15,600) 7,800 7,800
Selling and administrative 21,000) 10,500 10,500
Total fixed expenses 36,600) 18,300 18,300
Income (loss) from operations $(56,000) $(18,300) $37,700
Division III should be continued as contribution margin ($76,000) is

greater than the savings in fixed costs ($55,500) that would result from
elimination. Therefore, income from operations would decrease $20,500 if
Division III is eliminated.
Division IV should be eliminated because it is producing negative con-
tribution margin ($19,400). Income from operations will increase $37,700
by discontinuing this division.
(c) PANDA COMPANY

CVP Income Statement
For the Quarter Ended March 31, 2014
Divisions
I II III Total
Sales $510,000 $400,000 $310,000 $1,220,000
Variable expenses
Cost of goods sold 210,000 200,000 189,000 599,000
Selling and
administrative 24,000 40,000 45,000 109,000
Total variable
expenses 234,000 240,000 234,000 708,000
Contribution margin 276,000 160,000 76,000 512,000
Fixed expenses
Cost of goods sold (1) 92,600 52,600 83,600 228,800
Selling and
administrative (2) 39,500 43,500 33,500 116,500
Total fixed
expenses 132,100 96,100 117,100 345,300
Income (loss) from operations $143,900 $ 63,900 $ (41,100) $ 166,700
(1) Divisions fixed cost of goods sold plus 1/3 of Division IVs unavoid-
able fixed cost of goods sold [$156,000 X (100% 90%) X 50% =
$7,800]. Each divisions share is $2,600.
(2) Divisions fixed selling and administrative expenses plus 1/3 of

Division IVs unavoidable fixed selling and administrative expenses
[$70,000 X (100% 70%) X 50% = $10,500]. Each divisions share
is $3,500.
(d) Income from operations with Division IV of $129,000 (given) plus incre-
mental income of $37,700 from eliminating Division IV = $166,700 income
from operations without Division IV.
BYP 7-1 DECISION-MAKING AT CURRENT DESIGNS
Situation #1
(a) Current Designs should accept the special order based on the following
calculations:
Net Income
Reject Order Accept Order Increase (Decrease)
Revenues $0 $25,000* $25,000
Costs 0 (19,000)** (19,000)
Net Income $0 $ 6,000 $ 6,000
*(100 X $250)
**(($80 + $60 + $20) X 100) + ($1,000 + $2,000)
(b) Assuming that Current Designs is currently operating with excess

capacity, it should accept the order based on the calculations shown
in part (a). If Current Designs is currently operating at full capacity, it
would have to weigh its options. If it displaced production of regular
kayaks in order to fill this order, it would have to consider the opportu-
nity costs associated with this decision. The opportunity cost, when
operating at full capacity, would be the lost contribution margin from
regular sales given up in order to fulfill the special order. Alternatively,
rather than reject the special order, it might consider temporarily expand-
ing the plants capacity by adding an additional production shift to
handle the special order. If this option were considered, it would have
to identify all additional incremental costs (for example, overtime pay)
that would be incurred.
BYP 7-1 (Continued)
Situation #2
(a) Current designs should not replace the Rotomold oven based on the
following calculations:
Net Income
Oven Oven (Decrease)
Variable manufacturing costs $110,500* $ 97,500** $ 13,000
New oven cost 0 250,000 (250,000)
Proceeds from scrapping old oven 0 (10,000) 10,000
Total $110,500 $337,500 ($ 227,000)
*(17,000 therms/year X $0.65/therm X 10 years)

**(15,000 therms/year X $0.65/therm X 10 years)
(b) Even with the cost of natural gas increasing at a faster than expected
rate, Current Designs still should not replace the Rotomold oven as the
rate increase does not cover the cost of the new oven based on the
following calculations:
Net Income
Oven Oven (Decrease)
Variable manufacturing costs $144,500* $127,500** $ 17,000
New oven cost 0 250,000 (250,000)
Proceeds from scrapping old oven 0 (10,000) 10,000
Total $144,500 $367,500 ($ 223,000)
*(17,000 therms/year X $0.85/therm X 10 years)

**(15,000 therms/year X $0.85/therm X 10 years)
BYP 7-1 (Continued)
Situation #3
(a) Current Designs should make the seats based on the following calcu-
lations:
Net Income
Increase
Make Buy (Decrease)
Direct materials $ 60,000 $ 0 $ 60,000
Direct labor 45,000 0 45,000
Variable manufacturing costs 36,000 0 36,000
Fixed manufacturing costs 20,000 15,000 5,000
Purchase price ($50 X 3,000) 0 150,000 (150,000)
Total annual cost $161,000 $165,000 ($ 4,000)
(b) When the opportunity cost of $20,000 is considered, Current Designs

should buy the seats based on the following calculations:
Net Income
Increase
Make Buy (Decrease)
Total annual cost $161,000 $165,000 ($ 4,000)
Total cost $181,000 $165,000 $16,000
BYP 7-2 DECISION-MAKING ACROSS THE ORGANIZATION
Net Income
Retain Purchase Increase
Old Machine New Machine (Decrease)
Sales $6,000,000 (1) $6,600,000 (2) ($ 600,000
Costs and expenses
Cost of goods sold 4,500,000 (3) 4,620,000 (4) ( (120,000)
Selling expenses 900,000 990,000 ( (90,000)
Administrative expenses 500,000 565,000 ( (65,000)
Purchase price 150,000 (5) ( (150,000)
Total costs and expenses 5,900,000 6,325,000 ( (425,000)
Net income $ 100,000 $ 275,000 ($ 175,000
(1) 12,000 X $100 X 5 years = $6,000,000.

(2) $6,000,000 X 110% = $6,600,000.
(3) $6,000,000 X (100% 25%) = $4,500,000.
(4) $6,600,000 X (100% 30%) = $4,620,000.
(5) $140,000 + $4,000 + $6,000 = $150,000.
The new machine should be purchased. The incremental analysis shows

that net income will increase from $100,000 to $275,000 over the five years
with the new machine.
BYP 7-3 MANAGERIAL ANALYSIS
(a) Buy Buy

Make Trans- Omega
Tech
Sales Revenue $ 14.50 $ 14.50 $ 14.50
Variable Manufacturing Cost:
Circuit Board 2.00 0 0
Plastic Case 0.80 0 0
Alarms (4 @ $.15 each) 0.60 0 0
Labor 3.00 0 0
Overhead 0.50 0 0
Purchase Cost 0 10.00 5.00
Fixed Manufacturing Cost: 1.00* 1.00
Total Manufacturing Cost 6.90 11.00 6.00
Profit per Unit $ 7.60 $ 3.50 $ 8.50
Total Profit $38,000 $17,500 $42,500
*The $5,000 cost that will continue to be incurred, even if the product is
not manufactured, divided by the 5,000 units.
The company will make the most profit if the clocks are purchased
from Omega Company. The company will make $4,500 less if the clocks
are manufactured by MiniTek. The company will make $25,000 less if
the clocks are purchased from Trans-Tech.
(b) There are several important nonfinancial factors described in the case.
Other factors might be identified as well. The factors described are:
The company is having serious difficulty manufacturing the clocks.
Therefore, it would probably be willing to have someone else manu-
facture the clocks, even if it cost more to do so. The most promising
company appears to be Omega; however, there is a serious question
about Omegas ability to remain in business. However, the company
could purchase just this one order from Omega, and then continue to
search for another manufacturer, or stop manufacturing the clocks.
Trans-Techs stringent requirements for preferred customer status, in
the form of large sales requirements, appear to limit the possibilities
for MiniTek to use it as a supplier. However, if MiniTek does desire to
continue to offer the clocks because of their popularity, then perhaps
Trans-Tech could be used in the future.
BYP 7-3 (Continued)
(c) Many answers are possible, depending upon each students assessment
of the seriousness of the issues mentioned in (b). One answer would
be: The company should use Omega to manufacture the Kmart order.
After that, the company should not offer the clocks any longer. Espe-
cially since the clocks are no longer very profitable, it does not seem
like a good idea to keep spending money to modify the process.
BYP 7-4 REAL-WORLD FOCUS
(a) Before building the special-order new ceiling fans, company manage-
ment must consider the effect of the new lines on current production
capacity, existing and available channels of distribution, the effect on
manufacturing efficiency, the effect on sales of current lines of product,
and the supply of materials and labor.
(b) Incremental analysis would provide a financial comparison of income

with the special-order ceiling fans to income without the special orders.
BYP 7-5 REAL-WORLD FOCUS
(a) The types of outsourcing services that the company provides assis-
tance on are:
Information technology outsourcing, finance and accounting, human re-

source outsourcing, business process outsourcing, procurement, and
call centers.
(b) Insourcing means to take work that is currently being performed by an

outside service provider back in-house. For example, collections of
accounts receivable might currently be performed by a collection
agency, and you might decide to establish a collection group within
your company.
(c) Some of the benefits of insourcing include:

Greater control over resources
Greater ability to control intellectual property
Increased visibility of accountability within the organization
BYP 7-6 COMMUNICATION ACTIVITY
To: Preston ThiesePlant Manager
From: Hank JewelProduction Manager
I have spent considerable time thinking about the dilemma created by the
new PDD1130 machine. Clearly, it is far superior to our existing machine.
There is no question that it would save us tremendous amounts of money.
I hope I am not overstepping my bounds here, but I just reviewed a chapter
in my managerial accounting text on incremental analysis which has made
me think we need to reconsider this decision.
The key to incremental analysis is identifying relevant costs. Relevant

costs are those costs that vary depending on the course of action taken. In
our situation, a relevant cost would be the savings that we would
experience were we to purchase the new machine. The book value of the
existing machine is not a relevant cost since it would not be changed by
purchasing or not purchasing the new machine. Costs incurred in the past
that do not change are referred to as sunk costs. Sunk costs are irrelevant
to incremental analysis.
I would really like to lay out an analysis of our options to decide the proper
course of action. I am concerned that by using the old machine for a couple
of years the profitability of the plant could be impacted negatively.
BYP 7-7 ETHICS CASE
(a) Many factors need to be considered when determining whether to

close a division. The loss of jobs can have a devastating impact on a
community and on the morale of remaining employees. From a
financial perspective, closing a division that is reporting losses will not
necessarily increase the reported net income of the company. The
reason: if fixed costs that have been allocated to a division that is
closed are reallocated to the remaining divisions, the companys net
income might actually decrease. This sounds like it would most likely
be the case at Peters.
(b) It is not unusual to reevaluate fixed cost allocations periodically. However,

the allocation should be based on the underlying economics of the
situation rather than the motives of individuals.
(c) Blake should explain to the board of directors that the change in
income is due to a reallocation and that closing the plumbing division
is not advisable. In this case, being honest is not only the ethical thing
to do, but it will also maximize the companys net income.
BYP 7-8 ALL ABOUT YOU
(a) Chronic homelessness is defined as being on the streets for a year

or more.
(b) Homelessness costs cities money because the chronic homeless have
frequent jail time, shelter costs, emergency room visits and hospital stays.
Some costs per city per homeless person are: New York $40,000; Dallas
$50,000; San Diego $150,000.
(c) The first step is to try to identify the size of the problem by doing street
counts. From this count, benchmarks can be set, enabling a reward
system for meeting goals. Next is to identify what the homeless people
want. What do they think they need to help them address their problem?
They typically want adequate housing with some privacy.
(d) It has been estimated that in New York this approach costs about $22,000
per year. New York has documented an 88% success rate (defined as
not returning to the streets for five years).
(e) In terms of incremental analysis, two alternatives are to either continue

with the current situation, with the costs presented in part (b) or to imple-
ment the approach outlined in part (d). From a purely financial perspective
the approach in (d) appears to have significant merit. Also (d) does not
even take into account the intangible benefits of improving the quality
of life for this segment of the population.
BYP 7-9 CONSIDERING YOUR COSTS AND BENEFITS
Discussion guide: This is a very difficult decision. All of the evidence

suggests that your short-term and long-term prospects will be far greater
with some form of posthigh-school degree. Because of this, we feel strongly
that you should make every effort to continue your education. Many of the
discussions provided in this text present ideas on how to get control of
your individual financial situation. We would encourage you to use these
tools to identify ways to reduce your financial burden in order to continue
your education. We also want to repeat that even taking only one course a
semester is better than dropping out. Your instructors and advisors fre-
quently provide advice to students who are faced with the decision about
whether to continue with their education. If you are in this situation, we would
encourage you to seek their advice since the implications of this decision
can be long-lasting.

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CHAPTER 7

ASSIGNMENT CLASSIFICATION TABLE

1. Identify the steps in 1, 2 1 1

2. Describe the concept 3, 4 2 1, 17

3. Identify the relevant 5 3 1 2, 3, 4, 18 1A 1B

4. Identify the relevant 6, 7 4 2 5, 6, 7, 2A 2B

5. Identify the relevant costs 8, 9, 10 5, 6 3 9, 10, 11, 3A 3B

6. Identify the relevant costs 11 7 13, 14, 18 4A 4B

7. Identify the relevant costs 12 8 4 15, 16, 5A 5B

Problem Difficulty Time

2A Use incremental analysis related to make or buy, Moderate 3040

3A Determine if product should be sold or processed further. Moderate 3040

4A Compute gain or loss, and determine if equipment should Moderate 3040

5A Prepare incremental analysis concerning elimination of Moderate 3040

2B Use incremental analysis related to make or buy, Moderate 3040

3B Determine if product should be sold or processed further. Moderate 3040

4B Compute gain or loss, and determine if equipment should Moderate 3040

5B Prepare incremental analysis concerning elimination of Moderate 2030

Learning Objective Knowledge Comprehension Application Analysis Synthesis Evaluation

*1. Identify the steps in managements BE7-1 Q7-1 E7-1

*2. Describe the concept of Q7-3 E7-1 BE7-2 E7-17

Copyright 2012 John Wiley & Sons, Inc.

*3. Identify the relevant costs in Q7-5 BE7-3 E7-2 E7-18

*4. Identify the relevant costs in a Q7-6 BE7-4 E7-5 E7-18

*5. Identify the relevant costs in Q7-8 BE7-5 E7-9 E7-18

*6. Identify the relevant costs to be Q7-11 BE7-7 E7-13 P7-4A

*7. Identify the relevant costs in Q7-12 BE7-8 E7-15 E7-18

Weygandt, Managerial Accounting, 6/e, Solutions Manual

Broadening Your Perspective BYP7-1 BYP7-2 BYP7-8 BYP7-3

(For Instructor Use Only)

1. The following steps are frequently involved in managements decision-making process:

2. My roommate is incorrect. Accounting contributes to the decision-making process at Steps 2 and 4.

BRIEF EXERCISE 7-1

The correct order is:

1. Identify the problem and assign responsibility.

BRIEF EXERCISE 7-2

Alternative A is better than Alternative B.

BRIEF EXERCISE 7-3

The special order should be accepted.

The decision should be to make the part.

BRIEF EXERCISE 7-5

Process Net Income

The bookcases should be processed further because the incremental

BRIEF EXERCISE 7-6

BRIEF EXERCISE 7-8

SOLUTIONS FOR DO IT! REVIEW EXERCISES

Process Net Income

(a) Net Income

(a) Net Income

(1) Variable cost of goods sold = $2,600,000 X 70% = $1,820,000.

(2) Variable operating expenses = $840,000 X 75% = $630,000

(b) As shown in the incremental analysis, Leno Company should accept

(a) Net Income

(a) Net Income

(a) Net Income

*Variable overhead = 60% X ($126.50 6.50)

(c) Qualitative factors to consider would be (1) quality of the component

Net income per unit $16 ( ) $19 ( ) $(3)

(a) Sales ($60,000 + $15,000 + $55,000) $ 130,000

(b) Sales ($190,000 + $35,000 + $215,000) $ 440,000

Products 10 and 14 should be processed further and product 12 should be

(d) Sales ($190,000 + $15,000 + $215,000) $ 420,000

(a) Cost $100,000