INTRODUCTION TO STRATEGIC COST MGT

(SCM)
Introduction:
 The growing pressures of global competition, trade wars among
countries, technological innovation and changes in business
processes have made mgt more important. critical and dynamic than
ever before.
 Business managers must think and act competitively and doing so
requires STRATEGY.
 SCM is a program established by businesses in order to regularly
identify and analyze cost drivers to lower cost and maximize total
value.
 By implementing SCM. businesses cannot only lower costs but also
create a competitive advantage.

STRATEGY
 It refers to set of policies, procedures and approaches to business
that produce long-term success.
 Set of goals & specific action plans that if achieved provide the
desired competitive advantage.
 Business managers must think and act competitivel and doing so
requires "STRATEGY"
 Increases efficiency, control cost and reduce risks.

MANAGEMENT
 Refers to the process of achieving organizational objectives:
 Involves planning, organizing, leading and controlling

Functions of Management
Planning - Determining proper courses of action and strategizing tactics
to enforce in order to achieve the goals set.
Organizing - Coordinating activities and resources and delegation of
responsibilities.
Leading (Directing) - Managing and guiding people along with proper
motivation and direction.
Controlling - Managing and evaluating activities to ensure they answer
the goals being set
COSTS
 It refers to the value of money that has been used to produce
something.
COST MANAGEMENT
 It refers to the practice in accounting in which the Accountant
develops and uses cost management information.
 It adds value by helping a firm be more competitive.
COST MANAGEMENT INFORMATION
 It refers to information that manager needs to effectively manage
the firm, profit-oriented as well as non-profit organization.
 Includes both financial information about cost and revenues as well
as relevant non-financial information about productivity, quality,
customer loyalty and other key success factors for the firm.
 Adds value to helping a firm be more competitive.
ELEMENTS OF COMPETITIVE ADVANTAGE
COST LEADERSHIP - Managing costs through cost reduction so that
an entity can sell products with the lowest price in the market.
STRATEGY:
LOWER COSTS > LOWER PRICES > HIGHER REVENUE
Since manv will buv due to cheap prices.
PRODUCT DIFFERENTIATION - Managing costs through
supporting the strategy of an entity to become the provider of unique
products in the market.
STRATEGY:
NOT-SO LOWER BUT REGULATED COSTS » UNIOUE
PRODUCTS≤ HIGHER PRICES
But still HIGHER REVENUE since many will buy your product
due to UNIOUENESS
STRATEGIC COST MANAGEMENT
 It refers to the application of cost management techniques which
aim to reduce costs while strengthening the strategic position of a
business
 By implementing SCM, businesses cannot only lower costs but
also create their competitive advantage; and
 Application of this, include also creating a strategic plan setting
priorities in operations and ensuring its limited resources are used
appropriately.
STRATEGIC COST MANAGEMENT EQUALS PROFIT
 SCM is an in depth solution that brings transparency to your costs:
 Once SCM is in place, organization executives and managers can
make timely and effective cost management decisions; and
 SCM also show you who your most profitable and costly customers
are and why they are profitable or costly.
Strategic Cost Management
 Management must make sound strategic decisions regarding the
choice of products, manufacturing methods, marketing techniques
and channels and other long-term issues;
 Combines skills from all business function, namely, marketing,
production, finance and accounting/controllership.
Planning & Decision-making
 Cost management information is needed to support recurring
decision such as replacing and maintaining equipment, managing of
 cash flows, budgeting of raw materials purchases, scheduling of
production, pricing and managing distribution of products to
customers.
 Planning and decision-making involves budgeting and profit
planning, cash flow management and other decision related to the
firm's operation such as deciding whether to lease or buy a facility,
whether to replace or just repair an equipment, when to change a
marketing plan or when to begin new product development.
Management & Operational Control
 Operational Control takes place when mid-level manages (e.g
product managers, regional managers) monitors the activities of
operating-level managers and employers.
 Management Control is the evaluation of mid-level managers by
upper -level manager.
Reportorial & Compliance to Legal Requirements
 Require management to comply with financial reporting
requirements to regulatory agencies such as SEC, BIR and other
relevant government authorities and agencies.
 Financial statement information are important part of planning and
decision-making, control and strategic management.
RELATIONSHIP OF MANAGEMENT ACCTG W/ FINANCIAL
& COST ACCTG
FINANCIAL ACCOUNTING
 Develops information for external decision-makers such as stockholders,
suppliers, banks and government regulatory agencies;
 Primary financial accounting reports are : balance sheet, income statement
and cash flows
COST ACCOUNTING
 A systematic set of procedures for recording and reporting measurements of
the cost of manufacturing goods and performing services in the aggregate and
in detail. It includes methods for recognizing, classifying, allocating,
aggregating and reporting such costs and comparing them with standard
costs.
 Creates an overlap between financial accounting & management accounting;
and
 It integrates with financial acct by providing product costing information for
financial statements and with management acct by providing some of the
quantitative, cost-based information managers need to perform their
functions.
COST MANAGEMENT
 Cost management needs the output of cost accounting. Its purpose is to
provide managers with information which aids decision.
 Managers use cost management information to choose strategy, to
communicate it and to determine how best to implement it.
Illustration: ABC Company
Statement of Comprehensive Income Management Accounting
For the period ended Dec. 31, 2020 and 2021

Illustration:
Financial Accounting

HOWEVER, management accountants should be able to provide both quantitative

and qualitative information that will help managers in decision
making. It is not limited only to pure accounting information, but decisions can
also be made from a variety of sources such as finance, marketing, research,
economics, and management science.
Financial Accounting - Standardized financial reporting through GAAP
Management Accounting - Specialized reporting for managerial decision making
making. It is a system that captures data from operations within the
firm and organizes them into information relevant to managerial
decision making. It also provides a way for managers to generate
information they needed.
 The design of a management accounting system should fit within
the operations of the entity and conform with the characteristics of
the firm (legal nature, organizational structure, and organizational
culture and specific processes).

USERS OF COST MANAGEMENT INFORMATION

 Useful in organizations: business firms, governmental units and
nonprofit organizations;
 Business firms usually industries ---merchandising, manufacturing
and servicing;
 Governmental & non-profit organizations provide services much
like firms in service industries known as public goods.

CHARACTERISTICS OF MANAGEMENT INFORMATION

1. Accuracy and Verifiability
2. Completeness
3. Relevance
4. Timeliness

TRADITIONAL ACCOUNTANT TO FINANCIAL MANAGER

 GOOD FINANCIAL MANAGER CONTRIBUTES TO BETTER
PRODUCTS/SERVICES, HIGHER SALARIES AND GREATER
RETURN FOR INVESTORS (GREAT VALUE)
 CONTRIBUTES TO THE SUCCESS OF THE ENTITY.
 GOOD IN MGT FUNCTIONS AND USE ACCT INFO FOR
DECISION-MAKING

Management Information System

 A system that provides past, present, and projected information that MGT ACCOUNTANTS ROLE IN SCM
is timely and relevant to be able to be used as a tool for decision Management Accountants Role in SCM
 Cost Management - is the practice of accounting in which the
accountants develops and uses cost management information as
performed by management accountant.
 Management Accountants are the accounting professionals who
develop and analyze cost management information and other
accounting information. They are concerned with providing
information to managers, that is, people inside an organization who
direct and control the operations. They provide variety of reports
focus on how well managers and business units have performed
while other reports provide timely and adequate updates.
MANAGEMENT ACCOUNTING
 Focuses on the information needs of an organization's internal
managers that are related to their planning, controlling and
decision-making functions;
 It is the process of identifying, measuring, accumulating, preparing,
interpreting and communicating information that helps managers
fulfill organizational objectives
 Involves the application of appropriate techniques and concepts to
economic data so as to assist management in establishing plans for
reasonable economic objectives and in making of rational decisions
with a view toward achieving objectives.
 It is the process of identification, measurement, accumulation,
analysis, preparation, interpretation and communication of financial
information, which is used management to plan, evaluate and
control activities within the organization.
 Comprises the preparation of financial reports for non-government
groups such as shareholders, creditors, regulatory agencies and tax
authorities.
MANAGEMENT ACCOUNTANT SHOULD DO ALL EFFORTS
POSSIBLE OR MUST STRIVE HARDER TO RECOGNIZE:
 what are the information needed by the managers;
 why these information are needed;
 how these information be presented in the best feasible form that
will enhance the understand ability character of these reports to the
users and;
 how information be given to the user in the earliest time possible to
be more useful to decision-making
Corporate Perspective Social Responsibility
 CSR is a concept where business organizations consider the needs
of all stakeholders when making decisions.
 They are responsible not only for creating strategies that produce
financial results that satisfy stakeholders but also to serve other
stakeholders such as customers, suppliers, communities and
environmental and human rights advocate
-- Who interest are tied to the company's performance.
OBJECTIVES OF MANAGEMENT ACCOUNTING:
 providing managers with information for decision-making and
planning;
 assisting managers in directing and controlling operations;
 motivating managers toward achieving organization's goals; and
 measuring performance of managers and sub-units within the
organization.
Task of Management Accountant
 Scorekeeping or data accumulation which enables both internal
and external parties to evaluate organizational performance and
position.
 Interpreting and reporting of information that helps manager to
focus on operating problems, opportunities as well as inefficiencies.
 Problem-solving or quantification of the relative merits of
possible courses of action as well as recommendations as to the best
procedure.
 Management accountant provides a system which allows
management in performing its administrative functions:
 • Planning
• Controlling
Planning
 Key activity for all companies which involves identifying
alternatives and selecting a course of action and specifying how
the action will be implemented to further the organization's
objectives.
 The plan communicates a company's goals to employees and
specifies the resources needed to achieve them. Often expressed
in "budgets”. Cash budgets, capital budgets and projected
statements of financial position are examples of contributions
which accounting can make resource planning while break-even
analysis, projected income statements are examples of useful tools
in profit planning.
Control
 Achieved by evaluating the performance of managers and the
operations for which they are responsible;
 Managers are evaluated to determine how their performance should
be rewarded or punished, which in turn motivates them to perform
at a high level.
 Cost variance analysis, financial statement analysis, gross profit
variance analysis are some of the accounting control reports used to
inform managers when activities which are part of their
responsibility are deviating from the plan.
Decision-making
 An integral part of planning and control process;
 Decisions are made to reward or reprimand managers, and decisions
are made to change operations or revise plans.
• Should a firm add a new product?
• Should it drop an existing product?
• Should it manufactures a component used in assembling its
major product or contract with another company to produce the
component?
• What price should a firm charge for a new product?
 These questions determine future profitability and survival of the
company.
Basic Management Perspectives
 A strategic management perspective
 An enterprise risk management perspective
 A corporate social responsibility perspective
 A process management perspective
 A leadership perspective
 An ethical perspective
BUSINESS RISKS FACED BY COMPANIES
Examples of Business Risks
 A website malfunctioning
 A supplier strike halting the flow of raw materials
 Poor weather conditions shutting down operations.
 Controls
 Thoroughly test website before going "live" on the Internet
 Establish a relationship with two companies capable of
providing needed raw materials.
 Develop contingency plans overcoming weather-related
disruptions
of recommendations set forth by other individuals and groups.
Ethical Perspectives
 Ethics refers to collection of values and behaviors which people feel
are moral or standard of conduct and values for job performance:

CSR : To Suppliers
 Hassle-free acceptance of timely and complete deliveries;
 Fair contract terms and prompt payments;
 Reasonable time to prepare orders; and
 Cooperative rather than unilateral actions.

a. Internal Motivation
 It refers to motivation that comes from within one's self.
 A leader who is perceived by employees as credible and respectful
of their value to the company can increase the extent to which those
employees are intrinsically motivated to pursue strategic goals.
 To be perceived as credible and respectful leader, he/she must
possess the ff attributes:
• technical competence (spanning the value chain)
• personal integrity (work ethics and honesty)

b. External Incentives
 Such as bonus compensation, are given by many organizations to
highlight important goals and to motivate employees to achieve
them

c. Cognitive bias
 Leaders should acknowledge their susceptibility to cognitive bias
(e.g being overly optimistic in assessing future outcome or
overestimating ones strengths and underestimating ones weaknesses
relative to others.
 Appoint an independent team of employees to assess the credibility

Organization Structure and the Management Accountant
 Line authority is the authority to command action or give orders to
subordinates. Line managers are directly responsible for attaining
the objectives of the business firm efficiently as possible.
 Staff authority is the authority to advise but not command others;
it is exercised laterally or upward. Staff managers give support,
advice and service to line departments. Staff authority are found in
personnel, purchasing, engineering and accounting.
 Functional authority which is the right to command action,
laterally or downward, with regard to a specific function or
specialty.
Chief Financial Officer
 In charge of all the organization's finance and accounting functions
and typically reports to the chief executive officer. Also called the
finance director, responsible for overseeing the financial operations
of an organization. The responsibilities are as ff:
 Controllership - includes providing financial reports to
managers and reports to shareholders and overseeing the
overall operations of the accounting system.
 Treasury - includes banking and short/long-term financing
investments and management of cash.
 Risk management - includes managing the financial risk
of interest rate and exchange rate changes and derivatives
management.
 Taxation - includes income taxes, sales taxes and
international tax planning.
 Internal Audit - includes reviewing and analyzing
financial and other records to attest to integrity of the
organization's financial reports and adherence to its
policies and procedures.
Controller
 Also called the chief accounting officer head accountant, is the
financial executive primarily responsible for management of
accounting and financial accounting.
 Provides reports for planning and evaluating company activities (e.g
budgets and performance reports) and provides the information
needed to make management decisions.
 In charge of accounting department. They supervise other
accountants and oversee the preparation of financial reports. It
exercises a line function. They are the one responsible for ensuring
that all accounting allocations are appropriately made and
documented. It exercises a line function.
DUTIES OF CONTROLLER
 Planning, controlling, designing, installing and maintaining the cost
accounting;
 predicting future costs;
 coordinating the development of the budget
 accumulating and analyzing costs
 preparing and analyzing performance reports;
 internal auditing economic appraisal
 consulting with management as to cost information preparing
reports tax administration
Controllership
 Is the practice of the established science of control which is the
process by which management assures itself that the resources are
procured and utilized according to plans in order to achieve the
company's objectives.
Basic Functions of Controllership
1. Planning
 Establish and maintain an integrated plan of operation
consistent with the company's goals and objectives, both for
short or long term, analyzed and revised , as required,
 communicated to all levels of management with appropriate
systems and procedures installed.
2. Control
 Develop and revise standards against which to measure
performance and provide guidance and assistance to other
members of management in insuring conformance of actual
results to standards.
Basic Qualifications of a Controller
1. An excellent technical foundation in accounting and finance with an
understanding and thorough knowledge of accounting principles.
2. An understanding of the principles of planning, organizing and
control. The ability to motivate others to achieve positive actions and
results.
3. A general understanding of the industry in which the company
competes and the social, economic and political forces involved.
4. The ability to communicate with all levels of the management and a
basic understanding of the other functional problems related to
engineering, production, procurement, industrial relations and
marketing.
Treasurership
 Is concerned with the acquisition, financing and management of
assets of business concern to maximize the wealth of the firms for
its owners.
Treasurer
 Oversees the finance department.
 Is concerned with the acquisition, financing and management of
assets of business concern to maximize the wealth of the firms for
its owners.
 Serves as the protector of a company's value and finances from
financial risk that arises from business activities. He manages the
company's cash flows and ensure that the company meets the
financial goals expressed in the budget.
 The treasurer has a watchdog role over all aspects of financial
management, working closely with other members of the
Management Committee to safeguard the organization's finances. It
exercises a staff function.
• Staff function provides support to the organization. They
support the company by providing vital information to the
management's decision-making process.
Responsibility of Treasurer
 Interact with shareholders, bankers, current and potential investors
(Investor Relations)
 Obtain loans and other forms of credit from outside sources (Capital
Provision)
 Manage cash flow of the business
 Oversee the extension of credits to customers (Credits and
Collection)
 Analyze investment prospects to maximize use of company's
unused cash and assets (Investment)
 Use various hedging strategies in order to reduce risk related to
changes in the value of company assets, and interest rates, etc.
 Keep the bankers of the company updated to the company's
financial condition and projections as well as its possible needing of
borrowed funds.
COST MGT CONCEPTS & TOOLS FOR DECISION - MAKING
What is Cost?
The American Accounting Association Committee define cost as:
 Cost as "foregoing measured in monetary terms, incurred or potentially
to be incurred to achieve a specific objective".
Costs
 The amount of money needed to buy, do or make something;
 In Business cost is the the monetary evaluation of:
1. Resource
 2. Material/ Utilities consumed
3. Time/ Delivery of goods Basic Steps in Decision-making Process
Distinction between Cost vs Expense Define the problem
Cost  Problem can be solved only if the decision to be made is clear to decision-
 Represents the amount invested in obtaining a product or service which maker.
has not yet expired, or benefits or services of which have not. yet been  For each problem there is a relevant information w/c changes and what to
received or which have not yet been utilized or consumed in the decide
realization of a revenue. Prepaid expense, inventories, PPE represents an • Example:
example of costs.  In a problem to accept or reject certain special order, the decision is
Expense make clear, it is either to accept or reject.
 Refers to that cost which has expired or which has been charged against
revenue of a period. Examples: COGS, salaries expense etc. Obtain Information
 Obtain information that is relevant in the decision analysis
Uses of Cost Data
 Planning profits by means of budgets; Specify the decision criterion
 Controlling costs via responsibility accounting system  Once the decision&° beneath and charger upon which the decision shall be
 Assist in establishing selling prices made.
 Furnishing relevant cost data for analytical process for decision- making. • Example: In the problem to accept or reject, the criterion is to be set is
PROFIT. For as long as the activity could give profit, most likely the
Decision-making process decision-maker would accept the offer.
 It refers to the process of studying and evaluating two or more available
alternatives leading to a final choice. Identify Alternatives
 You make decisions about different situations;  Decisions are made because of available alternatives otherwise, no decision
 Management accountant is tasked to provide relevant information to has to be made.
managers who make decisions  Selecting the most acceptable alternative will be dependent on both
 Not automatic; quantitative and qualitative aspects.
 Involved planning for the future. Understanding the logic behind (analytical)
Develop a decision model
Basics of Decision - making  A decision model is a simplified representation of the choice problems.
 Information is essential to arrive at a decision;  Unnecessary details are tripped away and the most important elements of the
 Information is gathered from internal and external sources (competitors, problem will be highlighted, thus reflecting only the relevant information.
suppliers). The more information you gather the better.
 Combination of past data and current data then forecast; quantitative and Make Decisions
qualitative data.  As we are able to identify different relevant information, decisions criterion
 and alternatives, the decision
- maker will compare alternatives by looking at its advantages and INDIFFERENCE POINT
disadvantages;  The point wherein the cost of alternatives are the same.
 Select the most acceptable alternative.  Under these conditions, the decision maker will heavily relv on qualitative
information to determine the best alternative.
Evaluate Performance • Example: if you make or buy you incur the same cost, so you will
 Did I attain the objectives, did i satisfy my customers: consider the qualitative analysis

GENERAL RULE
QUANTITATIVE APPROACH
Classification of Cost
 Deals with analyzing factors that are measurable in terms of peso impact Functional Classification
on profits;
 The basic rule is choose the alternative that will increase profits.
• Any peso effect on CM will have a peso effect on the income.
 Deal with short-term costs

QUALITATIVE APPROACH
 Deals with analyzing non-financial factors that will indirectly affect
profitability. Non-manufacturing Cost
 Choose the alternative that will possibly increase company profitability
in the long-run.

Approaches in Analyzing Alternatives

TOTAL APPROACH
 Analyzes information by preparing complete set of financial reports for
each alternative
 Reports include all revenues and expenses whether relevant or not
 This approach is not advisable because it tends to become misleading
because of the inclusion or irrelevant costs
DIFFERENTIAL ANALYSIS
 Analyzes only information that changes between alternatives;
 Cost that will remain the same are excluded.
 This method is preferred over the Total
Approach because it is simple and easy to analyze
Distinctive difference in Mfg goods vs services
 A service is consumed as it is produced whereas a manufactured
product can be stored in inventory.
 Manufacturing firm could have both manufacturing costs and
operating costs, while a service firm will have operating costs only.
Cost classified as to Timing of charges to Revenue in accounting
period
  Cost that changes in proportion to how much a company produces
and sells. Usually direct expenses
 Tend to vary directly with the output
 As volume increases total cost increases (direct proportion)
Examples: McDonald has many variable cost. One would be the
cost of hamburger patties. As more hamburgers are sold, more patties
are used. So the cost of hamburger patties goes up.

Cost classified as to Traceability
FIXED COST
 Costs that remains unchanged/constant when volume changes
 If activity increases, fixed remains the same.
 As volume changes, fixed cost do not
• Example: McDonald pays the salary of a manager, so he pays
the salary on a fixed amount regardless of how many hamburgers
they sell.
• Example: rent and lease costs, utility bills, insurance and loan
repayments

Classified as to Behavior
VARIABLE COST
 Total Cost changes in proportion to changes in volume Classified as to Controllability
FIXED COST CONTROLLABLE COSTS
 Total Cost stays the same when volume changes  Management can influence or change costs.
UNCONTROLLABLE COSTS
 Management cannot influence or change costs in the short-run

Cost classified as to Behavior DIFFERENCE

VARIABLE COST CONTROLLABLE COSTS
 Management can influence or change cost: • Example: A student spend 3 hours and P200 at gimmick the
• Example: Salaries expense (if salaries is too high night before an exam. The opportunity cost is the "time spent
management can reduce) studying and that money to spend on something else
 Almost all cost are controllable in the long- run If you were not attending college, you could be earning
Uncontrollable Cost P30,000 per year delivering pizzas. Your opportunity cost of
 Management cannot change or influence cost in the short-run: attending college for one year is P30,000 per year.
• Example: Property tax expense
Classified as to Decision-making
Cost classified in relation to Decision-making RELEVANT COST
OPPORTUNITY COST  Differential costs; and
 Income forgone by choosing one alternative over the other;  Cost that differs between alternatives.
 It is the benefit sacrificed/given up when the choice or alternative is IRRELEVANT COSTS
selected over another  Sunk costs; and
 These are the benefits foregone in choosing one alternative over the  Costs that do not differ between alternatives.
other competing alternative.
 What must be given up to obtain something that is desired;
 Help individuals or organization to make choices, primarily
considering the alternatives. You incorporate cost-benefit analysis
• Example: A student spend 3 hours and P200 at gimmick the
night before an exam. The opportunity cost is the "time spent
studying and that money to spend on something else.
If you were not attending college, you could be earning
P30,000 per year delivering pizzas. Your opportunity cost of
attending college for one year is P30.000 per year.

OPPORTUNITY COST (RELEVANT COST)

 Income forgone by choosing one alternative over the other;
 It is the benefit sacrificed/given up when the choice or alternative is
selected over another
 These are the benefits foregone in choosing one alternative over the
other competing alternative.
 What must be given up to obtain something that is desired;
 Help individuals or organization to make choices, primarily DIFFERENCE
considering the alternatives. You incorporate cost-benefit analysis RELEVANT COSTS
 A FUTURE cost that changes between two alternative choices;
 These are avoidable cost that are incurred only when making a specific
decisions
 Relevant costings concept is to eliminate unnecessary data that could
complicate decision-making
 Variable in nature
• Example:
- Variable cost - if it changes
- Opportunity cost - estimated revenue/income or benefit foregone
Avoidable/incremental fixed cost (net increase or decrease
Savings
Imputed costs - estimated cost, not vet incurred
IRRELEVANT COST
 These are unavoidable costs:
 Generally fixed in nature, already existing and cannot be eliminated
• Include:
• Discretionary costs (can be delayed in the current period but eventually
will be incurred) like repairs & maintenance cost; training and development costs,
advertising expense
- Committed costs - cost that the company is obligated to incur & cannot get
out of it. i.e rent expense arising form contract of lease
• Sunk costs (happened in the past and cannot be change by future
decision)Cost that do not differ between alternatives, IE cost of obsolete
inventories, cost of old equipment in replacement decisions, joint cost
• Irrelevant cost are not important in decision-making but are very
confusing.
Cost classified in relation to Decision-making
RELEVANT COST
 Under the concept of relevant cost, decision-making process involved the
following analytical steps:
o Determine all costs associated with each alternatives being
considered:
• Drop those costs that are sunk or historical costs;
o Drop those costs that do not differ between alternatives:
• Make decisions based on the remaining costs.
• Only those COSTS and BENEFITS that DIFFER between alternatives are
RELEVANT in a decision.
RELEVANT COST is a cost that differs between alternatives.
Cost classified in relation to Decision-making
SUNK COST OR HISTORICAL COSTS (IRRELEVANT COST)
• Has already been incurred and will not change;
• Or an investment already incurred that can't be recovered or money that
has already been spent and cannot be recovered. Because in business "you spend
money to make money";
• Example: 1) Keeping an incompetent employee on staff rather than
replacing them because the company has already invested a million] pesos
training them; 2) long-term lease contracts. Cancellation of the unexpired
term may be too costly in the form of penalties or damages for breach of
contract.
SUNK COST OR HISTORICAL COSTS
• Cannot be changed by any decision. They are not differential costs and
should be ignored when making decisions.
• Example:
• You bought an automobile that cost P1.0M tow years ago. the P1.OM
cost is sunk cost because whether you drive it park it, trade it or sell it, you
cannot change the P1.0M cost.
OUT-OF-POCKET COST (RELEVANT COST)
• Cost that will require expenditure or cash incurrence of a liability as a
consequence of management decision
APPROACHES USED IN EVALUATING ALTERNATIVES
Approaches used in evaluating alternative courses of action:
1. Incremental or Differential Analysis Approach - only the differences or changes
in costs and revenues are considered (include only relevant costs)
2. Total Project Analysis Approach or Comparative Statement
Approach - wherein total revenues and costs are determined for each
alternatives, and the result are compared to serve as basis for making decisions.
(include all costs irregardless of whether it is relevant or irrelevant costs)

Incremental, Differential or Relevant Cost Analysis

• Contrasts choices by comparing differential revenues, differential costs and
differential contribution margins.
• All relevant cost are shown. Sunk cost are disregarded

Incremental Cost
• It refers to additional cost of producing or selling the product or service
under consideration at a certain quantity of output of goods or services rendered.
• Helps achieve economies of scale
• Divide change in cost by the change in quantity
• Company can lose money if incremental cost exceeds incremental revenue.
• Example: additional raw materials, for one additional unit of production