Chapter 1-Relevant Costing

Chapter 1-
Relevant costing
Management Accounting 202 2
Unit 1– Learning Outcomes
1. Explain the meaning of the concepts relevance and irrelevance.

2. Identify the different type of decisions.
3. Establish a quantitative framework for each decision.
4. Identify qualitative factors for a decision.
5. Determine the relevant costs of direct materials.
6. Determine the relevant cost of direct labour.
7. Determine whether to sell or process further
Exam Technique for Unit 3
 Step 1: Identify the type of decision that is

involved
 Step 2: Apply a quantitative framework for that
decision
 Step 3: Apply qualitative factors
 Step 4: Reach a conclusion
 This unit is based on chapter 9 of your prescribed

textbook.
Outcome 1
Explain the meaning of relevance and irrelevance

 Whenever there is a decision to be taken, you will
always consider the issues that are relevant to the
decision, and ignore the things that are irrelevant.
 Relevant costs/revenues =
 Those future costs/revenues that will be changed by a particular
decision → incremental cash flows
 Irrelevant costs/revenues =
 Will not be affected by that decision
Management Accounting 202
Outcome 1
5
Consider the following scenario:

 You are currently deciding whether you should travel to work by taxi
or buy a car. In this decision, there will be costs that you will only
incur if you take the taxi, for example, the taxi ticket, while there will
also be costs that you will only incur if you buy a car, for example,
car insurance. These costs are unique to the decision that you
make. If you choose to travel by taxi, you will not need to take out
car insurance.
 These costs are relevant costs – they are costs relevant to the
decision you make. In contrast, there are irrelevant costs. These are
costs that will be incurred, regardless whether you travel by car or
taxi, for example a cell phone – you need a cell phone whether you
travel with your own car, or with a taxi. Irrelevant costs must be
ignored in a decision, as they have no influence on the decision to
be made.
6
Outcome 2, 3, 4
Quantitative factors = Refer to outcomes that can be

measured in numerical terms.
 In many situations it is difficult to quantify all
important elements of a decision.
 Those factors that cannot be expressed in monetary
terms = Qualitative factors:
 Changes in employee morale
 The impact of being at the mercy of a supplier when a decision is
made to close a company’s facilities and subcontract components
Outcome 2, 3, 4 7
Identity different types of decisions
➢ Decision: Special pricing decisions

 Relates to pricing decisions outside the main market → One-time
only orders
 Orders at a price below the prevailing market price
 Drury example 9.1, page 194
Outcome 2,3,4 8
➢ Decision: Product-mix decisions when capacity constraints exist

 Rank products by the contribution per unit of the
constraining/limiting factor (scarce resource)
 The capacity of the scarce resource should then be allocated
according to this ranking.
 It should be apparent that the quantitative framework that you
have to use for product-mix decisions with capacity constraints is
CULF. However, CULF can only be used when there is:
1. Only one limiting factor or
2. Multiple limiting factors that yield consistent rankings.
 If this is not the case, then Linear Programming (unit 2) should be
used.
Outcome 2,3,4 9
Example 1
Rhine Autos is a major European producer of automobiles. A

department within one of its divisions supplies component parts
to firms operating within the automobile industry. The following
information is provided relating to the anticipated demand and
the productive capacity for the next quarter in respect of 3
components that are manufactured with the department.
X Y Z
Contribution per unit R12 R10 R6
Machine hours required per unit 6 hours 2 hours 1 hour
Sales demand (units) 2 000 2 000 2 000
Required machine hours for the quarter 12 000 4 000 2 000
hours hours hours
Outcome 2,3,4 10
Example 1
Because of the breakdown of one of its special purpose

machines, capacity is limited to 12 000 machine hours for the
period, and this is insufficient to meet total sales demand.
Required:
Advise on the mix of products that should be produced during
the period.
Outcome 2,3,4 11
Example 1- Solution
.
X Y Z
Machine hours required 6 hours 2 hours 1 hour
Sales demand 2 000 2 000 2 000
Total machine hours required 12 000 4 000 2 000
Machine hours available = 12 000 machine hours

Machine hours required = 12 000 + 4 000 + 2 000 = 18 000
Therefore machine hours is a limiting factor.
Outcome 2,3,4 12
Example 1- Solution
.
X Y Z
Contribution per unit R12 R10 R6
Machine hours required 6 hours 2 hours 1 hour
Contribution per machine hour (CULF) R2 R5 R6
Ranking 3 2 1
The company will now allocate 12 000 scarce machine hours in

accordance with the above ranking.
The first choice will be to produce as much as possible of Z, then Y
and then X
Outcome 2,3,4 13
Example 1- Solution
Summary of the allocation of scarce machine hours, and

contribution:
Machine hours used Contribution

2000 units Z 2 000 hours R12 000
2000 units Y 4 000 hours R20 000
1000 units X 6 000 hours R12 000
12 000 hours R44 000
Remember: Qualitative factors

Outcome 2,3,4 14
Activity 1
 Hlolomo Ltd makes and sells three types of electronic security

systems for which the following information is available:
Product Passive Active Omni

(R) (R) (R)
Materials 70 110 155
Manufacturing labour 40 55 70
Installation labour 24 32 44
Variable overheads 16 20 28
Selling price 250 320 460
 Fixed costs for the period are R450 000 and the installation labour,
which is highly skilled, is limited to 25 000 hours only, and is paid at
R8 per hour.
 All labour is variable.
Outcome 2,3,4 15
Activity 1
The demand for the products is as follows:
Passive Active Omni

2 000 units 3 000 units 1 800 units
REQUIRED:
a/ Determine if installation labour hours is a limiting factor
b/Advise management on the optimum production plan to
maximise profits
c/ Calculate the profit from the plan advised in part b
d/If manufacturing labour was also a limiting factor, discuss
how an optimum production plan would be determined.
Outcome 2,3,4 16
Activity 1: Solution (a)
a/ Determine if installation labour hours is a limiting factor.

Hours required:
Passive Active Omni
Demand (units) 2 000 3 000 1 800
Labour cost per unit 24 32 44
Labour cost per hour 8 8 8
Usage per unit 3 4 5.5
Total usage 6 000 12 000 9 900
Hours needed: 6 000 + 12 000 + 9 900 = 27 900

Only 25 000 is available.
Thus installation labour is a limiting factor.
Outcome 2,3,4 17
Activity 1– Solution (b)
b/ Advise management on the optimum production

plan to maximise profits.
3 Steps:
1. Calculate contribution per limiting factor
2. Rank products
3. Determine product mix
Calculation of contribution:
Outcome 2,3,4 18
Activity 1: Solution (b)
Product Passive Active Omni

Materials 70 110 155
Manufacturing labour 40 55 70
Installation labour 24 32 44
Variable overheads 16 20 28
Selling price 250 320 460
Contribution 100 103 163
Usage 3 4 5.5
Contribution per unit of limiting factor 33.33 25.75 29.64
Ranking 1 3 2
Outcome 2,3,4 19
Activity 1: Solution (b)
Thus optimum production mix:
Hours Units
25 000
Passive (6 000) <-------------x 2 000

Omni (9 900) <-------------x 1 800
9 100
Active 9 100 /--------------→ 2 275
Outcome 2,3,4 20
Activity 1: Solution (c) + (d)
c/ Calculate the profit from the plan advised in part b above
 Contribution (2 000 x 100) + (1 800 x 163) + (2 275 x 103)

= 727 725
Less: fixed costs = (450 000)
Net profit = 277 725
d/ If manufacturing labour was also a limiting factor, discuss

how an optimum production plan would be determined.
 A linear programming model would need to be used. This
will be dealt with in unit 4.
Outcome 2,3,4 21
➢ Decision: Decisions on replacement of equipment

 Book values are not relevant costs because they are
past/sunk costs and are therefore the same for all potential
courses of action.
Outcome 2,3,4 22
Example 2
 A division of Rhine Autos purchased a machine 3 years ago for

R180 000. Depreciation using the straight-line basis, assuming a life of 6
years and with no salvage value, has been recorded each year in the
financial accounts.
 The present written-down value of equipment is R90 000 and it has a
remaining life of 3 years.
 Management is considering replacing this machine with a new machine
that will reduce the variable operating costs. The new machine will cost
R70 000 and will have an expected life of 3 years with no scrap value.
 The variable operating costs are R3 per unit of output for the old
machine and R2 per unit for the new machine. It is expected that both
machines will be operated at a capacity of 20 000 units p.a.
 Revenue and output will be the same for both machines.
 The current disposal/sales value of the old machine is R40 000 and it will
be zero in 3 years time.
Outcome 2,3,4 23
Drury example page 200 - Solution
Total costs over a period of 3 years for each of the alternatives:
Retain Buy Difference

Variable operation costs (60 000)
➢R3 X 20 000 units X 3 years 180 000
➢R2 X 20 000 units X 3 years 120 000
Old machine book value -
➢Depreciation 90 000
➢Lump sum write off (purchase new machine) 90 000
Sale proceeds of existing machine - (40 000) (40 000)
Purchase of new machine - 70 000 70 000
Total cost 270 000 240 000 30 000
Outcome 2,3,4 24
Drury example page 200 - Solution
Relevant costs and Revenues:
Saving on variable operating costs 60 000

R1 X 20 000 units X 3 years
Purchase price of old machine – sunk cost - irrelevant -
Depreciation of old machine - irrelevant -
Sale proceeds of existing machine 40 000
Less: Purchase of new machine (70 000)
Saving on the purchase of the new machine 30 000
Outcome 2,3,4 25
➢ Decision: Outsourcing and make or buy decisions

 Outsourcing = The process of obtaining goods/services from
outside suppliers instead of producing the same goods or
providing the same services within the organisation.
Outcome 2,3,4 26
Activity 2- Example
Hendrikus Barnardo founded a company called Nannini Ltd.

He is currently in the process of preparing his budget for the
following year regarding production, purchases and sales. He
has the following total unit costs for two specific components
and two other products, which areProduct Product Comp Comp
manufactured
VW XY 12 14
by the R/u R/u R/u R/u
company: Direct material 12 28 18 26
Direct labour 12 24 16 4
Variable overheads 6 12 8 2
Fixed overheads 15 30 20 5
Outcome 2,3,4 27
Activity 2 - Example
 Components 12 and 14 are used as parts of other products,

but are not used in products VW and XY.
 Components can be purchased from external persons as
follows:
 Component 12 - R60/unit
 Component 14 - R30/unit
 Current selling prices of products are as follows:
 Product VW = R33
 Product XY = R85
Outcome 2,3,4 28
Activity 2- Example
Required:
 a) Advise the management of the company on whether or
not it will be profitable:
 to purchase any of the two components
 to sell any of the two products.
 b) Clearly state assumptions that you make
Outcome 2,3,4 29
Activity 2– Solution (a)
Com- Com- Product Product

ponent ponent
12 14 VW XY
Direct material 18 26 12 28
Direct labour 16 4 12 24
Variable overheads 8 2 6 12
Variable 42 32 30 64
manufacturing
costs
Purchase price 60 30
Selling price 33 85
Decision Make Purchase Sell Sell
Outcome 2,3,4 30
b) Clearly state the assumptions that you make

 Variable costs vary in relation to units produced and are constant
per unit output.
 It is assumed that direct labour is a variable cost and not a fixed cost.
 There are no restrictive factors, and the company has no capacity
restrictions, which could lead to opportunity costs having to be
considered.
 Fixed costs affect all alternatives and will therefore not change.
 No additional costs will accumulate if the component is purchased,
for example additional inspection and ordering costs.
 Quality and delivery will be satisfactory.
 The facilities cannot be used for more profitable alternatives.
Outcome 2,3,4 31
Activity 2– Example
 c) Consider how the additional info will influence the advice in (a)
- Next year’s budgeted production for the 2 components is 7000 units
of component 12 & 6000 units of component 14.
➢ Next years budgeted sales for the 2 products are 5000 VW & 4000 XY.
➢ A special machine is used exclusively by components 12 & 14 and
products VW & XY. The machine can utilize a maximum of 80 000
machine hours during the year.
 Additional information for question c:
 The following amount of time is used to manufacture 1 unit:
 Component 12 - 8 machine hours
 Component 14 - 2 machine hours
 Product VW - 6 machine hours
 Product XY - 12 machine hours
 The operating costs of the machine have already been included in
the unit costs as shown in (a).
Outcome 2,3,4 32
Activity 2– Solution (c)
 Determine if there is a scarce resource/ limiting factor. YES
VW XY 12 14
Bud Production/Sales 5 000 4 000 7 000 6 000

Machine hours required per unit 6 12 8 2
Total machine hours required 30 000 48 000 56 000 12 000
Available = 80 000 machine hours
 Then follow the 3 steps to determine optimum mix to maximise profits:

1. Calculate contribution per limiting factor
2. Rank products
3. Determine product mix
Outcome 2,3,4 33
C12 C14 P.VW P.XY Total

Production (units) 7 000 - 5 000 4 000
Buy
Machine hours/unit 8 6 12
Total hours required 56 000 30 000 48 000 134 000*
Contribution/cost saving 18 3 21
(60-42)
Contribution/hour 2,25 0,5 1,75
Ranking 1 3 2
Outcome 2,3,4 34
 Make 7 000 of Component 12

(Thus use 7 000 x 8 = 56 000 hours)
 Remaining (80,000 – 56,000) machine hours = 24,000 hours
 Make 2,000 Product XY
(Use 2,000 x 12 = 24,000)
 Total machine hours used are 80,000.

 80,000 machine hours are available.
 Therefore the restrictive factor is the machine hours.
Outcome 2,3,4 35
➢ Decision: Discontinuation decisions

 There are two ways of addressing discontinuation decisions:
1. The first way is to apply the principle that a division that yields
a positive contribution towards fixed costs should never be
closed down, unless there is another alternative that yields a
higher contribution. This would, therefore, entail calculating
the contribution of the division.
2. The alternative method is to do a calculation of costs that
would be saved verses income that is lost from closing a
division. If the savings exceed the costs, then the division
should be closed down.
 Drury Example 9.6, page 209
Outcome 2,3,4 36
Activity 3 - Example
Raupert Limited manufactures and distributes a single product,

which is sold at R25 per unit. The company's head office is in
Auckland Park and production takes place at the organisation's
three plants in Chamdor, NewcastleTotal Chamdor Newcastle Epping
& Epping. Units 160 120 80
Sales 9 000 4 000 3 000 2 000
Variable costs 5 000 2 200 1800 1 000
Fixed costs: 1 800 550 750 500
> Manufacturing
> Admin & Selling 600 225 225 150
H/O over/under alloc 630 280 210 140
Net income 970 745 15 210
Outcome 2,3,4 37
Activity 3- Example
Head office costs are allocated in relation to sales volume.

The deed of lease for the building in which the Newcastle plant is
operated must be renewed on 1 January 19x8, and the rent has
been increased by R20 000. The management of Raupert is
considering closing down the plant and using one of the following
options to retain its market share in Natal.
Option 1 Option 2
The Chamdor plant can be An agreement can be entered into
expanded. This will result in an with a competitor in Newcastle
increase of 20% of fixed who will be prepared to
manufacturing costs, while the manufacture the product under
transport costs to the existing depot Raupert's trade name and to
in Newcastle will amount to R3,50 supply it to the Newcastle depot at
per unit. R18 per unit.
Outcome 2,3,4 39
Activity 3- Example
Ifthe Newcastle plant were to be closed, the equipment could be sold

at higher than book value, which would cover the costs of the plant.
The company also aims to establish a factory in the Ciskei, which will
manufacture the same product for the Ciskei market. The demand in the
Ciskei is estimated at 50 000 units per annum, and the costs have been
budgeted as follows:
R’000 % Variable
The product will be marketed
in the Ciskei by Cisales at a Direct Material 390 100
commision of 8% Direct Labour 280 80
Manufacturing O/H 200 50
No H/O costs will be Admin O/H 120 30
allocated to the Ciskei 990
plant.
Outcome 2,3,4 40
Activity 3- Example
 Required:
 a) Suggest which alternative should be followed
regarding the Newcastle plant and supply reasons
for your suggestion.
 b) Calculate at which price the product should be
marketed in the Ciskei if Raupert requires a net profit
of 20% from the Ciskei plant.
 c) Calculate how many units will have to be sold in
the Ciskei if the unit is sold at R25 each and a net
profit percentage of 20% is required.
Outcome 2,3,4 41
a) Quantifiable considerations

(i) Profit if the Chamdor plant were expanded:
Return on sales (120 x R25) 3 000
Less: additional costs incurred (calculation as below) (2 180)
Incremental income from Option 1 820
Additional costs incurred:

Variable costs (120 x 13,75) or (55% x 3 000) 1 650
Transport costs (120 x 3,50) 420
Fixed costs: Manufacturing (550 x 20%) 110
Fixed costs: Admin & Selling – irrelevant
H/O under/over allocation - irrelevant -
Outcome 2,3,4 42
Activity 3 – Solution (a)
(ii) Profit if produced by competitor:

 Profit on sales ((120 x (25 - 18)) = R840
(H/O under/over allocation, Fixed costs: Manufacturing &

Fixed costs: Admin & Selling = IRRELEVANT)
 Other considerations
1. Quality of the product
2. Reliability of the competitor (a) Delivery (b) Financial stability
3. Conflict of interest regarding the competitor
4. Long-term objectives - a short-term agreement with the
competitor only defers the problem
5. If the plant had to be reopened at a later stage: (a) Higher
costs of capital outlay (b) Training of personnel
Outcome 2,3,4 43
6. Improved utilisation of Chamdor plant - costs may decrease

in the longer term
7. Possibility of cost savings at Newcastle should be investigated
(competitor is prepared to deliver at R18 per unit)
8. Possibility of obtaining other suitable premises
9. Extent to which after-sales service, which will not be available
in Natal if the Newcastle plant is closed, will be required
10.There will still be costs associated with operating the depot in
Newcastle
Recommendation
The quantifiable considerations indicate that the product
should be purchased from the competitor, but on the ground
of the non-quantifiable factors it is recommended that the
Chamdor plant be expanded.
Outcome 2,3,4 44
b) Let sales = X
 NP = sales – costs (fixed & variable) – commission

 0.2X = X – 990,000 - 0.08X
X - 0.08X - 0.2X = 990,000
X = 1,375,000
 SP/U = 1,375,000 = R27,50
50,000
Outcome 2,3,4 45
 c) Fixed costs
R’000
Labour (280 x 0.2) 56
Manufacture (200 x 0.5) 100
Admin (120 x 0.7) 84
240
Variable costs/unit R
(990 –240) 15
50
Add: 25 x 0.08 2
17
Outcome 2,3,4 46
 Sales = x
 Break Even = (FC + NP)
contribution/unit
 X = 240,000 + 0.20(25X)
(25 -17)
 8X = (240,000 + 5X)
Therefore X= 80,000 units

Outcome 5
Determine the relevant costs of direct materials

 Material already in stock – the original cost price is always
sunk, thus irrelevant.
 Material in stock may have alternative uses, which may be
lost should the material be used.
 Material already in stock may be scarce, which means if it is
used in a product, another product may have to be
sacrificed.
 Materials may have to be replaced, which makes the
replacement cost relevant.
 Materials may have to be purchased as new, which means
the purchase price will be the relevant cost.
Activity
Question 1:
A company is considering a contract which will require, among other
inputs, 50kg of material M. Eighty kilograms of material M, which
were purchased for R1,60 per kg, are in stock. The replacement
price of M is R1,75 per kg. The material is in stock as a result of a
buying error and the company has no other use for it. If not used on
this contract, it could be sold for R1,20 per kg.
REQUIRED:
 Determine the relevant cost of the material to be used in this
contract.
 State you reasons.
Question 1 solution
 Relevant cost of material M = 50 kg x R1,20
= R60
 The original cost of R1,60 per kg is sunk and not relevant.
 The replacement price is also irrelevant.
 The remaining 30 kg can be sold.
Outcome 6.
50
Determine the relevant cost of direct labour

 There can only be an opportunity cost, if there is a shortage of
labour.
 When there is a shortage of labour, it must be established whether
additional labour can bought in, or whether overtime can be
worked – the cost of hiring additional staff, or the overtime will be
the relevant cost.
 Where labour is scarce, and it is not possible to work overtime or buy
in additional labour, labour will have to be taken away from another
product – which will lead to an opportunity cost of lost contribution.
 Where there is enough labour available, it must be determined
whether labour is paid on a fixed or variable basis. Fixed = irrelevant.
Variable = relevant.
Outcome 2,3,4 51
Question 1
PART A
Three products X, Y and Z are made and sold by a company and
applicable information is given below.
Product X Product Y Product Z
Standard costs: R R R
Direct materials 50 120 90
Variable overhead 12 7 16
Direct labour: Rate per hour: Hours Hours Hours

R
Department A 5 14 8 15
Department B 6 4 3 5
Department C 4 8 4 15
Total fixed overhead for the year was budgeted at R300 000.
Outcome 2,3,4 52
Question 1
The budget for the current financial year, which was prepared
for a recessionary period, was based on the following sales:
Product Sales in units Selling price unit

R
X 7 500 210
Y 6 000 220
Z 6 000 300
Outcome 2,3,4 53
Question 1
However, the market for each of the products has improved

and the sales director believes that without a change in selling
prices, the number of units sold could be increased for each
product by the following percentages:
Product Increase
X 20%
Y 25%
Z 33 1/3%
When the sales director's views were presented to a

management meeting, the production director declared that
although it might be possible to sell more units of product,
output could not be expanded because he was unable to
recruit more staff for Department B due to a severe shortage
of the skills needed by this department.
Outcome 2,3,4 54
Question 1
REQUIRED:
1/ Show, in the form of a statement for management, the unit costs of
each of the three products and the total profit expected for the
current year based on the original sales figures. (8)
2/ State the profit if the most profitable mixture of the products was
made and sold, utilizing the higher sales figures and the limitation on
Department B. (8)
3/ Identify and comment on three possible problems which may arise if
the mixture in (2) above were to be produced. (3)
4/ Describe briefly a technique for determining optimum output levels
when there is more than one input constraint. (3)
Outcome 2,3,4 55
Question 1– Solution
Suggested solution:
(a)
Product X Y Z
(R) (R) (R) (R) (R)
Direct materials 50 120 90
Variable overhead 12 7 16
Direct labour:
Department A 70 40 75
Department B 24 18 30
Department C 32 126✓ 16 74✓ 60 165✓
Variable production cost 188✓ 201✓ 271✓
Sales price 210 220 300
Unit contribution 22 19 29
Total contribution 165 000 114 000 174 000
Fixed costs R300 000

Outcome 2,3,4 56
Question 1 – Solution (1) & (2)
1/ Profit = R(165 000 + 114 000 + 174 000) – R300 000

= R153 000
2/ Department B labour hours limitation:

Product X 30 000 hours (7 500 x 4 hours)
Y 18 000 hours (6 000 x 3 hours)
Z 30 000 hours (6000 x 5 hours)
78 000 hours
Products X Y Z
Unit contribution R22 R19 R29
Department B labour hours 4 3 5
Contribution per Department B hourR5,50 R6,33 R5,80
Ranking 3 1 2
Outcome 2,3,4 57
Question 1 – Solution (2)
Maximum sales are 9000 units of X (7500 x 1,20), 7500 units of Y

(6000 x 1,25) and 800 of Z (6000 x 1,33).
Using the above rankings the optimal product mix is:
Product Units sold Department B Contribution

hours used (R)
Y 7500 22 500 142 500
Z 8000 40 000 232 000
X 3875 (15 500/4) 15 500 85 250
78 000 459 750
Less fixed costs 300 000
Profit 159 750
Outcome 2,3,4 58
Question 1 – Solution (3) & (4)
3/ (i) The impact on customer goodwill. Some customers may

buy all three products and they choose to buy elsewhere if
their supply of Product X is restricted. Also the company may
permanently lose Product X customers if the supply is
restricted.
(ii) Competitors' reactions. If supply of Product X is restricted,
competitors may exploit the shortage, stressing that they are
able to meet demand for Product X and look after their
customer and provide a better service.
(iii) Some of the fixed costs may be attributable to specific
products and avoidable if output decreases. When avoidable
fixed costs are taken into account the product mix specified
in (a) (ii) provides the optimum mix.
(4) Linear programming should be used.✓ This technique
enables an objective function to be maximized (e.g.
contribution) subject to meeting the requirements of more
than one input constraint.✓✓
Management 59
Accounting 202
Objective 7
➢ Decision making -Sell or process further decisions
 Joint costs are irrelevant in decisions regarding what to do with a
product from the split-off point forward. Therefore, these costs
should not be allocated to end products for decision making
purposes.
 With respect to sell or process further decisions, it is profitable to

continue processing a joint product after the split-off point so long
as the incremental revenue from such processing exceeds the
incremental processing costs incurred after the split-off point.

Chapter 1-Relevant Costing

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Chapter 1-

Unit 1– Learning Outcomes

1. Explain the meaning of the concepts relevance and irrelevance.

Exam Technique for Unit 3

 Step 1: Identify the type of decision that is

 This unit is based on chapter 9 of your prescribed

Explain the meaning of relevance and irrelevance

Consider the following scenario:

Quantitative factors = Refer to outcomes that can be

Identity different types of decisions

➢ Decision: Special pricing decisions

Identity different types of decisions

➢ Decision: Product-mix decisions when capacity constraints exist

Rhine Autos is a major European producer of automobiles. A

Because of the breakdown of one of its special purpose

Machine hours available = 12 000 machine hours

The company will now allocate 12 000 scarce machine hours in

Summary of the allocation of scarce machine hours, and

Machine hours used Contribution

12 000 hours R44 000

Remember: Qualitative factors

 Hlolomo Ltd makes and sells three types of electronic security

Product Passive Active Omni

The demand for the products is as follows:

Passive Active Omni

Activity 1: Solution (a)

a/ Determine if installation labour hours is a limiting factor.

Hours needed: 6 000 + 12 000 + 9 900 = 27 900

Activity 1– Solution (b)

b/ Advise management on the optimum production

Activity 1: Solution (b)

Product Passive Active Omni

Activity 1: Solution (b)

Thus optimum production mix:

Passive (6 000) <-------------x 2 000

Activity 1: Solution (c) + (d)

c/ Calculate the profit from the plan advised in part b above

 Contribution (2 000 x 100) + (1 800 x 163) + (2 275 x 103)

d/ If manufacturing labour was also a limiting factor, discuss

Identity different types of decisions

➢ Decision: Decisions on replacement of equipment

 A division of Rhine Autos purchased a machine 3 years ago for

Drury example page 200 - Solution

Total costs over a period of 3 years for each of the alternatives:

Retain Buy Difference

Drury example page 200 - Solution

Relevant costs and Revenues:

Saving on variable operating costs 60 000

Identity different types of decisions

➢ Decision: Outsourcing and make or buy decisions

Hendrikus Barnardo founded a company called Nannini Ltd.

 Components 12 and 14 are used as parts of other products,

Activity 2– Solution (a)

Com- Com- Product Product

Activity 2– Solution (b)

b) Clearly state the assumptions that you make

Activity 2– Solution (c)

 Determine if there is a scarce resource/ limiting factor. YES

Bud Production/Sales 5 000 4 000 7 000 6 000

 Then follow the 3 steps to determine optimum mix to maximise profits:

Activity 2– Solution (c)

C12 C14 P.VW P.XY Total

Activity 2– Solution (c)