Solutions for Cost Accounting

4

Fundamentals of Cost Analysis for Decision Making

Solutions to Review Questions

1.

Costs that are “fixed in the short run” are usually not fixed in the long run. In fact few, if any, costs are fixed over a very long time horizon.

2.

A sunk cost has taken place in the past and cannot be changed. A differential cost is one that will change with a given decision.

3.

Strictly speaking, sunk costs can never be differential costs. However, sunk costs can determine the amounts of certain differential costs. For example, federal income taxes are based on historical (sunk) costs. The disposal of a fixed asset may result in a tax based on the difference between the sales proceeds and the undepreciated sunk cost. Many contracts are based on sunk costs as well. Decisions may have contract implications that arise with changes in plans.

4.

Short-run decisions affect operations within one year (for example, the decision to accept a special order). Long-run decisions affect operations for greater than one year (for example, expansion of plant capacity).

5.

The full cost of a product is the sum of all fixed and variable costs of manufacturing and selling a unit. Full cost is not always appropriate for making decisions—especially short-run decisions. Fixed costs are often irrelevant for short-run decisions (i.e., fixed costs often remain unchanged from the status quo to the alternative).

6.

The product life cycle covers the time from initial research and development to the time at which support to the customer is withdrawn. Managers estimate revenues and costs throughout the product’s life cycle to make pricing decisions. Life-cycle costs include not only the costs of development and production, but also the costs of maintenance and disposal.

7.

Cost-plus pricing is most likely to be used for unique products where no market price information exists—areas like construction jobs, defense contracts, and custom...