Tutorial Questions- Acc 104

Chapter V: Relevant Costs for Decision Making

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I- True( T) / False ( F) Questions
1- A sunk cost arises from a past decision and cannot be avoided or changed. T
2- Relevant benefits refer to the additional or incremental revenue generated by
selecting a particular course or action over another. T
3- In a make or buy decision, management should focus on costs that are the
same under the two alternatives. F
4- Incremental costs should be considered in a make or buy decision. T
5- A markup percentage equals total costs divided by desired profit. F
6- Costs already incurred in manufacturing the units of a product that do not meet
quality standards are relevant costs in a scrap or rework decision. F

II- Multiple Choice Questions

1- A company paid $200,000 ten years ago for a specialized machine that has no
salvage value and is being depreciated at the rate of $10,000 per year. The
company is considering using the machine in a new project that will have
incremental revenues of $28,000 per year and annual cash expenses of $20,000.
In analyzing the new project, the $200,000 original cost of the machine is an
example of a(n):
A. Incremental cost.
B. Opportunity cost.
C. Variable cost.
D. Sunk cost.
E. Out-of-pocket cost.

2- Product A requires 5 machine hours per unit to be produced, Product B requires

only 3 machine hours per unit, and the company’s productive capacity is limited
to 240,000 machine hours. Product A sells for $16 per unit and has variable
costs of $6 per unit. Product B sells for $12 per unit and has variable costs of $5
per unit. Assuming the company can sell as many units of either product as it
produces, the company should:
A. Produce only Product A.
B. Produce only Product B.
C. Produce equal amounts of A and B.
D. Produce A and B in the ratio of 62.5% A to 37.5% B.
E. Produce A and B in the ratio of 40% A and 60% B.
3- Minor Electric has received a special one-time order for 1,500 light fixtures
(units) at $5 per unit. Minor currently produces and sells 7,500 units at $6.00
each. This level represents 75% of its capacity. Production costs for these units
are $4.50 per unit, which includes $3.00 variable cost and $1.50 fixed cost. To
produce the special order, a new machine needs to be purchased at a cost of
$1,000 with a zero salvage value. Management expects no other changes in
costs as a result of the additional production. Should the company accept the
special order?
 A. No, because net income would decrease by $1,500.
B. No, because net income would decrease by $2,000.
C. Yes, because net income would increase by $7,500.
D. Yes, because net income would increase by $2,000.
E. No, because net income would decrease by $5,500.
4- Frederick Co. is thinking about having one of its products manufactured by an
outside supplier.
Currently, the cost of manufacturing 5,000 units follows:

Direct material ............................................ $62,000

Direct labor .................................................. 47,000
Variable factory overhead……………….. 38,000
Factory overhead ......................................... 52,000

If Frederick can buy 5,000 units from an outside supplier for $130,000, it should:

A. Make the product because current factory overhead is less than $130,000.
B. Make the product because the cost of direct material plus direct labor of
manufacturing is less than $130,000.
C. Make the product because factory overhead is a sunk cost.
D. Buy the product because total fixed and variable manufacturing costs are
greater than $130,000.
E. Buy the product because the total incremental costs of manufacturing are
greater than $130,000.
5- Soar Incorporated is considering eliminating its mountain bike division, which
reported an operating loss for the recent year of $3,000. The division sales for
the year were $1,050,000 and the variable costs were $860,000. The fixed
costs of the division were $193,000. If the mountain bike division is dropped,
30% of the fixed costs allocated to that division could be eliminated. The
impact on operating income for eliminating this business segment would be:
A. $57,900 decrease
B. $132,100 decrease
C. $54,900 decrease
D. $190,000 increase
E. $190,000 decrease

6- Granfield Company is considering eliminating its backpack division, which

reported an operating loss for the recent year of $42,000. The division sales
for the year were $960,000 and the variable costs were $475,000. The fixed
costs of the division were $527,000. If the backpack division is dropped, 40%
of the fixed costs allocated to that division could be eliminated. The impact on
Granfield’s operating income for eliminating this business segment would be:
A. $485,000 decrease
B. $210,800 increase
C. $274,200 decrease
D. $485,000 increase
E. $274,200 increase
III- Exercises

QS 10-4 Garcia Company has 10,000 units of its product that were produced last year at a
total cost of $150,000. The units were damaged in a rainstorm because the warehouse where
they were stored developed a leak in the roof. Garcia can sell the units as is for $2 each or it
can repair the units at a total cost of $18,000 and then sell them for $5 each. Should Garcia
sell the units as is or repair them and then sell them? Explain.

QS 10-5

QS 10-7 Kando Company incurs a $9 per unit cost for Product A, which it currently
manufactures and sells for $13.50 per unit. Instead of manufacturing and selling this product,
the company can purchase it for $5 per unit and sell it for $12 per unit. If it does so, unit sales
would remain unchanged and $5 of the $9 per unit costs of Product A would be eliminated.
Should the company continue to manufacture Product A or purchase it for resale?

QS 10-9 Signal mistakenly produced 1,000 defective cell phones. The phones cost $60 each to
produce. A salvage company will buy the defective phones as they are for $30 each. It would
cost Signal $80 per phone to rework the phones. If the phones are reworked, Signal could sell
them for $120 each. Assume there is no opportunity cost associated with reworking the
phones. Compute the incremental net income from reworking the phones.

QS 10-10 Holmes Company produces a product that can be either sold as is or processed
further. Holmes has already spent $50,000 to produce 1,250 units that can be sold now for
$67,500 to another manufacturer. Alternatively, Holmes can process the units further at an
incremental cost of $250 per unit. If Holmes processes further, the units can be sold for $375
each. Compute the incremental income if Holmes processes further.

QS 10-13: A guitar manufacturer is considering eliminating its electric guitar division because
its $76,000 expenses are higher than its $72,000 sales. The company reports the following
expenses for this division. Should the division be eliminated?

QS 10-15 Rory Company has a machine with a book value of $75,000 and a remaining five-
year useful life. A new machine is available at a cost of $112,500, and Rory can also receive
$60,000 for trading in its old machine. The new machine will reduce variable manufacturing
costs by $13,000 per year over its five-year useful life. Should the machine be replaced?

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