Question

Introduction/Discussion Task: Often, business decisions involve choosing between alternative courses of action, and companies tend to want to find the alternative that offers the highest revenue or the most significant reduction in costs. Non-routine decisions use differential analysis. These include make-or-buy choices, whether to retain or drop a product line, or even if a customer should be retained or dropped. In using differential analysis, common revenues and costs are factored out of the assessment, thereby focusing on revenue and cost information that is specific to a given product, customer, or another point to be analyzed. Use the basic knowledge acquired from differential analysis to respond to the following discussion task: Continuing with the company selected in Unit 2, think about the types of financial data that would be included and excluded in differential analysis. Propose which specific revenues and costs should be considered in an evaluation to drop or keep a: Customer Product line In addition, explain sunk and opportunity costs as they relate to your selected company. Should these costs be considered in differential analysis? Why or why not?

Note: Your discussion should have a minimum of 2 450 words. Please include a word count. Following the APA standard, use references and in-text citations from the textbook and any other sources.

Answer 1

This question belongs to the concept of Differential Analysis of Cost and Financial Accounting.

Importance of Differencial Analysis

Differential analysis involves analyzing the different costs and benefits that would arise from alternative solutions to a particular problem. Relevant revenues or costs in a given situation are future revenues or costs that differ depending on the alternative course of action selected. Differential revenue is the difference in revenues between two alternatives. Differential cost or expense is the difference between the amounts of relevant costs for two alternatives.

Non-routine decisions use differential analysis. These include make-or-buy choices, whether to retain or drop a product line, or even if a customer should be retained or dropped. In using differential analysis, common revenues and costs are factored out of the assessment, thereby focusing on revenue and cost information that is specific to a given product, customer, or another point to be analyzed.

Types of financial data that would be included and excluded in differential analysis.

Future costs that do not differ between alternatives are irrelevant and may be ignored since they affect both alternatives similarly. Past costs, also known as sunk costs, are not relevant in decision making because they have already been incurred; therefore, these costs cannot be changed no matter which alternative is selected.

If revenues do not differ between alternatives. Under those circumstances, management should select the alternative with the least cost. In other situations, costs do not differ between alternatives. Accordingly, management should select the alternative that results in the largest revenue. Many times both future costs and revenues differ between alternatives. In these situations, the management should select the alternative that results in the greatest positive difference between future revenues and expenses (costs).

specific revenues and costs should be considered in an evaluation to drop or keep a: Customer Product line In addition

Managers often use differential analysis to determine whether to keep or drop a product line. Direct fixed costs are typically eliminated if a product line is eliminated and are therefore considered differential costs. Allocated fixed costs are typically not eliminated if a product line is eliminated and are not differential costs. Managers compare sales revenue and costs for each alternative (keep or drop) and select the alternative with the highest profit.

Differential analysis requires the identification of all revenues and costs that differ from one alternative to another. In general, managers select the alternative with the highest profit. If the only differences between the alternatives are with costs (as in the make-or-buy decision for Best Boards), decision-makers would select the alternative with the lowest cost.

Managers use differential analysis to determine whether to keep or drop a customer. The format is similar to the differential analysis format used for making product line decisions. However, sales revenue, variable costs, and fixed costs are traced directly to customers rather than to product lines.

Some Examples of Differential Analysis in Accounting

Differential analysis requires you to think about all the potential solutions to a particular business opportunity to determine which one is the most cost-effective. it can be used in following areas:

• Cost Analysis

• Revenue Analysis

• Crunching the Numbers

• Ignore the Constants

Opportunity Costs & Sunk Costs

Opportunity costs represent the benefits an individual, investor or business misses out on when choosing one alternative over another. While financial reports do not show opportunity cost, business owners can use it to make educated decisions when they have multiple options before them. Bottlenecks are often a cause of opportunity costs.

A sunk cost is a cost that no matter what is unrecoverable. As such it should have no impact on future decision making. This may sound strange, but consider the your two options using the analysis learned above for making decisions. Ex- Use of machinery which we have already purchased.

The difference between an opportunity cost and a sunk cost is the difference between money already spent and potential returns not earned on an investment because the capital was invested elsewhere, possibly causing financial distress.

Therefore , Opportunity cost should always be considered while sunk cost to be ignored while taking any financial decision.

Thankyou!!