Relevant Costing

Relevant Costing

1. Opportunity Cost

   • Benefit foregone by choosing one option instead of another. This normally includes contribution/profit lost

2. Make or Buy (Outsourcing)

   • The relevant costs of the decision are the differential costs between making and buying
     • 1) Calculate total saving by making in-house 2) Calculate total Attributable Fixed Cost by making in house 3) Calculate the Net Cost/Saving and make decision based on this
   • Qualitative Factors
     • Quality of bought in product, Reliability of supplier Possibility of becoming dependent on supplier, Likelihood of future price increases, How to use spare capacity, Confidentiality issues

3. Shut Down

   • Qualitative Factors
     • Impact on employee morale, Signal given to competitors, Customer loss of confidence, Damage to suppliers’ business
   • Relevant Cash Flows
     • Lost contribution, Savings of fixed costs, Penalties and payments, Reorganisation costs, Redundancy Costs, Annual operating costs, Non-current assets to sell

4. Minimum Economic Bid Pricing

   • The minimum economic bid price of an order is simply the minimum price which would give a break-even situation
   • The minimum economic bid price is a starting price on which to base a selling price or profit mark up.

5. Materials

   • Not in inventories - current replacement value
   • In inventories held
     • No use for them - current resale values if any value
     • In continual use - current replacement value
     • Scarce (cannot be replaced) - opportunity cost

6. Labour

   • Spare Capacity - no cost
   • Full Capacity
     • Hire more staff
       • Current rate of pay or cost of hiring
     • Cannot hire more staff
       • Variable cost & lost contribution

7. Sunk Costs

   • a past (historical) cost which is not directly relevant in decision making

8. Committed Costs

   • a future cost which cannot be recouped

9. Costs and revenues are relevant if they are future, incremental and cash flows. Relevant costs also include opportunity costs