Chapter 17Decisions Involving Alternative Choices

IntroductionManagerial decision-making is the process of choosing among alternative courses of action.The manager chooses that course of action which he considers as the most effective means of achieving goals and solving problems.All decisions are futuristic in nature, involving a forecast of what management thinks is likely to occur.

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press

Steps In Decision-makingDefining the ProblemPerceptive analysis and insight may be required to articulate the problem. The real problem may have to be distinguished from the apparent one. Developing the alternative choicesIn the initial stages of developing alternative solutions several possibilities may arise. The manager should eliminate those which are clearly unattractive and narrow his choice down to a few, perhaps two or three.

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press

Steps In Decision-makingEvaluating the alternativesEach solution may have several advantages and disadvantages. These have to be weighed and balanced for judging its overall desirability.Arriving at a decisionOnce the alternative courses of action are evaluated in terms of their measurable and non-measurable effects, the decision maker will be in a position to select one of the alternatives.

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press

Characteristics Of RelevantCosts For Decision-makingThey are expected future costsIf the same costs are incurred for both the alternatives, then they are not relevant.The difference between the amounts of the two costs is called differential cost or incremental cost.

Differential Costs = Cost of one alternative Cost of other alternative

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press

Accounting Data For Decision-makingCosts from cost accounting systemVariable costsOpportunity costsDepreciationFixed costs

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press

Application Of Decision-making ConceptsDifferential cost analysisIncremental ProfitIncremental revenueIncremental costs

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press

Practical ApplicationsOf Marginal CostingEvaluation of performanceProfit planningFixation of selling priceMake or buy decisionsOptimizing product mixCVP analysis in multi-product situationsDecision to accept a special orderDecision to continue or drop a product lineDecision regarding equipment replacementDecision regarding construction of facilitiesDecision regarding selling or further processingCost controlFlexible budget preparation

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press

Problem Of Limiting FactorUnder the marginal costing technique, profitability is measured in terms of the contribution, and the products generating maximum contribution orhaving maximum P/V ratio are treated as the maximum profitable products.These factors are in the form of limiting factor, or key factor, or scarce factor.A limiting factor is defined as the factor which limits the volume of output or the level of activity

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press

Role Of Cost In Decision-makingProfit = Revenues CostsIt is clear that a reduction in cost is one way to increase profits. The other way is to increase revenues.When reducing costs, it is important to ensure that there is no corresponding reduction in revenuesIn decision-making, the management seeks to minimize costs, but not by sacrificing revenues. Secondly, it is the price that justifies cost in competitive markets.

Management AccountingBy Paresh ShahOxford University Press

Management AccountingBy Paresh ShahOxford University Press