HOOFDSTUK 1
Information system: formal & informal info financial & non-financial info
Internal accounting system: budgets, data on costs of products, current inventory & periodic financial reports
Component of information system
Individuals maximize their self-interest
Conflict owners and employees
Control systems: mechanisms that help aim employee interest with maximizing organization’s value
Internal accounting systems (IAS):
2 purposes:
1. Decision making: providing knowledge
2. Control: monitor and motivate people
Trade-off: some ability to deliver knowledge for decision making is usually sacrificed to provide better
motivation (control)
Characteristics:
- Provide info: necessary to assess profitability of products or services and to optimally price and market
these products and services
- Provide info: to detect production inefficiencies to ensure that proposed product and volumes are
produced at minimum cost
- In combination with evaluation & reward system: create inventories for managers to maximize firm
value
- Supporting financial accounting and tax accounting reporting function
- Contribute more to firm value than its costs
IAS reports on managers’ performance and therefore provides incentives for them
IAS are generated more frequently
Critic on make/buy decisions because accounting is about historical costs and not current values
Firms survive in competition by selling goods or services at lower price than their competitors while still
covering costs
Benchmarking
Process of continuously comparing and measuring an organization’s business processing against business
leaders anywhere in this world to gain info which will help organizations to take action to improve
performance
Economic Darwinism
Successful firm practices will be imitated. Benchmarking does: discover best business practices and implement
them.
Suggests that in successful (surviving) firms, things should not be fixed unless they are clearly broken. BUT:
- Some surviving operating procedures can be neutral mutations.
Survive doesn’t mean that benefits exceeds costs: they could be equal
- Survive does not mean its optimal
Better systems might exist but has not been discovered yet
- Performance evaluation system
Motivate
Measure performance
Individuals act to influence measurements because rewards are based on measurement
- Reward system
Incentives and actions
Firm value
Costs: Direct: operating system
Indirect: dysfunctional decisions resulting from faulty information and poor performance evaluation
systems
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,HOOFDSTUK 2 THE NATURE OF COSTS
Opportunity costs
Benefit forgone as a result of choosing one course of action rather than the other next best alternative
Costs= sacrifice of resources
Opportunity set = alternative actions
Opportunity costs can be determined only within context of specific decision and only after specifying all
alternative actions
Estimated forgone benefits from actions that could, but will not, be undertaken.
Opportunity cost: sacrifice of best alternative for given action
Expense: cost incurred to generate revenue
Opportunity cost can be negative if the firm incurs costs for storing the product and if disposal is costly
Opportunity costs for materials not yet purchased is estimated cash outflow necessary to secure delivery
Materials already in stock: highest valued use elsewhere
Using them now requires to replace and therefore opportunity costs is cost of
replacement
OC of using asset is decline in value
Accounting depreciation (straight line, based on historical cost) does not necessarily reflect OC, but it can be
reasonably accurate approximation of decline in market value. In one year, it doesn’t but over lifetime
accumulated accounting depreciation equals decline in value.
If asset can be sold, interest = opportunity cost. If asset has no resale value, then interest is forgone.
Usually its optimal to have some excess capacity in order to absorb random shocks to normal production.
Average costs rise as volume increases because congestion increases
(second capacity * second average costs) – (first capacity * first average costs) / increase in units = incremental
cost of last increase in units and = opportunity cost
New product can cannibalizes old product sales. If managers expect competitors to introduce product that
competes with old product, then profits forgone because of the new product are not an opportunity cost of
introducing that new product.
Sunk costs:
Expenditures that have already been made and are irrelevant for evaluating future alternatives
Expenditures incurred in the past that cannot be recovered
They are irrelevant for decision making unless you are the one who sunk them.
Not irrelevant as control device: keep managers responsible for failures
Cost variation
Units produced is usually measure of activity
Fixed costs: cost incurred when there is no production
Cost curve is not straight line but rather curvilinear.
Marginal costs: cost of producing one more unit. Slope of a line drawn tangent to the total cost curve.
Marginal costs for first few units is high because employees must be hired, suppliers must be found and
marketing channels must be opened.
At normal production rates, the marginal cost are relatively low.
3
, At high levels of output, the marginal cost is incurred because of constraints on use of space, machines and
employees. Machines are more likely to fail when operating at or near capacity and labor costs increase
because employees are paid for overtime -> marginal costs near capacity is higher than under normal
conditions
Fact that cost is fixed with respect to volume changes, does not mean that it cannot be managed or reduced
Its not constant and known with certainty: they vary over time due to changes in prices. But do not vary with
changes in number of units produced
Average cost: dividing total cost by number of units produced. Slope of line from point O through point C.
average cost per unit increases as output nears capacity. At Z units, the average cost is larger than marhinal
cost.
Y-as intercept is fixed cost
Slope of line is variable cost
Variable cost: additional costs incurred when output is expanded.
Relevant range: rates of output for which sum of fixed and variable costs closely approximates total costs.
Because slopes of total cost curve and fixed and variable cost curve are about the same, the variable cost is
close approximation of marginal cost.
Variable cost per unit approximates marginal cost per unit.
Marginal cost: refers to cost of last unit produced and in most cases varies as volume changes
If marginal cost does not vary with volume, then marginal cost and variable cost per unit are equal
TC = FC + VC X Q
Step costs
Expenditures fixed over range of output levels
Mixed costs
Cost categories that cannot be classified as being purely fixed or purely variable
Cost driver = measure of physical activity most highly associated with variations in cost.
Single activity measure or multiple.
Classifying setup costs as being either fixed or variable can be right for some decisions and worng for others,
depending on whether batch size change.
Cost-volume-profit analysis
Contribution margin = price – variable cost profit per unit sold that can cover fixed costs
Break-even point = fixed costs / contribution margin
Marginal revenue = receipts form last unit sold.
Profit maximizing point of output: marginal revenue = marginal cost
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