Costing Alternative Choices Summary

When making a decision between one course of action or the other, it is beneficial to determine which will option will either minimize costs or maximize gains. In the business world, managers make these decisions based on evaluating the effect of the differential costs – the difference between the two options. From data generated from a firm’s cost-accounting system, managers can apply the rules of cost behavior to determine which cost factors are relevant to taking the best course of action. In one case, the difference between costs might be evaluated. In another case, both costs and revenues may be evaluated.

The cost-volume-profit model is useful in providing a foundation from which a decision can be made. It helps to map the break-even point by showing the intersection of the slope of the total revenue with that of total costs. It also shows where production levels lead to profits or losses. The total cost-volume is a function of fixed costs, variable costs and semivariable costs. In general, the cost-volume behavior of each is fairly consistent in that variable costs tend to be directly related to volume, fixed costs remain constant regardless of volume and semivariable costs have both fixed and variable components.

While the cost behavior models are fairly accurate, managers must be careful not to ignore several key considerations and ask themselves:
• Are the volume considerations within the relevant range of the alternative choices being considered?
• What other non-volume factors affect the costs?
• How does the time affect my variable and fixed costs?
• What other factors may affect variable costs?
• Do any costs have a non-linear relationship to volume?
• Which costs are most relevant in analyzing this alternative choice problem?

In cost-only cases, the best decision is the one that minimizes