In management accounting the premise of relevant costing is applied in order to evaluate business decisions. Such costing premise implies that only incremental costs and revenues pertinent to the decision at hand are considered. Past costs, commonly known as sunk costs and/or unaffected costs are irrelevant to the decision-making process. Therefore the calculations computed in Appendix A of this Report abide with the relevant costing principle noted in this paragraph.
At face value, the agreed price with FEE of $395 per unit is lower than the total manufacturing costs per unit of $425. However, before rushing into any drastic conclusions it is imperative to consider the relevant costs and revenues. Further more, in this case, a particular time frame ought to be set up, because FEE is requesting a two-year contract with the company. Therefore the relevant costs and revenues have to be computed on a two-year basis.
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Upon assessment of the incremental costs and revenues on the two year period, it is outlined in Appendix A that an Incremental Loss of $8,929,280 will occur if the company appoints FEE as its supplier for this particular product. Thus it is more financially viable to make the product rather than purchase it from a supplier. The reason behind such a loss mainly rests because the buy decision will be unable to affect the general company overheads, in which a substantial portion is allocated to the GPSN Model.
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