1. Relevant Information and Decision Making: Marketing Decisions
Chapter 9
Relevant Information
and Decision Making:
Marketing Decisions

2. Learning Objective 1
Discriminate between relevant
and irrelevant information
for making decisions.

3. The Concept of Relevance
What information is relevant?
It depends on the decision being made.
Decision making essentially involves
choosing among several courses of action.

4. The Concept of Relevance
What is the accountant’s role in decision making?
It is primarily that of a technical expert on
financial analysis.
The accountant helps managers focus on the
relevant information.

5. Relevant Information Relevant information is the predicted
future costs and revenues that will
differ among the alternatives.

6. Learning Objective 2
Use the decision process to
make business decisions.

7. Historical Information Implementation and Evaluation
The Decision Process
(A)
(B)
(1)
Historical Information
Other Information
(2)
Predictions as Inputs
to Decision Model
Prediction Method
(3)
Decisions by Managers
with Aid of Decision Model
Decision Model
(4)
Implementation and Evaluation
Feedback

8. The Decision Process Step 1 Gather relevant information using
historical accounting information and other
information from outside the accounting system.

9. The Decision Process Step 2 Using the information gathered in Step 1,
formulate predictions of expected future
revenues or expected future costs.
Step 3
The predictions formulated in Step 2
to the decision model.

10. The Decision Process Step 4
The decisions made by managers, with the aid of
the decision model, are implemented and evaluated.
Feedback is used to make future adjustments
to the decision process.

11. Decision Model Defined
A decision model is any method used for making a choice, sometimes requiring elaborate quantitative procedures.

12. Accuracy and Relevance
In the best of all possible worlds,
information used for decision
making would be perfectly
relevant and accurate.

13. Accuracy and Relevance
The degree to which information is
relevant or precise often depends
on the degree to which it is...
Qualitative
Quantitative

14. Learning Objective 3
Decide to accept or reject a
special order using the
contribution margin
technique.

15. Special Sales Order Example
Solo Company is offered a special order of $13 per unit for 100,000 units.
Should Solo accept the order?
The first step is to gather relevant information from Solo Company’s financial statements.

16. Special Sales Order Example
Solo Company
Income Statement
Year Ended December 31, 2002 (dollars 000)
Sales (1,000,000 units) $20,000
Less: Variable expenses
Manufacturing $12,000
Selling and administrative 1, ,100
Contribution margin $ 6,900

17. Special Sales Order Example
Solo Company
Income Statement
Year Ended December 31, 2002 (dollars 000)
Contribution margin $6,900
Less: Fixed expenses
Manufacturing $3,000
Selling and administrative 2, ,900
Operating income $1,000

18. Special Sales Order Example
Only variable manufacturing costs are affected by the particular order, at a rate of $12 per unit ($12,000,000 ÷ 1,000,000 units).
All other variable costs and all fixed costs are unaffected and thus irrelevant.

19. Special Sales Order Example
Special order sales price/unit $13
Increase in manufacturing costs/unit 12
Additional operating profit/unit $ 1
Based on the preceding analysis, should
Solo accept the order?

20. Learning Objective 4
Decide to add or delete
a product line using
relevant information.

21. Avoidable and Unavoidable Costs
Avoidable costs are costs that will not continue
if an ongoing operation is changed or deleted.
Unavoidable costs are costs that continue even if an operation is halted.

22. Department Store Example
Consider a discount department store that has three major departments:
Groceries
General merchandise
Drugs

23. Department Store Example
General
(000) Groceries Mdse. Drugs Total
Sales $1,000 $800 $100 $1,900
Variable expenses ,420
Contribution margin $ $240 $ 40 $ 480

24. Department Store Example
General
(000) Groceries Mdse. Drugs Total
Contribution margin $200 $240 $40 $480
Fixed expenses:
Avoidable $150 $100 $15 $265
Unavoidable
Total $210 $200 $35 $445
Operating income $ (10) $ 40 $ 5 $ 35

25. Department Store Example
For this example, assume first that the only alternatives to be considered are dropping or continuing the grocery department, which shows a loss of $10,000.
Assume further that the total assets invested would be unaffected by the decision.
The vacated space would be idle and the unavoidable costs would continue.

26. Dropping Products, Departments, Territories
Total Before Change
Sales $1,900,000
Variable expenses 1,420,000
Contribution margin ,000
Avoidable fixed expenses ,000
Contribution to common
space and unavoidable costs $ 215,000
Unavoidable fixed expenses ,000
Operating income $ ,000

27. Dropping Products, Departments, Territories
Effect of Dropping Groceries
Sales $1,000,000
Variable expenses ,000
Contribution margin ,000
Avoidable fixed expenses ,000
Contribution to common
space and unavoidable cost $ ,000

28. Dropping Products, Departments, Territories
Total After Change
Sales $900,000
Variable expenses ,000
Contribution margin ,000
Avoidable fixed expenses ,000
Contribution to common
space and unavoidable costs $165,000
Unavoidable fixed expenses 180,000
Operating income $ (15,000)

29. Learning Objective 5
Compute a measure of product
profitability when production
is constrained by a scarce
resource.

30. Optimal Use of Limited Resources
A limiting factor or scarce resource restricts or constrains the production or sale of a product or service.
The order to be accepted is the one that makes the biggest total profit contribution per unit of the limiting factor.

31. Product Profitability Example Constrained by a Scarce Resource
Assume that a company has two products: a plain cellular phone and a fancier cellular phone with many special features.

32. Product Profitability Example Constrained by a Scarce Resource
Plant workers can make 3 plain phones
in one hour or 1 fancy phone.
Product
Plain Fancy
Per Unit Phone Phone
Selling price $80 $120
Variable costs
Contribution margin $16 $ 36
Contribution margin ratio 20% %

33. Product Profitability Example Constrained by a Scarce Resource
Which product is more profitable?
If sales are restricted by demand for only
a limited number of phones, fancy
phones are more profitable.
Why?

34. Product Profitability Example Constrained by a Scarce Resource
The sale of a plain phone adds
$16 to profit.
The sale of a fancy phone adds
$36 to profit.

35. Product Profitability Example Constrained by a Scarce Resource
Now suppose annual demand for phones of both types is more than the company can produce in the next year.
Productive capacity is the limiting factor because only 10,000 hours of capacity are available.

36. Product Profitability Example Constrained by a Scarce Resource
Which product should the company emphasize?
Plain phone:
$16 contribution margin per unit × 3 units per hour
= 48 per hour
Fancy phone:
$36 contribution margin per unit × 1 unit per hour
= $36 per hour

37. Learning Objective 6
Discuss the factors that influence
pricing decisions in practice.

38. Pricing Decisions Among the many pricing decisions to be made are:
setting the price of a new or refined product
setting the price of products sold under private labels
responding to a new price of a competitor
pricing bids in both sealed and open bidding situations

39. The Concept of Pricing In perfect competition, a firm can sell as
much of a product as it can produce,
all at a single market price.
In imperfect competition, the price a firm
charges for a unit will influence the
quantity of units it sells.

40. The Concept of Pricing Marginal cost is the additional cost resulting
from producing one additional unit.
Marginal revenue is the additional revenue
resulting from the sale of one additional unit.
Price elasticity is the effect of price changes
on sales volume.

41. Influences on Pricing
Several factors interact to shape the market in which managers make pricing decisions:
legal requirements
competitors’ actions
customer demands

42. Learning Objective 7
Compute a target sales price
by various approaches and
compare the advantages
and disadvantages of
these approaches.

43. Role of Costs in Pricing Decisions
Two pricing approaches used by companies are:
Cost-plus pricing
Target costing

44. Target Sales Price There are four popular markup formulas for pricing:
As a percentage of variable manufacturing costs
As a percentage of total variable costs
As a percentage of full costs
As a percentage of total manufacturing cost

45. Relationships of Costs to Same Target Selling Prices
Target sales price $20.00
Variable costs:
Manufacturing $12.00
Selling and administrative
Unit variable cost
Fixed costs:
Manufacturing $ 3.00
Selling and administrative
Unit fixed costs
Target operating income $ 1.00

46. Relationships of Costs to Same Target Selling Prices
Markup percentages
% of variable
manufacturing
costs:
($20.00 – $12.00) ÷ $12.00
= 66.67%
% of total
variable
costs:
($20.00 – $13.10) ÷ $13.10
= 52.67%

47. Costing Techniques Target costing sets a cost before the
product is created or even designed.
Value engineering is a cost-reduction
technique, used primarily during design.
Kaizen costing is the Japanese word for
continuous improvement.

48. Learning Objective 8
Use target costing to decide
whether to add a new product.

49. Target Costing and Cost-Plus Pricing Compared
Suppose that ITT Automotive receives an invitation to bid from Ford on the anti-lock braking systems.
The current manufacturing cost is $154.
ITT Automotive’s desired gross margin rate is 30% on sales.
The market conditions have established a sales price of $200 per unit.

50. Target Costing and Cost-Plus Pricing Compared
What is the bid price using cost-plus pricing?
Bid price = Cost ÷ Cost % = $154 ÷ 0.7
Bid price = $220

51. Target Costing and Cost-Plus Pricing Compared
What is the bid price using target costing?
Target cost = Market price × Cost %
= $200 × 0.7
Target cost = $140
Bid price = Market price = $200

52. Learning Objective 9
Understand how relevant
information is used when
making marketing decisions.

53. Marketing Decisions Market Price = $200
Accountants and managers must have a thorough
understanding of relevant information, especially
costs, when making marketing decisions.

54. End of Chapter 5