Question

Describe a decision made by your company that involved costs that should have been ignored. Why did your company make the decision? What should it have done? Compute the profit consequences of the change.

please do use refridge example

Answer 1

Solution:

While taking corporate decisions there is tendency of making two mistakes, either considering irrelevant costs or ignoring relevant ones, this m described as fixed cost fallacy and hidden cause fallacy.

The fixed cost fallacy occurs due to consideration of costs such as overhead and depreciation This can be further explain. with the help of the following example :

Recently, a company which is a refrigerator manufacturing company decides. outsource the manufacturing of the freezer cases rather than making it in the company Weld While this decision was good as d was profitable for the company outsource cost wise a. also it would boost the functioning of the refrigerator Moreover, by reducing the cost the company could increase Its profit .

But there was a fixed cost that appeared in the balance sheet of the company, it was the cost .at represented assets of the company- the cost .at company had incurred while setting up .e unit to manufacture freezer case

The accountants were of the opinion that the company should think over. decision to outsource as the asset was worthless now due to outsource and that it would appear in the balance sheet as deprecation This would be compensated from the bonus as the company would not be able to meet profit goal

The company should have stopped the process of outsource and thus could have gamed an accounting profit and also the incentive of identifying fixed cost fallacy