Question

ELG Holiday company has been trying to win the business of the UNIT group for some time and is keen to provide a quotation which the UNIT group will find acceptable in the hope that this will lead to future contracts. The manager of ELG has produced the following cost estimate for the conference: Coach running costs 2,000 Driver costs 3,000 Hotel costs 5,000 General Overheads 2,000 Sub total 12,000 Profit (30%) 3,600 You are the cost accountant of ELG. You have considered the cost estimate, but you believe that it would be more appropriate to base the quotation on relevant costs. You have therefore obtained the following further information: Coach running costs represent the fuel costs of $1,500 plus an apportionment of the annual fixed costs of operating the coach. No specific fixed costs would be incurred if the coach is used on this contract. If the contract did not go ahead, the coach would not be in use for eight out of ten days of the conference. For the other two days a contract has already been accepted which contains a significant financial penalty clause. This contract earns a contribution of $250 per day. A replacement coach could be hired for $180 per day. Driver costs represent the salary and related employment costs of one driver for 10 days. If the driver is used on this contract the company will need to replace the driver so that ELG can complete its existing work. The replacement driver would be hired from a recruitment agency that charges $400 per day for a suitably qualified driver. Hotel costs are the expected costs of hiring the hotel for the conference. General overheads are based upon the overhead absorption rate of ELG and are set annually when the company prepares its budgets. The only general overhead cost that can be specifically identified with the conference is the time that has been spent in considering the costs of the conference and preparing the quotation. This amounted to $250. Explain clearly the reasons for each of the following values in your quotation and for excluding any of the costs: i. Fuel cost Apportionment of annual fixed costs for operating the coach i. Hiring a replacement coach for two days @ $180 per day. Driver employed by the company's employed driver ii. iv. Hotel cost V. General overhead vi. Prepare a statement showing the total relevant costs of the contract Why is the distinction between relevant and non-relevant costs so important for decision making in management accounting?

Answer 1

Sl.No.	Particulars	Total cost	Relevant cost	Non-relevant cost	Explanation
i.	Coach running costs	1,500	1,500	-	1500 is purely fuel expenses attributable to the contract.
ii.	Apportionment of annual fixed costs for operating the coach	500	-	500	Apportionment of fixed cost without any specific fixed cost attributable to the contract is irrelevant in decision making.
iii.	Hiring Replacement coach for 2 days	360	360	-	Replacement of coach due to this specific contract is a relevant cost
iv.	Driver costs	3,000	-	3,000	Existing employed driver costs is not relevant.
	Replacement driver costs	4,000	4,000		400 per day of recruitment agency for 10 days due to this project is relevant. This is specifically charged by the recruitment agency for providing a suitably qualified driver.
v.	Hotel costs	5,000	5,000	-	It is relevant as the same is related to hiring the hotel for the conference.
vi.	General Overheads	2,000	250	1,750	Costs of conference and preparing the quotation is the only cost attributable to the contract and therefore the remaining ones are irrelevant.
	Total	16,360	11,110	5,250
Total relevant costs
Sl.No.	Particulars	Relevant cost
i.	Coach running costs	1,500
ii.	Apportionment of annual fixed costs for operating the coach	-
iii.	Hiring Replacement coach for 2 days	360
iv.	Driver costs	-
	Replacement driver costs	4,000
v.	Hotel costs	5,000
vi.	General Overheads	250
	Total	11,110
Relevant costs are important for decision making because these are the additional costs to be incurred when a new project/work/contract is undertaken. Irrelevant costs are the ones which the company will incur anyway. Therefore while management makes a decision, only the additional costs due to new project is to be considered so that the lowest and true cost for the work is ascertained. This will help the management to know the price to accept a contract where there is no profit or loss situation. Based on the same, management can take a best decision.