Question

What is the effect of variable and fixed costs in incremental analysis? What information is important in determining whether to accept a special order or not?

Answer 1

Incremental analysis is a problem-solving approach that applies accounting information to decision making . Analysis models include only relevant costs, and these costs are typically broken into variable costs and fixed costs.

incremental costs are solely dependent on production volume. Conversely, fixed costs, such as rent and overhead, are omitted from incremental cost analysis because these costs typically don't change with production volumes .incremental cost are costs only incurred when an activity of relevance has been increased or initiated.

in conclusion fixed cost or sunk costs will not be taken in incremental analysis because the cost is already incurred and will not change with the change in production volume.variable costs will be taken in increamental analysis as they depend on the production volume.

the information is important for determining wheather to accept a special order is that the benefit exceeds the cost

Companies use incremental analysis to decide whether to accept additional business, make or buy products, sell or process products further, eliminate a product or service, and decide how to allocate resources.

When the company is operating at less than its maximum capacity and the company has enough capacity to produce and fill the special order, the order should be accepted if the additional sales exceed the additional variable costs.

When the company has no excess capacity, the cost to be considered must include the lost contribution or oppertuinity cost margin from sacrificing regular sales to be able to fill up the special order.