Making Decisions Is A Basic Manager Function

Making Decisions Is One Of The Basic Functions Of A Manager To Be Suc

Making decisions is one of the basic functions of a manager. To be successful in decision making, managers must be able to perform differential analysis. Students are required to: 1. Define differential analysis. 2. Explain how the differential analysis is prepared. 3. Explain all decisions for which differential analysis can be used and give a numerical example for only apa style please answer all the above questions.

Paper For Above instruction

Introduction

Decision-making is a vital component of managerial roles, and effective strategies are necessary for optimal outcomes. Among various analytical tools, differential analysis stands out as a fundamental method for evaluating the financial implications of managerial decisions. This paper discusses the concept of differential analysis, its preparation process, applicable decisions, and illustrates its application through a numerical example, all aligned with APA style guidelines.

Definition of Differential Analysis

Differential analysis, also known as incremental analysis or marginal analysis, is a decision-making tool used to evaluate the financial differences between various alternatives by comparing their relevant costs and revenues. It focuses specifically on the changes or "differentials" that occur as a result of selecting one alternative over another (Garrison, Noreen, & Brewer, 2018). This approach enables managers to isolate the financial impact of specific decisions by analyzing only the relevant data, ignoring sunk costs or irrelevant information. By emphasizing the differences in costs and benefits, differential analysis simplifies complex decisions, ensuring that managers base their choices on pertinent financial data.

Preparation of Differential Analysis

Preparing differential analysis involves a systematic process. Initially, the decision alternatives are identified. Once options are outlined, relevant costs and revenues associated exclusively with each alternative are collected, concentrating only on those that will change depending on the decision—these are called differential or incremental costs and revenues (Drury, 2018). These costs might include variable costs, opportunity costs, or avoidable fixed costs, whereas irrelevant costs, such as sunk costs, are excluded. The next step is to calculate the difference—either positive or negative—between the relevant costs and revenues of each alternative. This differential amount indicates the potential benefit or loss associated with each choice. The option with the most favorable differential is typically selected, assuming other non-financial factors are constant. Proper preparation ensures decision-makers base their choices on accurate, pertinent data, leading to improved managerial outcomes.

Decisions for Which Differential Analysis Is Used

Differential analysis can be employed across a broad spectrum of managerial decisions. These include, but are not limited to:

- Make-or-buy decisions: Determining whether to manufacture a product internally or purchase it externally.

- Special order decisions: Assessing whether to accept one-time orders at reduced prices.

- Discontinuing a product or department: Deciding whether to drop a product line or division based on its contribution margin.

- Pricing decisions: Evaluating the impact of different pricing strategies on profitability.

- Capital investment decisions: Analyzing potential projects or investment opportunities based on incremental cash flows (Horngren, Sundem, & Stratton, 2014).

A common example involves a company deciding whether to accept a special order. If the additional contribution margin from the order exceeds the relevant costs, accepting the order is favorable.

Numerical Example

Suppose a manufacturing company is considering accepting a special order for 1,000 units of a product. The usual selling price is $30 per unit. The cost to produce one unit includes variable costs of $18 and fixed costs allocated at $5 per unit. The company wants to determine if accepting the order at a price of $25 per unit is beneficial, focusing solely on relevant costs.

Relevant costs per unit:

- Variable manufacturing costs: $18

- Avoidable fixed costs: $5 (since fixed costs are considered sunk or unavoidable in the short term)

Relevant revenue:

- Sale price for the special order: $25 per unit

Calculation:

Incremental revenue = 1,000 units × $25 = $25,000

Incremental costs = 1,000 units × ($18 + $5) = $23,000

Differential profit:

= Incremental revenue − Incremental costs = $25,000 − $23,000 = $2,000

Since the differential profit is positive, accepting the special order would increase the company's profit by $2,000. The decision thus hinges on whether there are any non-financial considerations, but purely from a financial perspective, the order should be accepted.

Conclusion

Differential analysis is a crucial decision-making tool that enables managers to evaluate the financial impact of various alternatives by focusing solely on relevant costs and revenues. Its systematic preparation process involves identifying relevant data and calculating the differential amounts to facilitate sound decisions. This method is applicable in numerous managerial decisions, such as pricing, special orders, and product discontinuation. The numerical example demonstrates its practical application, showcasing how differential analysis helps in making informed financial choices that contribute to organizational success.

References

Drury, C. (2018). Management and cost accounting (10th ed.). Cengage Learning.

Garrison, R. H., Noreen, E. W., & Brewer, P. C. (2018). Managerial accounting (16th ed.). McGraw-Hill Education.

Horngren, C. T., Sundem, G. L., & Stratton, W. O. (2014). Introduction to management accounting (16th ed.). Pearson.

Noreen, E. W., Brewer, P. C., & Garrison, R. H. (2019). Managerial accounting (8th ed.). McGraw-Hill Education.

Wild, J. J., Subramanyam, K. R., & Halsey, R. F. (2019). Financial statement analysis (12th ed.). McGraw-Hill Education.

Weygandt, J. J., Kimmel, P. D., & Kieso, D. E. (2019). Managerial accounting: Tools for business decision making (7th ed.). Wiley.

Hilton, R. W., & Platt, D. (2016). Managerial accounting: Creating value in a dynamic business environment (11th ed.). McGraw-Hill Education.

Anthony, R. N., & Govindarajan, V. (2014). Management control systems (13th ed.). McGraw-Hill Education.

Bhimani, A., Horngren, C. T., Datar, S. M., & Rajan, M. (2018). Management and cost accounting (7th ed.). Pearson.

Kaplan, R. S., & Atkinson, A. A. (2018). Advanced management accounting (3rd ed.). Pearson.