A key technique in managerial accounting/finance is the use of “Cost Benefit Ana

Question

A key technique in managerial accounting/finance is the use of “Cost Benefit Analysis” to help management make better business decisions.

Define this approach in your own words and discuss 1-2 applications of this concept in the Acquisition/Contracting work environment (examples might include make vs. buy, plant location, new product or packaging, downsizing, acquisition/divestiture, etc.).

Discuss a variable or assumption within the project where the data was difficult to obtain -- and what you did to develop a reasonable assumption for the project economics. Additionally, share or create one example where using financial data and cost benefit analysis did or could have led to a better decision.

Explanation / Answer

Cost benefit analysis is an analysis where a decision in the business is analyzed for its strength and weakness to determine if the benefit is more/less than its cost and thus finally to accept or reject the business decision.

Example 1: To Purchase a molding machine to produce plastic chairs

The cost will include initial fixed cost and regular variable cost.

Benefit will include the revenue from sales of the finished goods

Cost benefit analysis will calculate the PV of the benefits and subtracts PV of the variable cost and the initial cost. If the result is positive the project can be accepted otherwise rejected

Example 2: Acquisition of a business

Cost will include the cost to acquire the business and the variable cost to run the business

Benefit will include the revenue from the business

Cost benefit analysis will calculate the PV of the benefits and subtracts PV of the variable cost and the acquisition cost. If the result is positive the project can be accepted otherwise rejected

Variable assumptions within a project where data is difficult to obtain are

Discount rate: Discount rate to be used to discount the cost and benefit to get the Present value of the cost and benefit. I found out the cost of the capital for the firm and assumed that the same cost of capital will continue in the future too that includes assuming constant debt to equity ratio.

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