CPP Costing Methods & Profitability 3 — Questions and Answers
Question 1: A company produces two products using the same machine. Product A has a contribution margin of $40 and requires 2 machine hours; Product B has a contribution margin of $30 and requires 1 machine hour. Which product should be prioritized when machine time is the constraint?
- Product A, because it has a higher total contribution margin
- Product B, because it has a higher contribution margin per machine hour (Correct answer)
- Both equally, because total contribution margin is what matters
- Product A, because it generates more revenue
Correct answer: Product B, because it has a higher contribution margin per machine hour
Product B generates $30/hour versus Product A's $20/hour ($40/2 hours), so Product B maximizes contribution per constrained resource.
Question 2: Standard costing produces a favorable materials price variance. What does this indicate?
- More material was used than the standard quantity
- Actual material cost was less than the standard cost (Correct answer)
- Less material was used than the standard quantity
- The selling price exceeded expectations
Correct answer: Actual material cost was less than the standard cost
A favorable materials price variance means the company paid less per unit of material than the standard price allowed.
Question 3: In the context of cost-volume-profit analysis, 'operating leverage' is best described as:
- The ratio of debt to equity in the capital structure
- The degree to which a firm uses fixed costs in its cost structure (Correct answer)
- The sensitivity of profits to changes in variable costs
- The ratio of gross profit to net profit
Correct answer: The degree to which a firm uses fixed costs in its cost structure
Operating leverage refers to the proportion of fixed costs in a company's cost structure, which amplifies the effect of revenue changes on operating income.
Question 4: A company allocates joint costs using the Net Realizable Value (NRV) method. Product X has a final selling price of $100 and $20 of separable processing costs; Product Y has a selling price of $60 and $10 of separable processing costs. What NRV does Product X contribute for allocation purposes?
- $100
- $80 (Correct answer)
- $60
- $120
Correct answer: $80
NRV = Final selling price minus separable costs after the split-off point = $100 - $20 = $80.
Question 5: Which statement best describes 'sunk costs' in pricing and profitability decisions?
- Costs that will be incurred regardless of the decision made
- Costs already incurred that cannot be recovered and are irrelevant to future decisions (Correct answer)
- Costs that vary directly with production volume
- Costs that can be avoided by choosing a different alternative
Correct answer: Costs already incurred that cannot be recovered and are irrelevant to future decisions
Sunk costs have already been incurred and cannot be changed by any future decision, making them irrelevant to forward-looking pricing and investment choices.
Question 6: A retailer calculates its 'gross margin return on inventory investment' (GMROII). What does a GMROII of 3.0 mean?
- The company earned $3.00 in gross margin for every $1.00 invested in inventory (Correct answer)
- The inventory turned over 3 times during the period
- The gross margin percentage is 30%
- The company has $3.00 in inventory for every $1.00 in sales
Correct answer: The company earned $3.00 in gross margin for every $1.00 invested in inventory
GMROII of 3.0 means the retailer generates $3.00 of gross margin for each dollar invested in average inventory, combining margin and turnover efficiency.
Question 7: When performing a 'make vs. buy' analysis, which of the following costs should be included as relevant?
- Depreciation on existing equipment used exclusively for this product
- Variable production costs that would be eliminated if outsourced (Correct answer)
- Allocated fixed overhead that will continue regardless of the decision
- Past development costs for the product
Correct answer: Variable production costs that would be eliminated if outsourced
Variable production costs that disappear if the product is outsourced are avoidable and therefore relevant to the make vs. buy decision.
CPP Costing Methods & Profitability 3
A company produces two products using the same machine.
Product A has a contribution margin of $40 and requires 2 machine hours; Product B has a contribution margin of $30 and requires 1 machine hour.
Which product should be prioritized when machine time is the constraint?