Accounting Business Reporting for Decision Making

438 Accounting: Business Reporting for Decision Making

(continued)

is made available to pursue the new business opportunity without eliminating the bookkeeping service

currently provided to clients. As part of the decision process, it will be necessary to undertake a finan-

cial analysis to identify the revenue and costs that will be affected by the outsourcing decision.

Relevant costs and revenue

Increase in revenue

Billable hours 1600 hours × $150 per hour ($200 − $50)

Avoidable overhead costs ($500 × 52 weeks)

$ 240 000

26 000

266 000

Increase in cost

Bookkeeping fee ($2000 × 52 weeks) 104 000

Net benefit to outsource $ 162 000

The switch in billable hours from bookkeeping services to consulting services has enabled the charge-

out rate to increase from $50 to $200 per hour, giving rise to a $150 increase in revenue per billable

hour. An analysis of the overhead expenditure has identified that the outsourcing will decrease costs

by $500 each week, with a total saving of $26 000 over the year. The financial benefits gained from the

outsourcing must be offset by the increase in costs resulting from the contract fee of $2000 per week.

All other income and costs are irrelevant because they will not change with either choice.

This analysis indicates that the outsourcing will be favourable for the entity from a financial per-

spective, as it is expected that profits will increase by $162 000. However, Gee Vesty will also need

to consider any qualitative factors that may affect the decision. For example: How reliable is the con-

tract bookkeeper? Does the person have the necessary experience? Can the bookkeeper complete

the assigned tasks within the timeframe expected by clients? Will all billable hours currently charged to

bookkeeping be taken up with consulting?

DECISION-MAKING EXAMPLE

Outsourcing

SITUATION A coastal city in Northern California was faced with the decision on how best to reduce

budget expenditure due to a cash shortfall as a result of a previous year budget blowout caused by

a legal dispute with a developer, which the city lost. An analysis of the budget records revealed that

40 per cent of its general expenditure related to the police budget. To reduce budget expenditure, the

decision was made to outsource the police services. What motivated this decision?

DECISION The decision to outsource police services enabled a cost saving of $3.5 million per year.

The responsibility for police services was outsourced to a nearby city. The rationale given was that

there were only about 17 violent crimes a year in the coastal city and that there had been only two

homicides in the past decade, both of which were solved. The outsourcing allowed the city to stretch

funds while still maintaining the same level of public protection.

As mentioned earlier, a range of other more qualitative factors may need to be considered in out-

sourcing decisions, particularly with respect to the management of risk-related factors. For example, a

recent building collapse at a garment manufacturer in Bangladesh which killed over 1000 workers has

caused many global companies to review their sourcing decisions and put in place stricter supervision

practices of their international suppliers.

Illustrative example 10.5 looks at the decision of whether Palamara Industries, a manufacturing entity,

should make or buy a special flashing light needed in the manufacture of a mobile phone.