Megastar Software recently developed new spreadsheet software, Ad-Soon, which it
ID: 2592703 • Letter: M
Question
Megastar Software recently developed new spreadsheet software, Ad-Soon, which it intends to market by mail through ads in computer magazines. Just prior to introducing Ad-Soon, Megastar received an unexpected offer from Vision Computer Company to buy all rights to the software for £4 million cash.
Instructions
1- Is the £4 million offer “relevant” financial information? Why? (6 marks)
2- Describe Megastar’s opportunity cost if it:
a- accepts Vision Company’s offer and (6 marks)
b- Turns down the offer and markets Ad-Soon itself. (6 marks)
c-Would these opportunity costs be recorded in Megastar’s accounting records? (6 marks)
3- Briefly describe the extent to which the pound sterling amounts of the two opportunity costs described in part 2 are known to management at the time the decision is made to accept or reject Vision Company’s offer.(6 marks)
4- Might there be any other opportunity costs to consider at the time of the making this decision? If so, explain briefly. (18 marks)
5- Explain why opportunity costs represent a common source of error in making cost analyses.( 12 marks)
Explanation / Answer
1.
Yes; this is relevant since the cash amount could be avoided. It is avoided if the offer turns down. On that time pound 4 million would be the opportunity cost of not accepting the offer. Opportunity cost is the amount of benefit foregone for not entertaining an alternative scope of action. If the offer is rejected, the software company has to continue with the normal course of business which requires counting the opportunity cost as well; although it is not recorded in the books of accounts. If such amount is unavoidable (like fixed cost) by accepting or rejecting an opportunity, then it becomes irrelevant financial information; but here it is avoided, therefore relevant also.
2a.
If V’s offer is accepted, the profit out of company’s own marketing is gone; therefore, such profit would be the opportunity cost here.
2b.
If V’s offer turns down, the offer price (pound 4 million) is gone; therefore, such offer price would be the opportunity cost here.
2c.
Opportunity cost is implicit, means there is no money flow; therefore, such cost should not be considered in accounting record. In accounting all records are explicit.