Question 1

A portrait painter has been asked to do far more portraits in the next three months than she has time to paint during that time period.To rank the possible portraits in order of their profitability, she should divide each portrait's estimated incremental profit by the amount of time she estimates it will take to paint the portrait.

Accepted Answer

Dividing estimated incremental profit by time will give the portrait's profitability per unit of time, allowing the painter to prioritize which portraits will bring in the most profit for the time and resources spent.

Question 2

The opportunity cost of using a unit of the constrained resource in a volume trade-off decision is determined by the profitability index of the product whose production would be cut back as a result of using the constrained resource.

Accepted Answer

The profitability index helps determine which products are most beneficial to produce, and in a volume trade-off decision, cutting back on production of a less profitable product to allocate resources to a more profitable product would incur an opportunity cost equal to the profitability of the product being cut back.

Question 3

The profitability index for a volume trade-off decision involving products should be computed by dividing the unit contribution margin of a product by the amount of the constrained resource required by one unit of the product.

Accepted Answer

The profitability index for a volume trade-off decision involving products should be computed by dividing the unit contribution margin of a product by the resource consumption rate of the product. This determines the profitability of the product relative to the constrained resource.

Question 4

If a company is considering accepting a number of jobs, but there is insufficient production capacity to do all of them, then the jobs that require the greatest amount of the production capacity should be rejected.

Accepted Answer

The statement is incorrect. The jobs that require the greatest amount of production capacity should be given priority and accepted if possible, as they may be the most profitable for the company. It would be better to reject jobs that require less production capacity or can be postponed for later.

Question 5

The absolute profitability of a business segment is determined by:
A)subtracting the variable costs of the business segment from its revenue.
B)subtracting the avoidable costs of the business segment from its revenue.
C)subtracting the full costs, including allocations of common fixed costs, of the business segment from its revenue.
D)finding the larger of the segments full costs or its revenues.

Accepted Answer

The answer of The absolute profitability of a business segment...

Question 6

The profitability index in a volume trade-off decision should be computed by:
A)dividing each product's contribution margin by the amount of the constrained resource used by the product.
B)dividing each product's contribution margin by its selling price.
C)dividing each product's selling price by the amount of the constrained resource used by the product.
D)dividing each product's variable cost by its selling price.

Accepted Answer

The profitability index is computed by dividing the present value of each project's cash inflows by the initial investment. However, in a volume trade-off decision where there is a constrained resource, the profitability index should be computed by dividing each product's contribution margin by the amount of the constrained resource used by the product. This allows for a better comparison of the products' profitability while taking into consideration the limited availability of the resource.

Question 7

A company that makes horsehair cowboy belts cannot meet the demand for belts due to a limited supply of artisans who know how to make the belts.To determine which models of the cowboy belts should be emphasized, the company should rank the models by dividing the unit contribution of each model by the selling price of the model.

Accepted Answer

The company should rank the models based on their profitability, which is determined by subtracting the total cost to produce the model from its selling price. Dividing the unit contribution (selling price minus variable cost per unit) by the selling price would only indicate the profit margin percentage, but not necessarily the profitability of the model.

Question 8

Relative profitability should be measured by dividing a segment's market share by its revenues.

Accepted Answer

Relative profitability should be measured by dividing a segment's profits by its revenues, not market share. Market share alone does not indicate profitability.

Question 9

When a company has a production constraint, the selling price of any new product should cover both its fully allocated cost-including common fixed costs-and the opportunity cost involved in using the constrained resource.

Accepted Answer

The answer of When a company has a production constraint,...

Question 10

Absolute profitability refers to the process of deciding which products to drop when a constraint forces trade-offs.

Accepted Answer

Absolute profitability refers to the process of determining which products or services are most profitable and should be prioritized, regardless of any constraints such as production capacity or limited resources. It does not necessarily involve dropping products, but rather optimizing the allocation of resources to increase overall profitability.

Question 11

The profitability index is computed by dividing the incremental profit from a segment by the sales of the segment.

Accepted Answer

The profitability index is computed by dividing the incremental profit from a segment by the investment in that segment, not by the sales of the segment.

Question 12

The absolute profitability of a segment is measured by subtracting the segment's avoidable costs from its revenues.

Accepted Answer

This statement is true. Absolute profitability is calculated by subtracting the segment's avoidable costs from its revenues.

Question 13

Dorich Corporation would like to determine the relative profitability of a number of jobs.For illustration purposes, the company has provided the following data for job P86M:  The amount of the constrained resource used by the job is 340 hours. What is the profitability index for job P86M?
A)$87 per hour
B)$290 per hour
C)$203 per hour
D)0.30

Accepted Answer

Profitability index = Incremental profit from the segment ÷ Amount of the constrained resource required by the segment = $29, 580 ÷ 340 hours = $87 per hour

Question 14

Hamelinck Corporation would like to determine the relative profitability of a number of jobs.For example, the revenue from Job W06Z is $77, 000 and its avoidable costs amount to $69, 300, resulting in an incremental profit of $7, 700.Furthermore, the job requires 220 hours of the constrained resource.What is the profitability index for job W06Z?
A)$315 per hour
B)$35 per hour
C)$350 per hour
D)0.10

Accepted Answer

Profitability index = Incremental profit from the segment ÷ Amount of the constrained resource required by the segment = $7, 700 ÷ 220 hours = $35 per hour

Question 15

When a company has a production constraint, the opportunity cost of using the constrained resource can be determined by multiplying the amount of the constrained resource used by the cost per unit of the most profitable product.

Accepted Answer

The answer of When a company has a production constraint,...

Question 16

Garbarino Corporation would like to determine the relative profitability of a number of jobs.For illustration purposes, the company has provided the following data for job C54V:   What is the profitability index for job C54V?
A)$290 per hour
B)$58 per hour
C)0.30
D)0.20

Accepted Answer

Profitability index = Incremental profit from the segment ÷ Amount of the constrained resource required by the segment = $14, 500 ÷ 250 hours = $58 per hour

Question 17

A catering service has contracts with a number of customers to supply lunches on a daily basis.The chef has complained of the long hours she must work to prepare all of these lunches and has threatened to quit.It would be very difficult, if not impossible, to replace the chef.To reduce the pressure on the chef, some contracts may have to be cancelled.(The catering service can cancel any contract with seven days notice. )To help make this decision, the profitability of each customer should be measured by dividing amount the customer is charged by the amount of the time it takes the chef to prepare the customer's meals.

Accepted Answer

While measuring profitability is important in making business decisions, cancelling contracts solely based on the time it takes the chef to prepare the meals may not be a fair or appropriate method. Other factors such as the revenue generated by the customer or the importance of the contract to the overall business strategy should also be considered.

Question 18

To encourage salespersons to sell the most profitable products, they should be paid sales commissions based on the profitability index and the amount of constraint time sold rather than on sales revenue.

Accepted Answer

Commission based on profitability index and constraint time sold will incentivize salespersons to focus on selling products that provide higher profit margins, rather than simply focusing on increasing sales revenue. This will ultimately lead to greater profitability for the company.

Question 19

In the absence of a constraint, all business segments that are absolutely profitable should be retained.

Accepted Answer

It makes sense to continue with profitable business segments as they contribute positively to the company's bottom line without any constraints. However, in reality, there could be other factors to consider such as strategic fit, growth potential, and resource allocation.

Question 20

Francke Corporation would like to determine the relative profitability of a number of jobs.For example, job H29O has revenues of $86, 400 and avoidable costs of $69, 120, resulting in an incremental profit of $17, 280.The job requires 160 hours of the constrained resource.The job is responsible for 13% of the company's total profit for the period.What is the profitability index for job H29O?
A)$108 per hour
B)$540 per hour
C)0.13
D)0.20

Accepted Answer

Profitability index = Incremental profit from the segment ÷ Amount of the constrained resource required by the segment = $17, 280 ÷ 160 hours = $108 per hour

Quiz 13: Profitability Analysis