[shahid6543]

QUESTION:

I came across this past exam-style question:

Cleverclogs is short of labour for a new one-off project needing 600 hours of labour and has choices as to where to source this. They could hire new people temporarily from an agency at a cost of $9 per hour. Alternatively, they could recruit new temporary staff at a fixed cost of advertising of $1,200 but then only pay $6 per hour for the time. They could also redirect some staff from existing work who are currently paid $7 per hour and who make sandals that generate a contribution of $3 per hour after all variable costs. Sandals are a good selling product and Cleverclogs will lose the production and the related sales whilst staff is working on the new one-off project. What is the relevant cash flow?

The textbook gives the correct answer as $4,800, which is the least costly option (hiring new people via recruitment: $1,200 + 600×$6). That makes sense.

However, my query is about the treatment of existing labour:

The internal redirection method is calculated as:
600 × ($7 + $3) = $6,000

I don’t fully agree with this method.

The labour is already employed and being paid $7/hour. This cost will continue whether they work on sandals or on the new project. So, the $7/hr is not an incremental cost. Therefore, the only relevant cost here should be the lost contribution of $3/hour, giving:
600 × $3 = $1,800

I found a previous reply by a tutor to a similar student query, which said:

> “If labour is being diverted, then the relevant cost is always the lost contribution plus the labour cost. The labour is still going to be paid, and therefore what is lost is the sales revenue less the other variable costs, which is the same as the contribution plus the labour cost.”

This is where I need clarification.

We are not disputing the $4,800 answer. Our doubt is in why the $7/hr wage is treated as relevant when the labour is already being paid — it seems to us that the only opportunity cost is the forgone contribution. Can you kindly explain when we should or shouldn’t include such fixed labour cost in relevant costing?

Thank you!

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