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Hi Sir,
The question is,
What is the relevant cost for skilled labour?
Hours required 8000
Paid £15 p/h
There are several shortages of employees with the skill the only way project could be done if employees were moved away from making product X. A unit of product X takes 4 hours and makes a contribution of £24 p/u.Answer: lost contribution of not making product 8000hrs x £ 6 = 48000
And 8000hrs @ £15= 120000
Total of 168000.I understand the cost contribution of not making the product X but I don’t understand why the labour cost of £120000 included in the relevant cost.
I assumed as that is a fixed cost and the workers would be paid regards or why isn’t it a saving as that money is not being spent making product X anymore?
Thank you
Let me make up a simple example.
Suppose we are currently making a product that takes 1 hour to make. It has a selling price of $20, material cost of $8, and a labour cost of $5. So the contribution is $7 per unit.
Suppose we now take that hour to use on a new product and so cannot make the current unit.
We lose the revenue of $20. We save the materials of $8. However we will still be paying the labour of $5 (so no extra labour cost).
The net amount loss is therefore 20 – 8 = $12, and this is the relevant cost.
This is equal to (and is always equal to) the contribution ($7) plus the labour cost ($5).
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