In a company when considering the future, plans need to be made for investing in capital projects. There are a number of capital investment appraisal techniques which are used so as to decide whether to proceed with a project. Outline the main techniques which we can consider using the methods of calculating them, together with the strengths and weaknesses of these techniques. There are similarities between the two methods, the economist s version of events assumes that variable costs are not constant, being subject to the law of diminishing returns. This is the observable phenomena whereby the variable cost per unit of production is initially high because of learning time and low levels of output, but falls as production increases, fixed costs remaining constant, but eventually declines as inefficiencies set in.
Management accountants assume that variable costs are constant in the short term.
There is much to commend the accountant s view. In the short run variable costs should be known and the approach is more practical than the economist s view, since many organisations will produce batches of output, rather than an additional unit. However, the practice of discounting when buying and selling in bulk does tend to mean that variable costs will increase in steps, given different levels of output. The difference between the two approaches may be summed up by stating that the economist produces a theoretically sound model which explains cost behaviour over time and the management accountant picks out specific applications of the general theory to apply to a small number of practical examples. The system should be perceived to be fair by both the employer and the employee.