Relevant Costs and Short-Term Decisions (SACE Stage 2 Accounting)
“Identify relevant costs and apply them to short-term decisions such as special orders and make-or-buy”
A relevant cost is a future cash cost that differs between the options being compared. Sunk costs (already spent) and costs that stay the same whatever you choose are irrelevant and must be ignored. Short-term decisions such as accepting a special order or making versus buying are solved by comparing only the costs and revenues that change.
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What this dot point is asking
You need to classify costs as relevant or irrelevant and apply relevant costing to common short-term decisions.
What makes a cost relevant
A relevant cost is a future cost that differs between alternatives. A sunk cost has already been incurred and cannot be changed, so it is irrelevant. A fixed cost that continues regardless of the decision is also irrelevant to that decision. An opportunity cost, the benefit given up by choosing one option over another, is relevant.
The test is simple: ask whether the cost is in the future and whether it changes with the choice. If both are yes, include it; otherwise ignore it.
Special order decisions
A special order is a one-off sale, often below normal price. It is worth accepting in the short term if the price exceeds the relevant (usually variable) cost per unit and there is spare capacity, because existing fixed costs are already covered by normal trading.
Should the order be accepted?
Normal selling price $50; variable cost $30 per unit; fixed costs $80,000 are unchanged. A customer offers to buy 1,000 units at $36 each, using spare capacity.
Relevant comparison: the fixed $80,000 does not change, so it is irrelevant. Each special-order unit earns of contribution.
Extra contribution . Because fixed costs are unaffected, the $6,000 flows straight to profit. The order should be accepted on these figures, provided it does not displace full-price sales or upset regular customers.
Make-or-buy decisions
In a make-or-buy choice the business compares the relevant cost of producing internally with the price of buying from outside.
Internal cost versus supplier price
Making a component costs $8 variable plus $3 fixed overhead per unit; an outside supplier offers it at $9. The $3 fixed overhead will continue whether the part is made or bought.
Relevant cost to make (the fixed $3 is unavoidable and so irrelevant). Cost to buy .
Comparing relevant figures, making at $8 beats buying at $9 by $1 per unit, so the business should keep making it. Including the irrelevant $3 would wrongly make in-house look like $11 and reverse the decision.
Opportunity cost and scarce capacity
The relevant-cost framework changes when the business has no spare capacity. In the special-order example the $6,000 extra contribution flowed straight to profit only because the spare capacity was otherwise idle. If accepting the special order means turning away full-price work, the contribution given up on that displaced work becomes an opportunity cost and must be added to the relevant cost of the order. For example, if making the 1 000 special-order units would crowd out 600 units of normal sales each earning $20 contribution, the $12,000 of lost contribution is a relevant cost that may reverse the decision. SACE rewards students who explicitly test for capacity and bring opportunity cost into the comparison rather than mechanically accepting any order whose price exceeds variable cost.
Why qualitative factors still count
Relevant costing gives the financial answer, but decisions also depend on factors the numbers miss: supplier reliability, quality, the effect of a low special-order price on regular customers, and spare capacity. The cost analysis informs the decision; it does not make it alone. A make-or-buy decision that is marginally cheaper to outsource may still be rejected if it means losing control of quality, becoming dependent on a single supplier, or making skilled staff redundant whom the business will struggle to rehire. Equally, accepting a deeply discounted special order can train regular customers to expect lower prices, eroding future contribution well beyond the one-off gain. The strongest SACE answers therefore present the relevant-cost calculation as the financial case, then weigh it against at least one or two named qualitative factors before committing to a recommendation.
Including sunk or unavoidable fixed costs in the comparison. Money already spent, or a fixed cost that continues either way, cannot change the decision and must be left out. Dragging these irrelevant figures into the calculation is the single most common way students reach the wrong recommendation.
Exam-style questions
Questions in the style of SACE Board exam questions on this dot point, each with a worked answer. They are written by ExamExplained unless tagged "Past paper"; the year shows the paper a question is modelled on.
2021 SACE Stage 2-style4 marksBeau is investigating a new drink, the Mint Fauxito. He expects to sell 200 for $26 each over 3 months. Each drink costs $7 for ingredients and $5 for the bottle, and he must hire a mixing and bottling machine for $1,500 for the period. He says it is only worthwhile if it makes a profit of $1,200 for the period. Advise Beau whether he should introduce the drink, showing your calculations.Show worked answer →
Compare the additional (relevant) revenue and costs of the decision.
Additional revenue = 200 x 5,200.
Variable cost per drink = $7 ingredients + $5 bottle = 12 = $2,400.
Contribution = 5,200 - 2,400 = $2,800.
Less the additional fixed cost of hiring the machine = $1,500.
Forecast profit = 2,800 - 1,500 = $1,300.
Advice: the $1,300 forecast profit exceeds Beau's $1,200 target, so on the figures he should introduce the Mint Fauxito. The machine hire is a relevant cost because it only arises if he makes the drink. Any existing fixed costs that do not change are irrelevant. Markers reward a clear contribution calculation, deducting only the relevant additional fixed cost, and a recommendation that compares the $1,300 result with the $1,200 target.
SACE 2023-style5 marksA manufacturer currently produces 4 000 brackets a year at a variable cost of $14 each plus $6 per unit of allocated fixed overhead, of which $2 per unit is a supervisor's salary that would be saved if production stopped. An outside supplier offers the brackets at $17 each. Advise, with calculations, whether the business should make or buy, and state one qualitative factor that should also be considered.Show worked answer →
Compare only the relevant (avoidable) costs of making against the cost of buying.
Relevant cost to make per unit: variable cost plus the avoidable fixed cost of (the supervisor's salary that disappears if production stops) . The other of allocated overhead continues either way, so it is irrelevant.
Cost to buy per unit .
Per unit, making costs versus buying at , so making is cheaper by . Over units the saving from continuing to make is per year. On the figures the business should keep making the brackets.
Qualitative factor (any one): supplier reliability and delivery times, the quality and consistency of the bought-in part, the risk of becoming dependent on one supplier, or whether the freed-up capacity could earn more elsewhere. Markers reward isolating only the avoidable fixed cost, the per-unit and total comparison, a clear recommendation, and a relevant non-financial consideration.
Practise this
Sources & how we know this
- Stage 2 Accounting subject outline (2025 onwards) — SACE Board
- Stage 2 Accounting: external assessment — SACE Board