Intermediate: Advice on continuing a project with sunk and opportunity costs

(a) Identify the distinguishing characteristics of direct costs.

(3 marks)

(b) A research project, which to date has cost the company

£150000, is under review. II is anticipated that, should the project be allowed to proceed, it will be completed in approximately one year when the results would be sold to a government agency for £300 000.

Shown below are the additional expenses which the managing director estimates will be necessary to complete the work.

Materials - £60 000 This material, which has just been received, is extremely toxic and if not used on the project would have to be disposed of by special means, at a cost of £5000.

Labour - £40 000 The men are highly skilled and very difficult to recruit. They were transferred to the project from a production department and, at a recent board meeting, the works director claimed that if the men were returned to him he could earn the company each year £150 000 extra sales. The accountant calculated that the prime cost of those sales would be

£100 000 and the overhead absorbed (all fixed) would amount to £20 000.

Research staff - £60 000 a decision has already been taken that this will be the last major piece of research undertaken, and consequently when work on the project ceases the staff involved will be made redundant. Redundancy and severance pay have been estimated at £25 000.

Share of general building services- £35000 The managing director is not very sure what is included in this expense. He knows, however, that the accounts staff charge similar amounts every year to each department.

Required:

Assuming the estimates are accurate, advise the managing director whether the prOJect should be allowed to proceed. You must carefully and clearly explain the reasons for your treatment of each expense item.