Differential Accounting

This pertains to any decision situation where alternative choices are possible. 

Assume that furniture for a village school to be newly established are to be provided. If the authorities wish to manufacture them at site, the job will involve purchasing the materials, establishing a work-shed with facilities, employing labour, producing the quantum and types required and providing for disposal of wastes and for restoration of site and repatriation of labour. The total cost may work out to be, say, Rs. 3.54 lakhs. Assume also that trade enquiries from suppliers finally indicate that the same quantum and types of furniture can be bought and got delivered at site at a total commitment of, say. Rs. 4.25 lakhs. The differential cost of the latter aspect, viz. of external purchase, is Rs. 0.71 lakh; and it is obviously preferable to manufacture them at site through the former option. If, on the other hand, it were to so be that the latter option will limit the cost to Rs. 2.87 lakhs, the differential cost of the former aspect, viz. of at-site manufacture by the organisation, is Rs. 0.67 lakh; and then, the latter option is to be preferred. 

When the differential cost is within a pre-accepted percentage, the management may take a case-to-case adhoc decision. For example, if the latter option would cost, say, Rs. 3.51 lakhs, or may be even Rs. 3.58 lakhs, then management may specially like to take a conscious decision for either option. 

A certain feature bears mentioning. The amount of Rs. 3.54 lakhs mentioned above is taken to be inclusive of a profit margin comparable to what may be guessed as relevant in the case of external purchase. If this were not so, often it might be that the "make" decision would be preferable to the "buy" decision. The same discussions apply when the alternatives are as "lease" or "buy" decisions. 

Further, the alteri~atives  must be mutually exclusive and should not be lost sight of, i.e. the selection of one precludes the selection of the other.