ACCA Performance Management (F5) Certification Practice Exam

What does incremental mean in the context of decision making?

1. Only cash flows that were incurred in the past are needed

2. Only extra cash flows that occur as a result of the decision are relevant

3. All costs should always be accounted for

4. Fixed costs are always relevant in decision making

The correct answer is: Only extra cash flows that occur as a result of the decision are relevant

In the context of decision making, the term "incremental" refers to the additional cash flows that are directly attributable to a specific decision. This means that when evaluating the financial implications of a choice, one should focus on the extra cash flows that arise as a direct result of that decision. This approach helps decision-makers to assess the impact of their choices accurately by isolating the effects of the decision from other factors. Choosing to only consider the extra cash flows ensures that the analysis captures the true economic benefit or cost associated with the decision. This approach aligns with principles of marginal analysis, where only the costs and revenues that change as a result of the decision are relevant for making informed choices about future actions. In contrast, other options focus on factors that are not directly related to the incremental nature of decision making. For example, considering only past costs does not help in evaluating future decisions since those costs are sunk and do not influence future cash flows. Similarly, stating that all costs should always be accounted for overlooks the importance of focusing only on relevant costs for the decision at hand. Lastly, it is incorrect to assert that fixed costs are always relevant, as they may not change as a result of the decision being considered.