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Outsourcing has become a way for companies to change their cost structures overnight. Even fixed costs can become variable. Depending on the types of relevant costs, a firm must decide between outsourcing and "do it yourself." But how can a small business owner determine whether a cost is relevant? The frameworks suggested here offer examples of quantitative analysis using combinations of variable direct, labor, discretionary fixed, and committed fixed direct costs. Using learning curve analysis, demonstrated indifference, Monte Carlo simulation, and economic value added, accountants can evaluate such situations and help steer the firm toward the right decision.

Owners of small firms are not likely to give much thought to an accounting system during the planning or implementation phases of their business. The business plan forces them to use pro forma financial statements, and soon afterwards they will need certified accounting methods for meeting the needs of investors, lenders, and taxing authorities. But systems designed solely for those needs often fail to provide the managerial accounting information necessary to operate the venture--to make sound operating, strategic, and tactical decisions. The traditional accounting system relied on to do this is "absorption costing." Absorption costing, however, does not include costs of marketing and distribution. This article demonstrates how activity-based costing (ABC) provides a better framework for gauging the profitability of product lines and avoids some of the distortions caused by absorption costing. ABC is particularly useful in service firms by identifying activities, specifying cost drivers for each activity, calculating charging rates for each activity, and allocating costs to each product/service. In particular, ABC enables the firm to isolate the costs of unused capacity. Simple examples are provided and worked through one step at a time to illustrate the differences in logic and conclusions yielded by ABC as opposed to absorption costing.