Ignoring Costs That Cannot Be Recovered
In continuing with the case study sample, it came about that during the first year of the lease, the company’s business has not shown any signs of considerable improvement despite the branch office’s establishment in the region. The increment being realized is not as high as had been expected.
It appears that the investors in the oil exploration project have been pulling out their financial support due to rumors that the drilling venture is only a hoax. Hence, the region’s economic boom may take longer or, at worst, may not even take place if the local authorities are able to prove that the exploration is indeed a hoax.
Now there are current suggestions for the company to slash the salaries of the employees in order to ease the cost of the leased property. Others are against this suggestion because the cost of the lease is already considered a loss that is not recoverable. Besides, the company will likewise face additional risks of contending with employment issues and lawsuits, which will only aggravate their current financial position.
It is in this perspective that management will ignore the $200,000 lease contracted, since the cost is a capital investment that cannot be recovered in terms of increments. Accounting-wise, however, the cost is being spread out for a period of five years. This denotes that the loss is also being spread out by matching it against the actual revenue that will be realized annually.
It follows, therefore, that with all other business decisions to be made in running the operation of the regional office, the company should dismiss the idea of recovering the $200,000 in lease costs.