Bab 3 Cost Behavior
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Cost Behavior: Analysis and Use Chapter 3
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Bab 3 Cost Behavior
Transcript of Bab 3 Cost Behavior
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Cost Behavior:Analysis and Use
Chapter 3
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The McGraw-Hill Companies, Inc., 2003McGraw-Hill/Irwin
Recall the summary of our cost behavior discussion from Chapter 2.Types of Cost Behavior Patterns
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Summary of Variable and Fixed Cost Behavior
CostIn TotalPer Unit
VariableTotal variable cost isVariable cost per unit remains
proportional to the activitythe same over wide ranges
level within the relevant range.of activity.
FixedTotal fixed cost remains theFixed cost per unit goes
same even when the activitydown as activity level goes up.
level changes within the
relevant range.
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The Activity BaseA measure of the event that causes the incurrence of a variable cost a cost driver
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Minutes TalkedTotal Long DistanceTelephone BillTrue Variable Cost Example Your total long distance telephone bill is based on how many minutes you talk.
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Minutes TalkedPer MinuteTelephone ChargeVariable Cost Per Unit Example The cost per minute talked is constant. For example, 10 cents per minute.
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Step-Variable CostsActivityCostTotal cost remainsconstant within anarrow range ofactivity.
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Step-Variable CostsActivityCostTotal cost increases to a new higher cost for the next higher range of activity.
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ActivityTotal CostEconomistsCurvilinear Cost FunctionThe Linearity Assumption and the Relevant RangeExh.5-4
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Number of Local CallsMonthly Basic Telephone BillTotal Fixed Cost Example Your monthly basic telephone bill is probably fixed and does not change when you make more local calls. Exh.5-5
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Number of Local CallsMonthly Basic Telephone Bill per Local CallFixed Cost Per Unit ExampleThe fixed cost per local call decreases as more local calls are made.Exh.5-5
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Cost BehaviorMerchandisersCost of Goods SoldManufacturersDirect Material, Direct Labor, and Variable Manufacturing OverheadMerchandisers and ManufacturersSales commissions and shipping costsService Organizations Supplies and travelExamples of normally variable costsExamples of normally fixed costsMerchandisers, manufacturers, and service organizationsReal estate taxes, Insurance, Sales salariesDepreciation, Advertising
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ExamplesAdvertising and Research and DevelopmentExamplesDepreciation on Buildings and EquipmentTypes of Fixed CostsDiscretionaryMay be altered in the short-term by current managerial decisionsCommittedLong-term, cannot be reduced in the short term.
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Example: Office space is available at a rental rate of $30,000 per year in increments of 1,000 square feet. As the business grows more space is rented, increasing the total cost.Fixed Costs and Relevant Range
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Rent Cost in Thousands of Dollars 0 1,000 2,000 3,000 Rented Area (Square Feet)03060Fixed Costs and Relevant Range90 Relevant RangeTotal cost doesnt change for a wide range of activity, and then jumps to a new higher cost for the next higher range of activity.Exh.5-6
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How does this type of fixed cost differ from a step-variable cost?
Step-variable costs can be adjusted more quickly and . . .The width of the activity steps is much wider for the fixed cost.Fixed Costs and Relevant Range
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Quick Check Which of the following statements about cost behavior are true?Fixed costs per unit vary with the level of activity.Variable costs per unit are constant within the relevant range.Total fixed costs are constant within the relevant range.Total variable costs are constant within the relevant range.
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Fixed MonthlyUtility ChargeVariable Cost per KWActivity (Kilowatt Hours) Total Utility CostA mixed cost has both fixed and variablecomponents. Consider the example of utility cost. Mixed Costs Total mixed cost
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Fixed MonthlyUtility ChargeVariable Cost per KWActivity (Kilowatt Hours) Total Utility CostMixed Costs Total mixed cost Y = a + bX
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The total mixed cost line can be expressed
as an equation: Y = a + bX
Where:Y=the total mixed cost
a=the total fixed cost (the
vertical intercept of the line)
b=the variable cost per unit of
activity (the slope of the line)
X=the level of activity
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The Analysis of Mixed CostsEngineering ApproachAccount AnalysisHigh-Low MethodLeast-Square Regression Method
Scattergraph Plot
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Account Analysis & Engineering EstimatesEach account is classified as eithervariable or fixed based on the analysts knowledge of how the account behaves.Cost estimates are based on an evaluation of production methods, and material, labor and overhead requirements.
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Plot the data points on a graph (total cost vs. activity).The Scattergraph Method
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0 1 2 3 4*Total Cost in1,000s of Dollars10200*********Activity, 1,000s of Units ProducedXYQuick-and-Dirty MethodIntercept is the estimated fixed cost = $10,000Draw a line through the data points with about anequal numbers of points above and below the line.
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0 1 2 3 4*Total Cost in1,000s of Dollars10200*********Activity, 1,000s of Units ProducedXYQuick-and-Dirty MethodThe slope is the estimated variable cost per unit. Slope = Change in cost Change in unitsVertical distance is the change in cost.Horizontal distance is the change in activity.
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WiseCo recorded the following production activity and maintenance costs for two months:
Using these two levels of activity, compute: the variable cost per unit; the fixed cost; and then express the costs in equation form Y = a + bX. The High-Low Method
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UnitsCost
High activity level$ 8,0009,800
Low activity level$ 5,000$ 7,400
Change$ 3,0002,400
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Changein costChange in unitsThe High-Low Method Variable cost per unit = Change in cost change in units
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UnitsCost
High activity level$ 8,0009,800
Low activity level$ 5,000$ 7,400
Change$ 3,0002,400
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The High-Low Method Variable cost per unit = $2,400 3,000 units
= $0.80 per unit
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UnitsCost
High activity level$ 8,0009,800
Low activity level$ 5,000$ 7,400
Change$ 3,0002,400
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The High-Low Method Variable cost = $2,400 3,000 units = $0.80 per unit Fixed cost = Total cost Total variable cost
Fixed cost = $9,800 ($0.80 per unit 8,000 units) Fixed cost = $9,800 $6,400 = $3,400
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UnitsCost
High activity level$ 8,0009,800
Low activity level$ 5,000$ 7,400
Change$ 3,0002,400
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Variable cost = $2,400 3,000 units = $0.80 per unit Fixed cost = Total cost Total variable cost
Fixed cost = $9,800 ($0.80 per unit 8,000 units) Fixed cost = $9,800 $6,400 = $3,400 Total cost = Fixed cost + Variable cost (Y = a + bX) Y = $3,400 + $0.80X
The High-Low Method
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UnitsCost
High activity level$ 8,0009,800
Low activity level$ 5,000$ 7,400
Change$ 3,0002,400
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Sales salaries and commissions are $10,000 when 80,000 units are sold, and $14,000 when 120,000 units are sold. Using the high-low method, what is the variable portion of sales salaries and commission?a. $0.08 per unitb. $0.10 per unit c. $0.12 per unitd. $0.125 per unitQuick Check
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Sales salaries and commissions are $10,000 when 80,000 units are sold, and $14,000 when 120,000 units are sold. Using the high-low method, what is the fixed portion of sales salaries and commissions?a. $ 2,000b. $ 4,000 c. $10,000d. $12,000Quick Check
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Total cost=Total fixed cost +
Total variable cost
$14,000=Total fixed cost +
($0.10 120,000 units)
Total fixed cost=$14,000 - $12,000
Total fixed cost=$2,000
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Software can be used to fit a regression line through the data points.The cost analysis objective is the same: Y = a + bx
Least-Squares Regression MethodLeast-squares regression also provides a statistic, called the R2, that is a measure of the goodnessof fit of the regression line to the data points.
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0 1 2 3 4Total Cost10200Activity**********Least-Squares Regression MethodR2 is the percentage of the variation in total cost explained by the activity.R2 for this relationship is near100% since the data points arevery close to the regression line.XY
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Cost Estimation MethodsRegression AnalysisA statistical method used to create an equation relating independent (or X) variables to dependent (or Y) variables.Past data is used to estimate relationships between costs and activities.
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Caution: Before doing the analysis, take time to determine if a logical relationship between the variables exists.Cost Estimation MethodsRegression AnalysisThe simple cost model is actually a regression model:TC = F + VXThis model will only be useful within a relevant range of activity.
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Cost Estimation MethodsRegression AnalysisA set of data can be regressed using several techniques:Manual computationsSPSS or SAS Statistical SoftwareExcel or other spreadsheet
The result of the regression process is a regression model:TC = F + VXEach regression model has an R-square (R2) measure of how good the model is.Range of R2 = 0 to 1.0
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Simple Regression AnalysisExampleFasco wants to know its average fixed cost and variable cost per unit. Using the data to the right, lets see how to do a regression using Excel.
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MonthTotal CostsUnits (Meals)
January$6,7201,280
February7,2601,810
March7,2701,620
April11,0602,830
May12,5803,630
June8,6602,610
July8,5802,460
August9,5502,640
September13,0503,620
October11,0602,840
November7,3201,820
December7,3701,650
January6,7901,260
February7,4801,850
March6,9901,710
April11,4002,940
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Simple Regression AnalysisExample You will need three pieces of information from your regression analysis:Estimated Variable Cost per Unit (line slope)Estimated Fixed Costs (line intercept)Goodness of fit, or R2
To get these three pieces of information we will need to use THREE different excel functions.LINEST, INTERCEPT, & RSQ
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MonthTotal CostsUnits (Meals)
January$6,7201,280
February7,2601,810
March7,2701,620
April11,0602,830
May12,5803,630
June8,6602,610
July8,5802,460
August9,5502,640
September13,0503,620
October11,0602,840
November7,3201,820
December7,3701,650
January6,7901,260
February7,4801,850
March6,9901,710
April11,4002,940
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Simple Regression Using Excel 2000
First, open the excel file with your data and click on Insert and Function
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Simple Regression Using Excel 2000
When the function box opens, click on Statistical, then on LINEST
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Simple Regression Using Excel 2000
1. Enter the cell range for the cost amounts in the Known_ys box.2. Enter the cell range for the quantity amounts in the Known_xs box.By clicking on the buttons to the left, you can highlight the desired cells directly from the spreadsheet.
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Simple Regression Using Excel 2000
The Slope, or estimated variable cost per unit, is identified here. Click OK to put this value on your spreadsheet.
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Simple Regression Using Excel 2000
Repeat the procedure using Intercept, to estimate fixed cost.
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Simple Regression Using Excel 2000
As previously, enter the appropriate cell ranges in their appropriate places.The estimated fixed cost is identified here.
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Simple Regression Using Excel 2000
Finally, determine the goodness of fit, or R2, by using the RSQ function.
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Simple Regression Using Excel 2000
As previously, enter the appropriate cell ranges in their appropriate places.The estimated R2 for your estimated cost function is identified here.
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The Contribution Format
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TotalUnit
Sales Revenue100,00050
Less: Variable costs$ 60,000$ 30
Contribution margin40,00020
Less: Fixed costs$ 30,000
Net operating income10,000
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The Contribution Format
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Comparison of the Contribution Income Statement
with the Traditional Income Statement
Traditional ApproachContribution Approach
(costs organized by function)(costs organized by behavior)
Sales$ 100,000Sales$ 100,000
Less cost of goods sold70,000Less variable expenses60,000
Gross margin$ 30,000Contribution margin$ 40,000
Less operating expenses20,000Less fixed expenses30,000
Net operating income$ 10,000Net operating income$ 10,000
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End of Chapter 5
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