Lecture Managerial accounting: Creating value in a dynamic business environment (10th edition): Chapter 6 - Ronald W. Hilton, David E. Platt

Chapter 6 - Activity analysis, cost behavior, and cost estimation. After completing this chapter, you should be able to: Explain the relationships between cost estimation, cost behavior, and cost prediction; define and describe the behavior of the following types of costs: variable, step-variable, fixed, step-fixed, semivariable (or mixed), and curvilinear; explain the importance of the relevant range in using a cost behavior pattern for cost prediction;...

Activity Analysis, Cost Behavior, and

Cost Estimation

Chapter 6

Cost prediction

Using knowledge

of cost behavior

to forecastlevel of cost at

a particularactivity Focus

is on the future

Introduction

Cost behavior

Relationshipbetweencost andactivity

Total Variable Cost Example

Your total Pay Per View bill is based on how many Pay

Per View shows that you watch.

Number of Pay Per View shows watched

Variable Cost Per Unit Example

The cost per Pay Per View show is constant For example,

Total cost increases to a

new higher cost for the

next higher range of

activity

Total Fixed Cost Example

Your monthly basic cable TV bill probably does not change

no matter how many hours you watch

Number of hours watched

Fixed Cost Per Unit Example

The average cost per hour decreases as more hours are

spent watching cable television.

Number of hours watched

30 60 90

Total cost doesn’t change for a wide range of activity, and then jumps to a new higher cost for the

next higher range of activity

Step-Fixed Costs

Semivariable Cost

A semivariable

cost is partly fixed and partly

variable.

Consider the following

Fixed Monthly Rental Charge

Variable Lease Charge Per Hour

Rental Charge Per Hour

of activity.

Curvilinear Cost Curvilinear

A straight-line (constant unit variable cost) closely approximates a curvilinear line within the relevant range

Curvilinear Cost Curvilinear

A straight-Line (constant unit variable cost) closely approximates a curvilinear line within the relevant range.

Engineered, Committed, and

Discretionary Costs

Discretionary

May be altered in the short term by current managerial decisions.

Depreciation on

Buildings and

equipment

Advertising and Research and Development Direct

Materials

Visual-Fit Method

A scatter diagram of past cost behavior

may be helpful in analyzing mixed costs.

Plot the data points on a graph (total cost vs activity).

Draw a line through the plotted data points so that about equal numbers of points fall above and below the line

Visual-Fit Method

Vertical distance

is total cost, approximately

Activity, 1,000’s of Units Produced

Estimated fixed cost = $10,000

The High-Low Method

Owl Co recorded the following production activity &

maintenance costs for two months:

the variable cost per unit

the total fixed cost.

High activity level 9,000 $ 9,700

Low activity level 5,000 6,100

Units Cost

The High-Low Method

Units Cost

Unit variable cost = in cost in units

The High-Low Method

Units Cost

Unit variable cost = $3,600 ÷ 4,000 units = $0.90 per unit

The High-Low Method

Units Cost

Unit variable cost = $3,600 ÷ 4,000 units = $0.90 per unit

Fixed cost = Total cost – Total variable cost

The High-Low Method

Unit variable cost = $3,600 ÷ 4,000 units = $0.90 per unit

Fixed cost = Total cost – Total variable cost

Fixed cost = $9,700 – ($0.90 per unit × 9,000 units)

The High-Low Method

Units Cost

Unit variable cost = $3,600 ÷ 4,000 units = $.90 per unit

Fixed cost = Total cost – Total variable cost

Fixed cost = $9,700 – ($.90 per unit × 9,000 units)

Fixed cost = $9,700 – $8,100 = $1,600

The High-Low Method

Least-Squares Regression Method

Regression is a statistical procedure used

to determine the relationship between variables such

as activity and cost.

Y = a + bX

The X term coefficient ( b )

is the estimate of variable cost per unit of activity, the slope of the cost line.

The intercept term (a) is

the estimate of fixed costs

Equation Form of Least-Squares

Regression Line

Least-Squares Regression Method

Statistics courses and

computer courses deal with

detailed regression

computations using

Microsoft Excel.

Accountants and managers

must be able to interpret and

use regression estimates.

Terms in the equation have the same meaning as in simple regression with

only one independent variable.

Engineering Method

of Cost Estimation

Cost estimates are based on measurement

and pricing of the work involved.

Effect of Learning

on Cost Behavior

As I make more of these

things it takes me less

time for each one It must

be the learning curve effect

that the boss was

talking about.

I’ve noticed the same thing And if you include all the variable overhead costs that are also declining, that must

be the experience curve.

Learning effects become smaller, eventually reaching steady state.

Data Collection Problems