Activity Analysis, Cost Behavior, and Cost Estimation Chapter 6 Activity Analysis, Cost Behavior, and Cost Estimation

Learning Objective 1

Relationship between cost and activity. Introduction Cost estimation Cost behavior Relationship between cost and activity. Cost prediction Using knowledge of cost behavior to forecast level of cost at a particular activity. Focus is on the future. Process of determining cost behavior, often focusing on historical data.

Learning Objective 2

Total Variable Cost Example Your total Pay Per View bill is based on how many Pay Per View shows that you watch. Total Pay Per View Bill Number of Pay Per View shows watched

Variable Cost Per Unit Example The cost per Pay Per View show is constant. For example, $4.95 per show. Cost per Pay Per View show Number of Pay Per View shows watched

Total cost remains constant within a narrow range of activity. Step-Variable Costs Total cost remains constant within a narrow range of activity. Cost Activity

Total Fixed Cost Example Your monthly basic cable TV bill probably does not change no matter how many hours you watch. Monthly Basic Cable Bill Number of hours watched

Fixed Cost Per Unit Example The average cost per hour decreases as more hours are spent watching cable television. Monthly Basic cable Bill per hour watched Number of hours watched

Rent Cost in Thousands of Dollars Step-Fixed Costs 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. 90 60 Rent Cost in Thousands of Dollars 30 0 1,000 2,000 3,000 Rented Area (Square Feet)

Slope is variable cost per unit of activity. Semivariable Cost Slope is variable cost per unit of activity. Total semivariable cost Variable Utility Charge Total Utility Cost Fixed Monthly Utility Charge Activity (Kilowatt Hours)

Curvilinear Cost Total Cost Curvilinear Cost Function A straight-line (constant unit variable cost) closely approximates a curvilinear line within the relevant range. Relevant Range Activity

Learning Objective 3

Curvilinear Cost Total Cost Curvilinear Cost Function A straight-Line (constant unit variable cost) closely approximates a curvilinear line within the relevant range. Relevant Range Activity

Learning Objective 4

Engineered, Committed and Discretionary Costs Long-term, cannot be reduced in the short term. Discretionary May be altered in the short term by current managerial decisions. Depreciation on Buildings and equipment Advertising and Research and Development Direct Materials Engineered Physical relationship with activity measure.

Learning Objective 5

Account Classification Method Cost estimates are based on a review of each account making up the total cost being analyzed.

Visual-Fit Method * Estimated fixed cost = $10,000 20 A scatter diagram of past cost behavior may be helpful in analyzing mixed costs. Vertical distance is total cost, approximately $16,000. 0 1 2 3 4 * Total Cost in 1,000’s of Dollars 10 20 Activity, 1,000’s of Units Produced Estimated fixed cost = $10,000

The High-Low Method OwlCo recorded the following production activity and maintenance costs for two months: Using these two levels of activity, compute: the variable cost per unit. the total fixed cost.

The High-Low Method 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

Learning Objective 5 cont., 6 and 7 can be found in the Text Book

End of Chapter 6