1. Activity Analysis, Cost Behavior and Cost Estimation
The relationship between cost estimation, cost behavior and cost prediction.
Cost Estimation
Cost Behavior
Cost Prediction
For managers to predict how costs will be affected by changes in an organization, they must understand the relation between these three categories and use a little magic.
Magic

2. Cost Behavior Patterns
Total variable cost increases in direct proportion to the change in activity level, but the variable cost per unit remains constant.
Fixed cost per unit decreases as the activity level increases, but the total fixed cost remains constant.
A semi-variable cost has both a fixed and a variable component.
A relevant range is the range of activity within which management expects the organization to operate.

3. Cost Definitions
An engineered cost results from a definitive physical relationship with the activity measure. (e.g. direct raw materials)
A committed cost results from an organization’s ownership or use of facilities and its basic organization structure. (e.g. property taxes and building depreciation)
A discretionary cost results from a discretionary management decision to spend a particular amount of money. (e.g. research & development)
Discretionary costs can be changed in the short run much more easily than committed costs.

4. Cost Estimation
Cost estimation is the process of determining how a particular cost behaves.
The cost analyst classifies each cost item in the ledger as variable, fixed or semi-variable.
Three methods to estimate cost:
The visual-fit method draws a cost line through a scatter diagram according to the visual perception of the analyst.
The high-low method fits a cost line to the data using the high activity and low activity data points.
The least-squares regression method minimizes the sum of the squared deviations between the cost line and the data points.