Confirming Pages
Managerial Accounting and Cost Concepts
53
Exercises
All applicable exercises are available with McGraw-Hill’s Connect™ Accounting.
EXERCISE 2–1 Classifying Manufacturing Costs [LO1]
Your Boat, Inc., assembles custom sailboats from components supplied by various manufacturers.
The company is very small and its assembly shop and retail sales store are housed in a Gig Harbor,
Washington, boathouse. Below are listed some of the costs that are incurred at the company.
Required:
For each cost, indicate whether it would most likely be classified as direct labor, direct materials,
manufacturing overhead, selling, or an administrative cost.
1. The wages of employees who build the sailboats.
2. The cost of advertising in the local newspapers.
3. The cost of an aluminum mast installed in a sailboat.
4. The wages of the assembly shop’s supervisor.
5. Rent on the boathouse.
6. The wages of the company’s bookkeeper.
7. Sales commissions paid to the company’s salespeople.
8. Depreciation on power tools.
EXERCISE 2–2 Classification of Costs as Period or Product Costs [LO2]
Suppose that you have been given a summer job at Fairwings Avionics, a company that manufactures sophisticated radar sets for commercial aircraft. The company, which is privately owned, has
approached a bank for a loan to help finance its tremendous growth. The bank requires financial
statements before approving such a loan.
Required:
Classify each cost listed below as either a product cost or a period cost for purposes of preparing
the financial statements for the bank.
1. The cost of the memory chips used in a radar set.
2. Factory heating costs.
3. Factory equipment maintenance costs.
4. Training costs for new administrative employees.
5. The cost of the solder that is used in assembling the radar sets.
6. The travel costs of the company’s salespersons.
7. Wages and salaries of factory security personnel.
8. The cost of air-conditioning executive offices.
9. Wages and salaries in the department that handles billing customers.
10. Depreciation on the equipment in the fitness room used by factory workers.
11. Telephone expenses incurred by factory management.
12. The costs of shipping completed radar sets to customers.
13. The wages of the workers who assemble the radar sets.
14. The president’s salary.
15. Health insurance premiums for factory personnel.
EXERCISE 2–3 Fixed and Variable Cost Behavior [LO3]
Koffee Express operates a number of espresso coffee stands in busy suburban malls. The fixed
weekly expense of a coffee stand is $1,100 and the variable cost per cup of coffee served is $0.26.
Required:
1.
Fill in the following table with your estimates of total costs and average cost per cup of coffee
at the indicated levels of activity for a coffee stand. Round off the cost of a cup of coffee to the
nearest tenth of a cent.
Cups of Coffee Served in a Week
Fixed cost . . . . . . . . . . . . . . . . . . . . . . . . . .
Variable cost . . . . . . . . . . . . . . . . . . . . . . . .
Total cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Average cost per cup of coffee served . . . .
gar11005_ch02_024-082.indd 53
1,800
1,900
2,000
?
?
?
?
?
?
?
?
?
?
?
?
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54
Chapter 2
2.
Does the average cost per cup of coffee served increase, decrease, or remain the same as the
number of cups of coffee served in a week increases? Explain.
EXERCISE 2–4 High-Low Method [LO4]
The Edelweiss Hotel in Vail, Colorado, has accumulated records of the total electrical costs of the
hotel and the number of occupancy-days over the last year. An occupancy-day represents a room
rented out for one day. The hotel’s business is highly seasonal, with peaks occurring during the ski
season and in the summer.
Month
January . . . . . . . . .
February . . . . . . . .
March . . . . . . . . . . .
April . . . . . . . . . . .
May . . . . . . . . . . . .
June . . . . . . . . . . .
July . . . . . . . . . . . . .
August . . . . . . . . .
September . . . . . .
October . . . . . . . . .
November . . . . . . .
December . . . . . . .
OccupancyDays
Electrical
Costs
2,604
2,856
3,534
1,440
540
1,116
3,162
3,608
1,260
186
1,080
2,046
$6,257
$6,550
$7,986
$4,022
$2,289
$3,591
$7,264
$8,111
$3,707
$1,712
$3,321
$5,196
Required:
1.
2.
Using the high-low method, estimate the fixed cost of electricity per month and the variable
cost of electricity per occupancy-day. Round off the fixed cost to the nearest whole dollar and
the variable cost to the nearest whole cent.
What other factors other than occupancy-days are likely to affect the variation in electrical
costs from month to month?
EXERCISE 2–5 Traditional and Contribution Format Income Statements [LO5]
Redhawk, Inc., is a merchandiser that provided the following information:
Number of units sold . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Selling price per unit . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Variable selling expense per unit . . . . . . . . . . . . . . . . . . .
Variable administrative expense per unit . . . . . . . . . . . . . .
Total fixed selling expense . . . . . . . . . . . . . . . . . . . . . . . .
Total fixed administrative expense . . . . . . . . . . . . . . . . . . .
Merchandise inventory, beginning balance . . . . . . . . . . . .
Merchandise inventory, ending balance . . . . . . . . . . . . . .
Merchandise purchases . . . . . . . . . . . . . . . . . . . . . . . . . .
10,000
$15
$2
$1
$20,000
$15,000
$12,000
$22,000
$90,000
Required:
1.
2.
Prepare a traditional income statement.
Prepare a contribution format income statement.
EXERCISE 2–6 Identifying Direct and Indirect Costs [LO6]
The Empire Hotel is a four-star hotel located in downtown Seattle.
Required:
For each of the following costs incurred at the Empire Hotel, indicate whether it would most likely
be a direct cost or an indirect cost of the specified cost object by placing an X in the appropriate
column.
gar11005_ch02_024-082.indd 54
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Managerial Accounting and Cost Concepts
Cost
Ex.
1.
2.
3.
4.
5.
6.
7.
8.
Direct
Cost
Cost Object
Room service beverages
The salary of the head chef
The salary of the head chef
Room cleaning supplies
Flowers for the reception desk
The wages of the doorman
Room cleaning supplies
Fire insurance on the hotel building
Towels used in the gym
A particular hotel guest
The hotel’s restaurant
A particular restaurant customer
A particular hotel guest
A particular hotel guest
A particular hotel guest
The housecleaning department
The hotel’s gym
The hotel’s gym
55
Indirect
Cost
X
EXERCISE 2–7 Differential, Opportunity, and Sunk Costs [LO7]
The Sorrento Hotel is a four-star hotel located in downtown Seattle. The hotel’s operations vice
president would like to replace the hotel’s antiquated computer terminals at the registration desk
with attractive state-of-the-art flat-panel displays. The new displays would take less space, would
consume less power than the old computer terminals, and would provide additional security since
they can only be viewed from a restrictive angle. The new computer displays would not require
any new wiring. The hotel’s chef believes the funds would be better spent on a new bulk freezer
for the kitchen.
Required:
For each of the items below, indicate by placing an X in the appropriate column whether it should
be considered a differential cost, an opportunity cost, or a sunk cost in the decision to replace the
old computer terminals with new flat-panel displays. If none of the categories apply for a particular
item, leave all columns blank.
Differential Opportunity Sunk
Cost
Cost
Cost
Item
Ex.
1.
2.
3.
4.
5.
6.
7.
8.
Cost of electricity to run the terminals . . . . . . . . . . . . . . .
Cost of the new flat-panel displays . . . . . . . . . . . . . . . . .
Cost of the old computer terminals . . . . . . . . . . . . . . . . .
Rent on the space occupied by the registration desk . . .
Wages of registration desk personnel . . . . . . . . . . . . . . .
Benefits from a new freezer . . . . . . . . . . . . . . . . . . . . . . . .
Costs of maintaining the old computer terminals . . . . . . .
Cost of removing the old computer terminals . . . . . . . . .
Cost of existing registration desk wiring . . . . . . . . . . . . .
X
EXERCISE 2–8 Cost Behavior; Contribution Format Income Statement [LO3, LO5]
Parker Company manufactures and sells a single product. A partially completed schedule of the
company’s total and per unit costs over a relevant range of 60,000 to 100,000 units produced and
sold each year is given below:
Units Produced and Sold
gar11005_ch02_024-082.indd 55
60,000
80,000
100,000
Total costs:
Variable costs . . . . . . . . .
Fixed costs . . . . . . . . . . .
Total costs . . . . . . . . . . . . .
$150,000
360,000
$510,000
?
?
?
?
?
?
Cost per unit:
Variable cost . . . . . . . . . .
Fixed cost . . . . . . . . . . . .
Total cost per unit . . . . . . . .
?
?
?
?
?
?
?
?
?
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56
Chapter 2
Required:
1.
2.
Complete the schedule of the company’s total and unit costs.
Assume that the company produces and sells 90,000 units during the year at the selling price
of $7.50 per unit. Prepare a contribution format income statement for the year.
EXERCISE 2–9 Cost Classification [LO1, LO2, LO3, LO7]
Several years ago Medex Company purchased a small building adjacent to its manufacturing plant
in order to have room for expansion when needed. Since the company had no immediate need for
the extra space, the building was rented out to another company for rental revenue of $40,000 per
year. The renter’s lease will expire next month, and rather than renewing the lease, Medex Company has decided to use the building itself to manufacture a new product.
Direct materials cost for the new product will total $40 per unit. It will be necessary to hire
a supervisor to oversee production. Her salary will be $2,500 per month. Workers will be hired
to manufacture the new product, with direct labor cost amounting to $18 per unit. Manufacturing
operations will occupy all of the building space, so it will be necessary to rent space in a warehouse
nearby in order to store finished units of product. The rental cost will be $1,000 per month. In addition, the company will need to rent equipment for use in producing the new product; the rental cost
will be $3,000 per month. The company will continue to depreciate the building on a straight-line
basis, as in past years. Depreciation on the building is $10,000 per year.
Advertising costs for the new product will total $50,000 per year. Costs of shipping the new
product to customers will be $10 per unit. Electrical costs of operating machines will be $2 per unit.
To have funds to purchase materials, meet payrolls, and so forth, the company will have to liquidate some temporary investments. These investments are presently yielding a return of $6,000 per year.
Required:
Prepare an answer sheet with the following column headings:
Name
of the
Cost
Product Cost
Variable
Cost
Fixed
Cost
Direct
Materials
Direct
Labor
Manufacturing
Overhead
Period (Selling and
Administrative) Cost
Opportunity
Cost
Sunk
Cost
List the different costs associated with the new product decision down the extreme left column (under Name of the Cost). Then place an X under each heading that helps to describe the type
of cost involved. There may be X’s under several column headings for a single cost. (For example,
a cost may be a fixed cost, a period cost, and a sunk cost; you would place an X under each of these
column headings opposite the cost.)
EXERCISE 2–10 High-Low Method; Scattergraph Analysis [LO4]
Zerbel Company, a wholesaler of large, custom-built air conditioning units for commercial buildings,
has noticed considerable fluctuation in its shipping expense from month to month, as shown below:
Month
January . . . . . . . . . .
February . . . . . . . . .
March . . . . . . . . . . . .
April . . . . . . . . . . . .
May . . . . . . . . . . . . .
June . . . . . . . . . . . . .
July . . . . . . . . . . . . . .
Units
Shipped
Total Shipping
Expense
4
7
5
2
3
6
8
$2,200
$3,100
$2,600
$1,500
$2,200
$3,000
$3,600
Required:
1.
gar11005_ch02_024-082.indd 56
Prepare a scattergraph using the data given above. Plot cost on the vertical axis and activity
on the horizontal axis. Is there an approximately linear relationship between shipping expense
and the number of units shipped?
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Managerial Accounting and Cost Concepts
2.
3.
4.
57
Using the high-low method, estimate the cost formula for shipping expense. Draw a straight
line through the high and low data points shown in the scattergraph that you prepared in
requirement 1. Make sure your line intersects the Y axis.
Comment on the accuracy of your high-low estimates assuming a least-squares regression
analysis estimated the total fixed costs to be $1,010.71 per month and the variable cost to be
$317.86 per unit. How would the straight line that you drew in requirement 2 differ from a
straight line that minimizes the sum of the squared errors?
What factors, other than the number of units shipped, are likely to affect the company’s shipping expense? Explain.
EXERCISE 2–11 Traditional and Contribution Format Income Statements [LO5]
Haaki Shop, Inc., is a large retailer of surfboards. The company assembled the information shown
below for the quarter ended May 31:
Amount
Total sales revenue . . . . . . . . . . . . . . . . . . . . . . . . . . .
Selling price per surfboard . . . . . . . . . . . . . . . . . . . . . . .
Variable selling expense per surfboard . . . . . . . . . . . .
Variable administrative expense per surfboard . . . . . .
Total fixed selling expense . . . . . . . . . . . . . . . . . . . . . .
Total fixed administrative expense . . . . . . . . . . . . . . . .
Merchandise inventory, beginning balance . . . . . . . . .
Merchandise inventory, ending balance . . . . . . . . . . . .
Merchandise purchases . . . . . . . . . . . . . . . . . . . . . . . .
$800,000
$400
$50
$20
$150,000
$120,000
$80,000
$100,000
$320,000
Required:
1.
2.
3.
Prepare a traditional income statement for the quarter ended May 31.
Prepare a contribution format income statement for the quarter ended May 31.
What was the contribution toward fixed expenses and profits for each surfboard sold during
the quarter? (State this figure in a single dollar amount per surfboard.)
EXERCISE 2–12 Cost Behavior; High-Low Method [LO3, LO4]
Speedy Parcel Service operates a fleet of delivery trucks in a large metropolitan area. A careful
study by the company’s cost analyst has determined that if a truck is driven 120,000 miles during a
year, the average operating cost is 11.6 cents per mile. If a truck is driven only 80,000 miles during
a year, the average operating cost increases to 13.6 cents per mile.
Required:
1.
2.
3.
Using the high-low method, estimate the variable and fixed cost elements of the annual cost of
truck operation.
Express the variable and fixed costs in the form Y = a + bX.
If a truck were driven 100,000 miles during a year, what total cost would you expect to be
incurred?
EXERCISE 2–13 High-Low Method; Predicting Cost [LO3, LO4]
The number of X-rays taken and X-ray costs over the last nine months in Beverly Hospital are
given below:
Month
January . . . . . . . . . . .
February . . . . . . . . . . .
March . . . . . . . . . . . . . .
April . . . . . . . . . . . . . .
May . . . . . . . . . . . . . . .
June . . . . . . . . . . . . . .
July . . . . . . . . . . . . . . . .
August . . . . . . . . . . . .
September . . . . . . . . .
gar11005_ch02_024-082.indd 57
X-Rays Taken
X-Ray Costs
6,250
7,000
5,000
4,250
4,500
3,000
3,750
5,500
5,750
$28,000
$29,000
$23,000
$20,000
$22,000
$17,000
$18,000
$24,000
$26,000
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58
Chapter 2
Required:
1.
2.
3.
4.
5.
Using the high-low method, estimate the cost formula for X-ray costs.
Using the cost formula you derived above, what X-ray costs would you expect to be incurred
during a month in which 4,600 X-rays are taken?
Prepare a scattergraph using the data given above. Plot X-ray costs on the vertical axis and
the number of X-rays taken on the horizontal axis. Draw a straight line through the two data
points that correspond to the high and low levels of activity. Make sure your line intersects
the Y-axis.
Comment on the accuracy of your high-low estimates assuming a least-squares regression
analysis estimated the total fixed costs to be $6,529.41 per month and the variable cost to be
$3.29 per X-ray taken. How would the straight line that you drew in requirement 3 differ from
a straight line that minimizes the sum of the squared errors?
Using the least-squares regression estimates given in requirement 4, what X-ray costs would
you expect to be incurred during a month in which 4,600 X-rays are taken?
Problems
All applicable problems are available with McGraw-Hill’s Connect™ Accounting.
PROBLEM 2–14 Contribution Format versus Traditional Income Statement [LO5]
House of Organs, Inc., purchases organs from a well-known manufacturer and sells them at the
retail level. The organs sell, on the average, for $2,500 each. The average cost of an organ from the
manufacturer is $1,500. The costs that the company incurs in a typical month are presented below:
Costs
Selling:
Advertising . . . . . . . . . . . . . . . . . . . . . . .
Delivery of organs . . . . . . . . . . . . . . .
Sales salaries and commissions . . . . . .
Utilities . . . . . . . . . . . . . . . . . . . . . . . . . .
Depreciation of sales facilities . . . . . . . .
Administrative:
Executive salaries . . . . . . . . . . . . . . .
Depreciation of office equipment . . . . . .
Clerical . . . . . . . . . . . . . . . . . . . . . . . . . .
Insurance . . . . . . . . . . . . . . . . . . . . . . . .
Cost Formula
$950 per month
$60 per organ sold
$4,800 per month, plus 4% of sales
$650 per month
$5,000 per month
$13,500 per month
$900 per month
$2,500 per month, plus $40 per organ sold
$700 per month
During November, the company sold and delivered 60 organs.
Required:
1.
2.
3.
Prepare a traditional income statement for November.
Prepare a contribution format income statement for November. Show costs and revenues on
both a total and a per unit basis down through contribution margin.
Refer to the income statement you prepared in (2) above. Why might it be misleading to show
the fixed costs on a per unit basis?
PROBLEM 2–15 Identifying Cost Behavior Patterns [LO3]
A number of graphs displaying cost behavior patterns are shown on the next page. The vertical axis
on each graph represents total cost and the horizontal axis represents the level of activity (volume).
Required:
1.
gar11005_ch02_024-082.indd 58
For each of the following situations, identify the graph that illustrates the cost behavior pattern involved. Any graph may be used more than once.
a. Electricity bill—a flat fixed charge, plus a variable cost after a certain number of kilowatthours are used.
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Rev.Confirming Pages
Managerial Accounting and Cost Concepts
b.
City water bill, which is computed as follows:
First 1,000,000 gallons or less . . . . . .
Next 10,000 gallons . . . . . . . . . . . . . .
Next 10,000 gallons . . . . . . . . . . . . . .
Next 10,000 gallons . . . . . . . . . . . . . .
Etc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
c.
d.
e.
f.
g.
h.
i.
gar11005_ch02_024-082.indd 59
59
$1,000 flat fee
$0.003 per gallon used
$0.006 per gallon used
$0.009 per gallon used
Etc.
Depreciation of equipment, where the amount is computed by the straight-line method.
When the depreciation rate was established, it was anticipated that the obsolescence factor would be greater than the wear and tear factor.
Rent on a factory building donated by the city, where the agreement calls for a fixed fee
payment unless 200,000 labor-hours or more are worked, in which case no rent need be
paid.
Cost of raw materials, where the cost starts at $7.50 per unit and then decreases by
5 cents per unit for each of the first 100 units purchased, after which it remains constant
at $2.50 per unit.
Salaries of maintenance workers, where one maintenance worker is needed for every
1,000 hours of machine-hours or less (that is, 0 to 1,000 hours requires one maintenance
worker, 1,001 to 2,000 hours requires two maintenance workers, etc.).
Cost of raw material used.
Rent on a factory building donated by the county, where the agreement calls for rent of
$100,000 less $1 for each direct labor-hour worked in excess of 200,000 hours, but a
minimum rental payment of $20,000 must be paid.
Use of a machine under a lease, where a minimum charge of $1,000 is paid for up to 400
hours of machine time. After 400 hours of machine time, an additional charge of $2 per
hour is paid up to a maximum charge of $2,000 per period.
1
2
3
4
5
6
7
8
9
10
11
12
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Chapter 2
2.
How would a knowledge of cost behavior patterns such as those above be of help to a manager
in analyzing the cost structure of his or her company?
(CPA, adapted)
PROBLEM 2–16 Variable and Fixed Costs; Subtleties of Direct and Indirect Costs [LO3, LO6]
The Central Area Well-Baby Clinic provides a variety of health services to newborn babies and
their parents. The clinic is organized into a number of departments, one of which is the Immunization Center. A number of costs of the clinic and the Immunization Center are listed below.
Example: The cost of polio immunization tablets
a. The salary of the head nurse in the Immunization Center.
b. Costs of incidental supplies consumed in the Immunization Center, such as paper towels.
c. The cost of lighting and heating the Immunization Center.
d. The cost of disposable syringes used in the Immunization Center.
e. The salary of the Central Area Well-Baby Clinic’s information systems manager.
f. The costs of mailing letters soliciting donations to the Central Area Well-Baby Clinic.
g. The wages of nurses who work in the Immunization Center.
h. The cost of medical malpractice insurance for the Central Area Well-Baby Clinic.
i. Depreciation on the fixtures and equipment in the Immunization Center.
Required:
For each cost listed above, indicate whether it is a direct or indirect cost of the Immunization
Center, whether it is a direct or indirect cost of immunizing particular patients, and whether it is
variable or fixed with respect to the number of immunizations administered. Use the form shown
below for your answer.
Direct or
Indirect Cost of
the Immunization
Center
Item Description
Example: The cost of polio
immunization
tablets . . . . . . . . . . .
Direct
Direct or
Indirect Cost
of Particular
Patients
Indirect
Direct
X
Indirect
Variable or Fixed
with Respect
to the Number
of Immunizations
Administered
Variable
X
Fixed
X
PROBLEM 2–17 High-Low Method; Predicting Cost [LO3, LO4]
Echeverria SA is an Argentinian manufacturing company whose total factory overhead costs fluctuate somewhat from year to year according to the number of machine-hours worked in its production facility. These costs (in Argentinian pesos) at high and low levels of activity over recent years
are given below:
Level of Activity
Low
Machine-hours . . . . . . . . . . . . . . . .
Total factory overhead costs . . . . .
High
60,000
274,000 pesos
80,000
312,000 pesos
The factory overhead costs above consist of indirect materials, rent, and maintenance. The company has analyzed these costs at the 60,000 machine-hours level of activity as follows:
Indirect materials (variable)
Rent (fixed) . . . . . . . . . . . .
Maintenance (mixed) . . . . .
Total factory overhead costs
gar11005_ch02_024-082.indd 60
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
90,000 pesos
130,000
54,000
274,000 pesos
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Managerial Accounting and Cost Concepts
61
For planning purposes, the company wants to break down the maintenance cost into its variable
and fixed cost elements.
Required:
1.
2.
3.
Estimate how much of the factory overhead cost of 312,000 pesos at the high level of activity
consists of maintenance cost. (Hint: To do this, it may be helpful to first determine how much
of the 312,000 pesos cost consists of indirect materials and rent. Think about the behavior of
variable and fixed costs.)
Using the high-low method, estimate a cost formula for maintenance.
What total overhead costs would you expect the company to incur at an operating level of
65,000 machine-hours?
PROBLEM 2–18 Cost Behavior; High-Low Method; Contribution Format Income Statement
[LO3, LO4, LO5]
Frankel Ltd., a British merchandising company, is the exclusive distributor of a product that is
gaining rapid market acceptance. The company’s revenues and expenses (in British pounds) for the
last three months are given below:
Frankel Ltd.
Comparative Income Statements
For the Three Months Ended June 30
April
May
June
Sales in units . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3,000
3,750
4,500
Sales revenue . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cost of goods sold . . . . . . . . . . . . . . . . . . . . . . . .
Gross margin . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Selling and administrative expenses:
Shipping expense . . . . . . . . . . . . . . . . . . . . . . .
Advertising expense . . . . . . . . . . . . . . . . . . . . .
Salaries and commissions . . . . . . . . . . . . . . . .
Insurance expense . . . . . . . . . . . . . . . . . . . . . .
Depreciation expense . . . . . . . . . . . . . . . . . . . .
Total selling and administrative expenses . . . . . .
Net operating income (loss) . . . . . . . . . . . . . . . . .
£420,000
168,000
252,000
£525,000
210,000
315,000
£630,000
252,000
378,000
44,000
70,000
107,000
9,000
42,000
272,000
£ (20,000)
50,000
70,000
125,000
9,000
42,000
296,000
£ 19,000
56,000
70,000
143,000
9,000
42,000
320,000
£ 58,000
(Note: Frankel Ltd.’s income statement has been recast in the functional format common in the United
States. The British currency is the pound, denoted by £.)
Required:
1.
2.
3.
Identify each of the company’s expenses (including cost of goods sold) as either variable,
fixed, or mixed.
Using the high-low method, separate each mixed expense into variable and fixed elements.
State the cost formula for each mixed expense.
Redo the company’s income statement at the 4,500-unit level of activity using the contribution
format.
PROBLEM 2–19 High-Low and Scattergraph Analysis [LO4]
Sebolt Wire Company heats copper ingots to very high temperatures by placing the ingots in a
large heat coil. The heated ingots are then run through a shaping machine that shapes the soft ingot
into wire. Due to the long heat-up time, the coil is never turned off. When an ingot is placed in
the coil, the temperature is raised to an even higher level, and then the coil is allowed to drop to
the “waiting” temperature between ingots. Management needs to know the variable cost of power
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Chapter 2
involved in heating an ingot and the fixed cost of power during “waiting” periods. The following
data on ingots processed and power costs are available:
Required:
1.
2.
3.
Using the high-low method, estimate a cost formula for power cost. Express the formula in the
form Y = a + bX.
Prepare a scattergraph by plotting ingots processed and power cost on a graph. Draw a straight
line though the two data points that correspond to the high and low levels of activity. Make
sure your line intersects the Y-axis.
Comment on the accuracy of your high-low estimates assuming a least-squares regression
analysis estimated the total fixed costs to be $1,185.45 per month and the variable cost to be
$37.82 per ingot. How would the straight line that you drew in requirement 2 differ from a
straight line that minimizes the sum of the squared errors?
PROBLEM 2–20 Ethics and the Manager [LO2]
The top management of General Electronics, Inc., is well known for “managing by the numbers.”
With an eye on the company’s desired growth in overall net profit, the company’s CEO (chief
executive officer) sets target profits at the beginning of the year for each of the company’s divisions. The CEO has stated her policy as follows: “I won’t interfere with operations in the divisions.
I am available for advice, but the division vice presidents are free to do anything they want so long
as they hit the target profits for the year.”
In November, Stan Richart, the vice president in charge of the Cellular Telephone Technologies Division, saw that making the current year’s target profit for his division was going to
be very difficult. Among other actions, he directed that discretionary expenditures be delayed
until the beginning of the new year. On December 30, he was angered to discover that a warehouse clerk had ordered $350,000 of cellular telephone parts earlier in December even though
the parts weren’t really needed by the assembly department until January or February. Contrary
to common accounting practice, the General Electronics, Inc., Accounting Policy Manual states
that such parts are to be recorded as an expense when delivered. To avoid recording the expense,
Mr. Richart asked that the order be canceled, but the purchasing department reported that the
parts had already been delivered and the supplier would not accept returns. Because the bill had
not yet been paid, Mr. Richart asked the accounting department to correct the clerk’s mistake by
delaying recognition of the delivery until the bill is paid in January.
Required:
1.
2.
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Are Mr. Richart’s actions ethical? Explain why they are or are not ethical.
Do the general management philosophy and accounting policies at General Electronics
encourage or discourage ethical behavior? Explain.
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63
PROBLEM 2–21 High-Low Method; Predicting Cost [LO3, LO4]
Golden Company’s total overhead cost at various levels of activity are presented below:
Month
Machine-Hours
Total Overhead Cost
50,000
40,000
60,000
70,000
$194,000
$170,200
$217,800
$241,600
March . . . . . . . . . . . . . . . . . . . . .
April . . . . . . . . . . . . . . . . . . . .
May . . . . . . . . . . . . . . . . . . . . .
June . . . . . . . . . . . . . . . . . . . . . . . . .
Assume that the overhead cost above consists of utilities, supervisory salaries, and maintenance.
The breakdown of these costs at the 40,000 machine-hour level of activity is as follows:
Utilities (variable) . . . . . . . . . . . . . . . . .
Supervisory salaries (fixed) . . . . . . . . .
Maintenance (mixed) . . . . . . . . . . . . . .
Total overhead cost . . . . . . . . . . . . . . .
$ 52,000
60,000
58,200
$170,200
The company wants to break down the maintenance cost into its variable and fixed cost elements.
Required:
1.
2.
3.
4.
Estimate how much of the $241,600 of overhead cost in June was maintenance cost. (Hint:
To do this, it may be helpful to first determine how much of the $241,600 consisted of utilities and supervisory salaries. Think about the behavior of variable and fixed costs within the
relevant range.)
Using the high-low method, estimate a cost formula for maintenance.
Express the company’s total overhead cost in the form Y = a + bX.
What total overhead cost would you expect to be incurred at an activity level of 45,000
machine-hours?
PROBLEM 2–22 Cost Classification [LO2, LO3, LO6]
Listed below are costs found in various organizations.
1. Depreciation, executive jet.
2. Costs of shipping finished goods to customers.
3. Wood used in manufacturing furniture.
4. Sales manager’s salary.
5. Electricity used in manufacturing furniture.
6. Secretary to the company president.
7. Aerosol attachment placed on a spray can produced by the company.
8. Billing costs.
9. Packing supplies for shipping products overseas.
10. Sand used in manufacturing concrete.
11. Supervisor’s salary, factory.
12. Executive life insurance.
13. Sales commissions.
14. Fringe benefits, assembly-line workers.
15. Advertising costs.
16. Property taxes on finished goods warehouses.
17. Lubricants for production equipment.
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Chapter 2
Required:
Prepare an answer sheet with column headings as shown below. For each cost item, indicate
whether it would be variable or fixed with respect to the number of units produced and sold; and
then whether it would be a selling cost, an administrative cost, or a manufacturing cost. If it is a
manufacturing cost, indicate whether it would typically be treated as a direct or indirect cost with
respect to units of product. Three sample answers are provided for illustration.
Variable
or Fixed
Cost Item
Direct labor . . . . . . . . . . . . . . . .
Executive salaries . . . . . . . . . . .
Factory rent . . . . . . . . . . . . . . . . .
Selling
Cost
V
F
F
Administrative
Cost
Manufacturing
(Product) Cost
Direct
Indirect
X
X
X
PROBLEM 2–23 High-Low Method; Contribution Format Income Statement [LO4, LO5]
Alden Company has decided to use a contribution format income statement for internal planning
purposes. The company has analyzed its expenses and has developed the following cost formulas:
Cost
Cost Formula
Cost of goods sold . . . . . . . . . . . . . . . .
Advertising expense . . . . . . . . . . . . . . .
Sales commissions . . . . . . . . . . . . . . . .
Administrative salaries . . . . . . . . . . . . .
Shipping expense . . . . . . . . . . . . . . . . .
Depreciation expense . . . . . . . . . . . . . .
$20 per unit sold
$170,000 per quarter
5% of sales
$80,000 per quarter
?
$50,000 per quarter
Management has concluded that shipping expense is a mixed cost, containing both variable
and fixed cost elements. Units sold and the related shipping expense over the last eight quarters
are given below:
Quarter
Year 1:
First . . . . . . . . . . . . . . . . .
Second . . . . . . . . . . . . .
Third . . . . . . . . . . . . . . .
Fourth . . . . . . . . . . . . . .
Year 2:
First . . . . . . . . . . . . . . . . .
Second . . . . . . . . . . . . .
Third . . . . . . . . . . . . . . .
Fourth . . . . . . . . . . . . . .
Units Sold
Shipping Expense
16,000
18,000
23,000
19,000
$160,000
$175,000
$217,000
$180,000
17,000
20,000
25,000
22,000
$170,000
$185,000
$232,000
$208,000
Management would like a cost formula derived for shipping expense so that a budgeted contribution format income statement can be prepared for the next quarter.
Required:
1.
2.
Using the high-low method, estimate a cost formula for shipping expense.
In the first quarter of Year 3, the company plans to sell 21,000 units at a selling price of $50
per unit. Prepare a contribution format income statement for the quarter.
PROBLEM 2–24 Cost Classification and Cost Behavior [LO2, LO3, LO6]
Heritage Company manufactures a beautiful bookcase that enjoys widespread popularity. The
company has a backlog of orders that is large enough to keep production going indefinitely at the
plant’s full capacity of 4,000 bookcases per year. Annual cost data at full capacity follow:
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Direct materials used (wood and glass) . . . . . . . . . . .
Administrative office salaries . . . . . . . . . . . . . . . . . . .
Factory supervision . . . . . . . . . . . . . . . . . . . . . . . . . .
Sales commissions . . . . . . . . . . . . . . . . . . . . . . . . . .
Depreciation, factory building . . . . . . . . . . . . . . . . . . .
Depreciation, administrative office equipment . . . . . .
Indirect materials, factory . . . . . . . . . . . . . . . . . . . . . .
Factory labor (cutting and assembly) . . . . . . . . . . . . .
Advertising . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Insurance, factory . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Administrative office supplies (billing) . . . . . . . . . . . .
Property taxes, factory . . . . . . . . . . . . . . . . . . . . . . . .
Utilities, factory . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
65
$430,000
$110,000
$70,000
$60,000
$105,000
$2,000
$18,000
$90,000
$100,000
$6,000
$4,000
$20,000
$45,000
Required:
1.
Prepare an answer sheet with the column headings shown below. Enter each cost item on your
answer sheet, placing the dollar amount under the appropriate headings. As examples, this has
been done already for the first two items in the list above. Note that each cost item is classified
in two ways: first, as either variable or fixed with respect to the number of units produced and
sold; and second, as either a selling and administrative cost or a product cost. (If the item is a
product cost, it should also be classified as either direct or indirect as shown.)
Cost Behavior
Cost Item
Materials used . . . . . . . . .
Administrative office
salaries . . . . . . . . . . . . .
Variable
Fixed
Selling or
Administrative
Cost
$430,000
Product Cost
Direct
Indirect*
$430,000
$110,000
$110,000
*To units of product.
2.
3.
4.
Total the dollar amounts in each of the columns in (1) above. Compute the average product
cost per bookcase.
Due to a recession, assume that production drops to only 2,000 bookcases per year. Would
you expect the average product cost per bookcase to increase, decrease, or remain unchanged?
Explain. No computations are necessary.
Refer to the original data. The president’s next-door neighbor has considered making himself
a bookcase and has priced the necessary materials at a building supply store. He has asked the
president whether he could purchase a bookcase from the Heritage Company “at cost,” and the
president has agreed to let him do so.
a. Would you expect any disagreement between the two men over the price the neighbor
should pay? Explain. What price does the president probably have in mind? The neighbor?
b. Because the company is operating at full capacity, what cost term used in the chapter
might be justification for the president to charge the full, regular price to the neighbor and
still be selling “at cost”? Explain.
Cases
All applicable cases are available with McGraw-Hill’s Connect™ Accounting.
CASE 2–25 Scattergraph Analysis; Selection of an Activity Base [LO4]
Mapleleaf Sweepers of Toronto manufactures replacement rotary sweeper brooms for the large
sweeper trucks that clear leaves and snow from city streets. The business is seasonal, with the largest
demand during and just preceding the fall and winter months. Because there are so many different
kinds of sweeper brooms used by its customers, Mapleleaf Sweepers makes all of its brooms to order.
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Chapter 2
The company has been analyzing its overhead accounts to determine fixed and variable components for planning purposes. Below are data for the company’s janitorial labor costs over the last
nine months. (Cost data are in Canadian dollars.)
January . . . . . . . . . . . . .
February . . . . . . . . . . . .
March . . . . . . . . . . . . . . .
April . . . . . . . . . . . . . . . .
May . . . . . . . . . . . . . . . .
June . . . . . . . . . . . . . . .
July . . . . . . . . . . . . . . . . .
August . . . . . . . . . . . . . .
September . . . . . . . . . . .
Number of Units
Produced
Number of
Janitorial
Workdays
Janitorial
Labor Cost
115
109
102
76
69
108
77
71
127
21
19
23
20
23
22
16
14
21
$3,840
$3,648
$4,128
$3,456
$4,320
$4,032
$2,784
$2,688
$3,840
The number of workdays varies from month to month due to the number of weekdays, holidays, days of vacation, and sick leave taken in the month. The number of units produced in a month
varies depending on demand and the number of workdays in the month.
There are two janitors who each work an eight-hour shift each workday. They each can take
up to 10 days of paid sick leave each year. Their wages on days they call in sick and their wages
during paid vacations are charged to miscellaneous overhead rather than to the janitorial labor cost
account.
Required:
1.
2.
3.
Plot the janitorial labor cost and units produced on a scattergraph. (Place cost on the vertical
axis and units produced on the horizontal axis.)
Plot the janitorial labor cost and number of workdays on a scattergraph. (Place cost on the
vertical axis and the number of workdays on the horizontal axis.)
Which measure of activity—number of units produced or janitorial workdays—should be
used as the activity base for explaining janitorial labor cost?
CASE 2–26 Mixed Cost Analysis and the Relevant Range [LO3, LO4]
The Ramon Company is a manufacturer that is interested in developing a cost formula to estimate
the fixed and variable components of its monthly manufacturing overhead costs. The company
wishes to use machine-hours as its measure of activity and has gathered the data below for this
year and last year:
Last Year
Month
January . . . . . . . . . . . . . . . . . .
February . . . . . . . . . . . . . . . . .
March . . . . . . . . . . . . . . . . . . .
April . . . . . . . . . . . . . . . . . . . .
May . . . . . . . . . . . . . . . . . . . . .
June . . . . . . . . . . . . . . . . . . . .
July . . . . . . . . . . . . . . . . . . . . . .
August . . . . . . . . . . . . . . . . . .
September . . . . . . . . . . . . . . .
October . . . . . . . . . . . . . . . . . .
November . . . . . . . . . . . . . . . .
December . . . . . . . . . . . . . . . .
This Year
MachineHours
Overhead
Costs
MachineHours
Overhead
Costs
21,000
25,000
22,000
23,000
20,500
19,000
14,000
10,000
12,000
17,000
16,000
19,000
$84,000
$99,000
$89,500
$90,000
$81,500
$75,500
$70,500
$64,500
$69,000
$75,000
$71,500
$78,000
21,000
24,000
23,000
22,000
20,000
18,000
12,000
13,000
15,000
17,000
15,000
18,000
$86,000
$93,000
$93,000
$87,000
$80,000
$76,500
$67,500
$71,000
$73,500
$72,500
$71,000
$75,000
The company leases all of its manufacturing equipment. The lease arrangement calls for a flat
monthly fee up to 19,500 machine-hours. If the machine-hours used exceeds 19,500, then the fee
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becomes strictly variable with respect to the total number of machine-hours consumed during the
month. Lease expense is a major element of overhead cost.
Required:
1.
2.
3.
4.
5.
Using the high-low method, estimate a manufacturing overhead cost formula.
Prepare a scattergraph using all of the data for the two-year period. Fit a straight line or lines
to the plotted points using a ruler. Describe the cost behavior pattern revealed by your scattergraph plot.
Assume a least-squares regression analysis using all of the given data points estimated the
total fixed costs to be $40,102 and the variable costs to be $2.13 per machine-hour. Do you
have any concerns about the accuracy of the high-low estimates that you have computed or the
least-squares regression estimates that have been provided?
Assume that the company consumes 22,500 machine-hours during a month. Using the highlow method, estimate the total overhead cost that would be incurred at this level of activity. Be
sure to consider only the data points contained in the relevant range of activity when performing your computations.
Comment on the accuracy of your high-low estimates assuming a least-squares regression
analysis using only the data points in the relevant range of activity estimated the total fixed
costs to be $10,090 and the variable costs to be $3.53 per machine-hour.
Appendix 2A: Least-Squares Regression Computations
The least-squares regression method for estimating a linear relationship is based on the
equation for a straight line:
Y = a + bX
As explained in the chapter, least-squares regression selects the values for the intercept
a and the slope b that minimize the sum of the squared errors. The following formulas,
which are derived in statistics and calculus texts, accomplish that objective:
LEARNING OBJECTIVE 8
Analyze a mixed cost using a
scattergraph plot and the leastsquares regression method.
(ΣX)(ΣY)
b = n(ΣXY) − ______________
n(ΣX2) − (ΣX)2
(ΣY) − b(ΣX)
a = ____________
n
where:
X = The level of activity (independent variable)
Y = The total mixed cost (dependent variable)
a = The total fixed cost (the vertical intercept of the line)
b = The variable cost per unit of activity (the slope of the line)
n = Number of observations
∑ = Sum across all n observations
Manually performing the calculations required by the formulas is tedious at best.
Fortunately, statistical software packages are widely available that perform the calculations automatically. Spreadsheet software, such as Microsoft® Excel, can also be used to
do least-squares regression—although it requires a little more work than using a specialized statistical application.
In addition to estimates of the intercept (fixed cost) and slope (variable cost per unit),
Excel also provides a statistic called the R2, which is a measure of “goodness of fit.” The
R2 tells us the percentage of the variation in the dependent variable (cost) that is explained
by variation in the independent variable (activity). The R2 varies from 0% to 100%, and
the higher the percentage, the better. You should always plot the data in a scattergraph,
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