Cost Behavior & Estimation
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Cost Behavior: Fixed Costs
Fixed costs are costs that in total are
constant within the relevant range as the
level of the activity driver varies.
Two production lines can process 10,000
computers per year each. The workers on each
line are supervised by a production-line manager
who is paid $24,000 per year. For production up
to 10,000 units, only one supervisor is needed.
When production is between 10,001 and 20,000
units, two supervisors are required.
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Cost Behavior: Fixed Costs
Days Computers, Inc.
Supervision
$54,000
54,000
54,000
108,000
108,000
108,000
Computers
Processed
4,000
8,000
10,000
12,000
16,000
20,000
3
Cost Behavior: Fixed Costs
Days Computers, Inc.
Supervision
$54,000
54,000
54,000
108,000
108,000
108,000
Computers
Processed
4,000
8,000
10,000
12,000
16,000
20,000
4
Cost Behavior: Fixed Costs
Days Computers, Inc.
Supervision
$54,000
54,000
54,000
108,000
108,000
108,000
Computers
Processed
4,000
8,000
10,000
12,000
16,000
20,000
Unit Cost
$13.50
6.75
5.40
9.00
6.75
5.40
5
Cost Behavior: Fixed Costs
6
Cost Behavior: Variable Costs
Variable costs are costs that in total vary in
direct proportion to changes in an activity
driver.
A CD-ROM disk drive is added to each
computer at a cost of $30 per computer.
The total cost of disk drives for each level of
production varies.
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Cost Behavior: Variable Costs
Days Computers, Inc.
Total Cost of
CD-ROMs
$120,000
240,000
360,000
480,000
600,000
Number of
Computers
Processed
4,000
8,000
12,000
16,000
20,000
8
Cost Behavior: Variable Costs
Days Computers, Inc.
Total Cost of
CD-ROMs
$120,000
240,000
360,000
480,000
600,000
Number of
Computers
Processed
4,000
8,000
12,000
16,000
20,000
Unit Cost of
CD-ROMs
$30.00
30.00
30.00
30.00
30.00
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Cost Behavior: Variable Costs
10
Cost Behavior: Mixed Costs
Mixed costs are costs that have both a fixed
and a variable component.
Ten sales representatives each earn an
annual salary of $30,000 plus a commission
of $50 per computer sold. 10,000 computers
are sold.
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Cost Behavior: Mixed Costs
Y = Fixed cost + Total variable cost
Y = F + VX
where
Y = Total cost
For Days Computer, the selling cost is:
Y = $300,000 + $50X
12
Cost Behavior: Mixed Costs
Days Computers, Inc.
Variable
Fixed Cost of
Cost of
Selling
Selling
$300,000
300,000
300,000
300,000
300,000
Computers Selling Cost
Total Cost
$200,000 $500,000
400,000
700,000
600,000
900,000
800,000 1,100,000
1,000,000 1,300,000
Sold
4,000
8,000
12,000
16,000
20,000
per Unit
$125.00
87.50
75.00
68.75
65.00
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Cost Behavior: Mixed Costs
14
Methods for Separating Mixed Costs into Fixed
and Variable Components
Variable
Component
Fixed
Component
• The High-Low Method
• The Scatterplot Method
• The Method of Least Squares
15
Methods for Separating Mixed Costs into Fixed
and Variable Components
Straight-line equation:
Y = F + VX
where
Y = Total activity cost
F = Fixed cost component
V = Variable cost per unit
X = Measure of activity output
16
High-Low Method
Month
January
February
March
April
May
June
July
August
September
October
Materials
Number of
Handling Cost
Moves
$2,000
3,090
2,780
1,990
7,500
5,300
4,300
6,300
5,600
6,240
100
125
175
200
500
300
250
400
475
425
Step 1: Solve for variable cost (V)
V = Change in cost ÷ Change in activity
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High-Low Method
Month
January
February
March
April
May
June
July
August
September
October
Materials
Number of
Handling Cost
Moves
$2,000
3,090
2,780
1,990
7,500
5,300
4,300
6,300
5,600
6,240
Low Activity
100
125
175
200
High Activity
500
$7,500 - $2,000
Step1: V 
 $13.75
300500 - 100
250
400
475
425
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High-Low Method
Step 1: Solve for variable cost (V)
V = Change in cost ÷ Change in activity
V 
$7,500 - $2,000
 $13.75
500 - 100
Step 2: Using either the high cost or low cost, solve for
the total fixed costs F
Low cost
Y  F V(X )
$2,000  F  $13.75(100)
$625  F
High cost
Y  F V(X )
$7,500  F  $13.75(500)
$625  F
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Scatterplot Method
Step 1: Plot the data points on a scattergraph
20
Scatterplot Method
Step 2: Choose the two data points most representative
of the data to describe the cost behavior line
21
Method of Least Squares
Actual Predicted
Cost
Cost
Deviation
Deviation
Squared
2,000
1,742
258
3,090
2,088
1,002
2,780
2,780
1,990
3,126
(1,136)
7,500
7,278
222
5,300
4,510
790
4,300
3,818
482
6,300
5,894
406
5,600
6,932
(1,332)
6,240
6,240
Total measure of closeness
66,564
1,004,004
1,290,496
49,284
624,100
232,324
164,836
1,774,224
5,205,832
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Regression Programs
• The best-fitting line is the line with the
smallest sum of squared deviations
• Regression analysis determines the linear
function with the minimum sum of squared
deviations
• Utilize spreadsheet packages such as
Microsoft Excel to perform the computation
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Regression Analysis
for the Method of Least Squares
Spreadsheet Data for
Anderson Company
24
Regression Analysis
for the Method of Least Squares
SUMMARY OUTPUT
Regression Statistics
Multiple R
0.92894908
R. Square
0.862946394
Adjusted R
0.845814693
Square
Standard Error
Observations
Regression Output for
Anderson Company
770.4987038
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ANOVA
Regression
Residual
Total
df
1
8
9
SS
29903853.98
4749346.021
34653200
MS
29903853.98
593668.2526
F
50.37132077
Intercept
X Variable 1
Coefficient
854.4993582
12.3915276
Standard Error
569.7810263
1.745955536
t-Stat
1.49967811
7.097275588
P-value
0.172079925
0.000102268
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Regression Analysis
for the Method of Least Squares
The regression analysis gives rise to the following
equation for Anderson’s material handling cost:
$854.50 + ($12.39  number of moves)
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Reliability of Cost Formulas
Hypothesis test of parameters
– The lower the P-value, the more likely that the
true parameter is significantly different from 0
– Traditional benchmarks of significance are 0.10,
0.05 or 0.01
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Reliability of Cost Formulas
Goodness of fit
– R2 is the coefficient of determination
– Measures the percentage of change in the
dependent variable explained by changes in the
independent variable
– The closer to 1.0, the better; no benchmark
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Reliability of Cost Formulas
Confidence intervals
– The standard error is used to determine the ±
range of possible values around the predicted
value:

Standard  t-statistic  Confidence
Error
Interval

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End Chapter
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