Cost Behaviour: Part 2 of 2Sections 1 and 2
Feb 1, 2013
Professor: Khim KellyOffice: HH386B
Office Hours: Mon/Wed 11:30am – 12:30pm and AppointmentEmail: [email protected]
TA: Kun HuoEmail: [email protected]
Ch. 6 Assignment due Feb 4(Mon), 11.59pm
2
1 Feb 2013 Overview
• Last lecture …– Fixed costs, variable costs, step variable costs,
mixed costs– How to use costs behaviour to predict costs– Analyze mixed costs (High-Low Method)
• Major topics for today…– Analyse mixed costs (Regression)– Another example of High-Low method– The contribution margin approach
Regression
• High-Low method uses only two data points– Improve accuracy of results by considering more data points
• Regression analysis– Uses all the available data points– “Fits” a line to the data points while attempting to minimize errors.– Develops a similar looking equation to High-Low method
• Both assume linearity– Need to be aware of potential differences in cost behaviour outside of
the relevant range– When predicting costs, you might want to limit analysis to a range
around expected activity
The next slides plot data (from last lecture Clicker Question #3) with activity on the X axis and the mixed cost on the Y axis.
Last Lecture: Clicker Question #4: Answer
$34,500 - $18,750
5,000 - 1,800=
$15,750
3,200=
$4.92 per Patient-Day=
MonthPatient Days Mixed Cost
Jan 3,700 27,750
Feb 3,200 22,000
March 4,400 31,000
April 5,000 34,500
May 2,700 28,000
June 2,500 22,500
July 3,600 26,500
Aug 1,800 18,750
Sept 4,650 36,500
Oct 3,900 24,000
Nov 2,100 22,500
Dec 4,500 26,750
$34,500 a + ($4.92 * 5,000)=a $9,891=
Answer: D. Y = $9,891 +$4.92X
Then:
Scattergram Plot
1,500 2,000 2,500 3,000 3,500 4,000 4,500 5,000 5,500 -
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
Mix
ed C
ost
Patient days
High-Low Method
1,500 2,000 2,500 3,000 3,500 4,000 4,500 5,000 5,500 -
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
Mix
ed C
ost
Patient days
HL method: y = $4.92x + $9,891
Least Squares Regression Method
1,500 2,000 2,500 3,000 3,500 4,000 4,500 5,000 5,500 -
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
Mix
ed C
ost
Patient days
HL method: y = $4.92x + $9,891LSR method: y = 4.10x + $12,346
Least Squares Regression Method
1,500 2,000 2,500 3,000 3,500 4,000 4,500 5,000 5,500 -
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
Mix
ed C
ost
Patient days
LSR method: y = 4.10x + $12,346 (with outlier)
Outlier?Nonlinear?
Least Squares Regression Method
1,500 2,000 2,500 3,000 3,500 4,000 4,500 5,000 5,500 -
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
Mix
ed C
ost
Patient days
LSR method: y = 4.10x + $12,346 (with outlier)LSR method: y = 3.51x + $13,890 (without outlier)
Outlier?Nonlinear?
Example: High-Low Method and Predicting Cost (P6-15)
Prince Company’s total OH costs at various levels of activity are presented below:
Month DL Hours Total OH Cost
September 100,000 $388,000
October 80,000 $340,400
November 135,000 $485,600
December 140,000 $483,200
Example: High-Low and Predicting Cost (P6-15)
Assume OH costs consists of utilities, supervisory salary, depreciation, and maintenance. The breakdown for October at 80,000 DL hour level of activity is:
The company wants the breakdown of costs into variable and fixed cost elements. Answer the following required:
OH Type OH Cost
Utilities Variable $104,000
Salaries & Depreciation Fixed $120,000
Maintenance Mixed $116,400
Total OH Cost $340,400
Example: High-Low and Predicting Cost (P6-15)
1. Estimate how much of the $483,200 of OH cost in December was maintenance cost
Example: High-Low and Predicting Cost (P6-15)
The company wants the breakdown of costs into variable and fixed cost elements. Answer the following required:
OH Type OH Cost
December OH Mixed $483,200
December:
Salaries & Depreciation Fixed ($120,000)
Utilities Variable ($182,000)
Maintenance (Mixed Cost) $181,200
Variable Cost = $104,000/80,000 * 140,000
It is Clicker Time!!
Feel Free to Work Together on Clicker Questions
Q: Use the high-low method to develop the cost formula for maintenance cost (select option that is closest to your answer).
Clicker Question #1 (P6-15)
A. Y = $15,000 + $23.80XB. Eggs + Plants = Eggplant C. Y = $30,000 + $3.12XD. Y = $30,000 + $1.08XE. Y = $15,000 + $2.38X
LOW (October): 80,000 DL hours @ $116,400
HIGH (December): 140,000 DL hours @ $181,200
Clicker Question #1
LOW (October): 80,000 DL hours @ $116,400
HIGH (December): 140,000 DL hours @ $181,200
$181,200 - $116,400
140,000 – 80,000=
$64,800
60,000=
$1.08 per DL hour=
$116,400 a + ($1.08 * 80,000)=a $30,000=
Answer: D. Y = $30,000+$1.08X
Then:
Example: High-Low and Predicting Cost (P6-15)
3. Express the company’s total OH cost in the formula Y = a+ bX:Variable Costs:
Utilities ($104,000/80,000 DL) $1.30/DL hourMaintenance $1.08/DL hourTotal Variable $2.38/DL hour
Fixed Costs:Salaries and depreciation $120,000Maintenance $30,000Total Fixed $150,000
Example: High-Low and Predicting Cost (P6-15)
3. Express the company’s total OH cost in the formula Y = a+ bX:
Total Variable $2.38/DL hourTotal Fixed $150,000
Y = $150,000 + $2.38X
• Utilizes our ability to analyze cost behavior– An income statement format that separates expenses into
fixed costs and variable costs – Differs from traditional presentation of COGS and operating
expenses– Total cost is the same under both methods but only subtotals
vary
• Contribution margin– The amount remaining from sales after all variable costs have
been deducted
The Contribution Format
To Do: Analyze expense behaviour of the following and develop a contribution income statement:
Contribution Income Statement
Cost Cost FormulaNumber of units sold 21,000Sales revenue 1,050,000COGS $20 / unitAdvertising Expense $170,000Sales Commissions 5% of Sales revenueAdministrative Salaries $80,000Shipping Expense $40,000 plus $7.50 / unitDepreciation $50,000
Contribution Income StatementIncome Statement
Revenue $1,050,000
COGS ($20/unit * 21,000) $420,000
Variable shipping expense ($7.50/unit * 21,000) 157,500
Commission (5% of sales revenue) 52,500
Total Variable Costs $630,000
Contribution Margin $420,000
Contribution Margin per Unit $20
Contribution Income Statement
Income Statement
Contribution Margin $420,000
Fixed Shipping expense 40,000
Advertising expense 170,000
Administrative salaries 80,000
Depreciation expense 50,000
Total Fixed Costs $340,000
Operating Income $80,000
It is Clicker Time!
Feel Free to Work Together on Clicker Questions
Clicker Question #2
Q: Contribution margin equals revenues minus _______?
A. Product costsB. Period costsC. Variable costsD. Fixed costsE. 9 little monkeys jumping on the bed
Clicker Question #2: Answer
Q: Contribution margin equals revenues minus _______?
Answer:C. Variable costs
Clicker Question #3Q: What is the contribution margin?
Cost Amount
Sales $300,000
Fixed Manufacturing Overhead $ 55,000
Direct Labour $ 72,500
Fixed Selling Expenses $ 46,250
Variable Manufacturing Overhead $ 41,000
Variable Administrative Expenses $ 48,000
Direct Materials $ 51,500
Fixed Administrative Expenses $ 44,500
Variable Selling Expenses $ 49,750
Clicker Question #3
Q: What is the contribution margin?
A. $37,250B. $100,000,000.23C. $ 87,000D. $176,000E. $262,750
Clicker Question #3 - SolutionAmount
Sales $300,000
Direct Labour ($72,500)
Direct Materials ($51,500)
Variable Manufacturing Overhead
($41,000)
Variable Administrative Expenses
($48,000)
Variable Selling Expenses ($49,750)
Total Variable Costs ($262,750) ($262,750)
Contribution Margin $37,250
Clicker Question #3: Answer
Q: What is the contribution margin?
Answer:A. $37,250
UW …
• UW is one of Canada’s leading research institution
• The School of Accounting and Finance has one of the country’s premier PhD programs
• Every year, I train PhD students in teaching.
• So, the next 3 classes (Cost-Volume-Profit Relationships) will be taught by Kun Huo, one of our PhD students.
• I will sit in the class as an observer.
Summary
• Major topics for today…– Another example of High-Low Method– Contribution margin approach
• Next class …– Chapter 7 (Cost-Volume-Profit Relationships)
