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Fixed
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Miles driven
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Labor hours
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Step-Variable Costs
Total cost remains constant within a narrow range of activity. Cost Activity
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Step-Variable Costs
Total cost increases to a new higher cost for the next higher range of activity.
Activity
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Cost
Exh. 5-4
Total Cost
Relevant Range
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Exh. 5-5
Exh. 5-5
Cost Behavior
Examples of normally variable costs
Merchandisers
Cost of Goods Sold
Service Organizations
Supplies and travel
Manufacturers
Direct Material, Direct Labor, and Variable Manufacturing Overhead
Discretionary
May be altered in the short-term by current managerial decisions
Examples
Depreciation on Buildings and Equipment
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Examples
Advertising and Research and Development
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Continue
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Exh. 5-6
90 Relevant
Range
Total cost doesnt change for a wide range of activity, and then jumps to a new higher cost for the next higher range of activity.
60
30
00
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How does this type of fixed cost differ from a step-variable cost?
The width of the activity steps is much wider for the fixed cost.
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Quick Check
Which of the following statements about cost behavior are true?
a Fixed costs per unit vary with the level of activity. b Variable costs per unit are constant within the relevant range. c Total fixed costs are constant within the relevant range. d Total variable costs are constant within the relevant range.
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Mixed Costs
A mixed cost has both fixed and variable components. Consider the example of utility cost.
Total Utility Cost Y
Mixed Costs
The total mixed cost line can be expressed as an equation: Y = a + bX Where: Y = the total mixed cost a = the total fixed cost (the vertical intercept of the line) b = the variable cost per unit of activity (the slope of the line) X = the level of activity
Cost estimates are based on an evaluation of production methods, and material, labor and overhead requirements.
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20
10
* * * *
* ** * **
X
Quick-and-Dirty Method
Draw a line through the data points with about an equal numbers of points above and below the line. Y
20
10
* ** * **
X
Quick-and-Dirty Method The slope is the estimated variable cost per unit.
Slope = Change in cost Change in units Y
20
10
* * * * Horizontal
distance is the change in activity.
* ** * **
Vertical distance is the change in cost.
Using these two levels of activity, compute: the variable cost per unit; the fixed cost; and then express the costs in equation form Y = a + bX. The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin
Change in cost Variable cost per unit = Change in cost change in units
Change in units
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Variable cost = $2,400 3,000 units = $0.80 per unit Fixed cost = Total cost Total variable cost
Fixed cost = $9,800 ($0.80 per unit 8,000 units)
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Variable cost = $2,400 3,000 units = $0.80 per unit Fixed cost = Total cost Total variable cost
Fixed cost = $9,800 ($0.80 per unit 8,000 units)
Fixed cost = $9,800 $6,400 = $3,400 Total cost = Fixed cost + Variable cost (Y = a + bX) Y = $3,400 + $0.80X
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Quick Check
Sales salaries and commissions are $10,000 when 80,000 units are sold, and $14,000 when 120,000 units are sold. Using the high-low method, what is the variable portion of sales salaries and commission? Units Cost 120,000 $ 14,000 a. $0.08 per unit High level 80,000 10,000 b. $0.10 per unit Low level Change 40,000 $ 4,000 c. $0.12 per unit $4,000 40,000 units d. $0.125 per unit = $0.10 per unit
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Quick Check
Sales salaries and commissions are $10,000 when 80,000 units are sold, and $14,000 when 120,000 units are sold. Using the high-low method, what is the fixed portion of sales salaries and commissions? Total cost = Total fixed cost + Total variable cost a. $ 2,000 $14,000 = Total fixed cost + ($0.10 120,000 units) b. $ 4,000 c. $10,000 Total fixed cost = $14,000 - $12,000 d. $12,000 Total fixed cost = $2,000
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10
* ** * **
0
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Lets put our knowledge of cost behavior to work by preparing a contribution format income statement.
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The contribution margin format emphasizes cost behavior. Contribution margin covers fixed costs and provides for income.
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End of Chapter 5
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