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3.3 A cost driver is an activity or factor that causes costs to be incurred. In identifying cost
behaviour, the management accountant identifies the relationship between a particular cost
and the level of its cost driver.
3.4 Volume-based cost drivers are used in conventional management accounting systems. This
assumes that variable costs vary in proportion to production volume and fixed costs, do not
change with production volume. ABC allows a range of cost drivers such as unit level,
batch level, product level, and facility level so that for these various types of cost there is a
more realistic link between the cost and its cost driver..
3.5 Unit level: The cost varies in proportion to the volume produced, e.g. direct materials,
power for machines, packing or sales commissions. Volume is the cost driver.
Batch level: The cost varies in proportion to the number of batches produced, e.g. setup or
quality audit. The cost driver is usually the number of batches or loads.
Product level: The cost relates to activities that are performed for specific products or
product families. The cost driver may be the number of products, although in some cases
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specific product features may drive these costs.
Facility level: The cost relates to the facilities rather than products, e.g. security or grounds
maintenance. There is no obvious cost driver.
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3.8 As the time horizon lengthens, fixed costs can be varied; for example, spare floor area can
be sold or rented out. In the long term, all costs are likely to vary. In an organisation like
BHP that owns blast furnaces costs can only be varied in the much longer term, when
blast furnaces can be sold off or shut down. However, costs that vary are not necessarily
variable costs, as variable costs are defined as costs which vary in proportion to their cost
driver.
3.9 As the level of activity (or cost driver) increases, total variable cost increases
proportionately and the variable cost per unit remains constant.
3.10 As the level of activity (cost driver) increases, total fixed cost remains constant. However,
the fixed cost per unit of activity declines as activity increases. Examples include factory
rent, managers salaries, straight-line depreciation and property taxes.
3.11 Cost drivers used to describe cost behaviour give a useful explanation of how costs vary.
But they do not necessarily reveal the real causes of costs, that is the root-cause cost drivers.
The cost of loading vans may be explained by the volume of product loaded. But the cost
may be driven by poor design of the loading bay; the use of the wrong type of vans for the
particular type of delivery; or the need for a better computer system to assemble orders. The
root-cause cost drivers are needed for cost management.
3.12 Committed costs result from an organisations basic structure and facilities, for example,
costs resulting from an organisations ownership or use of premises, and its fundamental
structure. Committed costs are very difficult to change in the short term. Examples of
committed costs of the photographic studio include rent and equipment hire/lease, which are
likely to be locked in by a long term lease, and possibly the salaries of the photographers
(depending on the terms of their contract).
Discretionary costs result from a management decision to spend money on items for some
purpose, which can be avoided or changed if management chooses. Examples of
discretionary costs of the photographic studio include amounts spent on advertising. and
possibly the salaries of studio sales staff.
The distinction between committed and discretionary costs can help management in the
planning and management of costs. By knowing the distinction, management is fully aware
of which costs can be avoided in the short-term should circumstances change (discretionary
costs, in most cases) and those which it cannot avoid in the short term, even if circumstances
change (committed costs).
3.13 1 Annual cost of maintaining an interstate highway: committed cost. (Once the
highway has been built, it must be maintained. The transportation authorities are
largely committed to spending the necessary funds to maintain the highway
adequately.)
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2 Ingredients in a breakfast cereal: engineered cost.
3 Advertising for a credit card company: discretionary cost.
4 Depreciation on an insurance company's computer: committed cost.
5 Charitable donations: discretionary cost.
6 Research and development: discretionary cost.
3.14 (a) Variable cost, assuming that rubber is the only direct material used in the
manufacturing process.
(b) Unit-level cost.
(c) The number of tyres produced determines the quantity of rubber used in production
and therefore the total direct material cost. If only the quantity of rubber used is the
cost driver, it ignores any abnormal wastage incurred in the process, or the effects of
changing supply and / or demand on rubber prices. To identify the cost driver from a
cost management perspective, it is necessary to identify the underlying causes of the
direct material cost.
3.15 The cost analyst should respond by pointing out that in most cases a cost behaviour pattern
should be limited to the relevant range of activity. When the firms electricity cost was
shown as a semivariable cost, it is likely that only some portion in the middle of the graph
would fall within the relevant range. Within the relevant range, the firms electricity cost can
be approximated reasonably closely by a semivariable cost behaviour pattern. However,
outside that range (including an activity level of zero) the semivariable cost behaviour
pattern should not be used as an approximation of the cost.
3.16 An outlier is a data point that falls far away from the other points in the scatter diagram and
is not representative of the data. One possible cause of an outlier is simply a mistake in
recording the data. Another cause of an outlier is a random event that occurred, which
caused the cost during a particular period to be unusually high or low. For example, a power
shortage may have resulted in unusually high costs of idle time for a particular time period.
Outliers should be eliminated from the data set upon which cost estimates are based.
3.17 Fixed costs are often allocated on a per unit of activity basis. For example, fixed
manufacturing overhead costs, such as depreciation, may be allocated to units of production.
As a result, such costs may appear to be variable in the cost records. Discretionary costs are
often budgeted in a manner that makes them appear variable. A cost such as charitable
donations, for example, may be fixed once agreement is reached on the level of donations to
be made. If managements policy is to budget charitable donations on the basis of sales
dollars, however, the cost will appear to be variable to the cost analyst. An experienced
analyst should be wary of allocated and discretionary costs and take steps to learn how the
amounts are determined.
3.18 The chief drawback of the high-low method of cost estimation is that it uses only two data
points, and ignores all other observations. The rest of the data are ignored. An outlier can
cause a significant problem when the high-low method is used, if one of the two data points
happens to be an outlier. In other words, if the high activity level happens to be associated
with a cost that is not representative of the data, the resulting cost line may also not be
representative of the cost behaviour pattern.
3.19 A least squares regression line may be expressed in equation form as follows:
Y = a + bX
In this equation, X, the volume of activity or cost driver, is referred to as the independent
variable, since it is the variable upon which the estimate is based. Y, the estimated total cost,
is called the dependent variable, since its estimate depends on the independent variable. The
intercept of the line on the vertical axis is denoted by a, and the slope of the line is denoted
by b. Within the relevant range, a is interpreted as an estimate of the fixed cost component,
and b is interpreted as an estimate of the variable cost per unit of activity.
The term least squares, in the least squares regression method of cost estimation, refers to
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the process of minimising the sum of the squares of the distances between the data points
and the regression line.
3.20 Regression analysis is a statistical method that measures the average amount of change in the
dependent variable that is associated with a unit change in one or more independent variables.
Simple regression analysis estimates the relationship between the dependent variable and a
single independent variable, while multiple regression estimates the relationship between the
dependent variable and multiple independent variables. Multiple regression can help
management determine more accurate cost estimates because it is able to recognise the effects
of two or more factors that influence total costs, and therefore is more economically plausible.
Assume that a rug manufacturer is trying to estimate the indirect labour cost associated with
the manufacture of rugs, when production on one batch of rugs is stopped and another batch
started. Management believes that in addition to machine hours , indirect labour costs are
also affected by the number of different batches worked on during the period (a batch-level
cost driver).
3.21 A particular least squares regression line may be evaluated on the basis of economic
plausibility or goodness of fit.
The cost analyst should always evaluate a regression line from the perspective of economic
plausibility. Does the regression line make economic sense? Is it reasonable? An
experienced cost analyst should have a good feel for whether the regression line looks
reasonable.
Statistical methods can also be used to determine how well a regression line fits the data
upon which it is based. This method is referred to as assessing the goodness of fit of the
regression. A commonly used measure of goodness of fit is the coefficient of determination,
which is described in the appendix at the end of the chapter. The coefficient of
determination is also denoted by R2. The higher the R2, the better the fit.
3.22 Some of the problems often encountered when collecting data for cost estimation include the
following:
missing data due to misplaced documents or failure to record a transaction
outliers which need to be detected and eliminated from the data set
mismatched time periods between dependent and independent variables
trade-offs in choosing the length of the time period
recording of allocated and discretionary costs as per unit data
inflation may effect the currency of historic data.
3.23 Some of the possible reasons that approximations are used in estimating cost functions
include the following:
lack of accounting time or lack of knowledge about cost estimation techniques
lack of data
low priority may be given to determining accurate cost functions
the resultant cost functions may be regarded as accurate enough for the firms needs.
3.24 The use of activity-based costing (ABC) will heighten the awareness of cost drivers and cost
behaviour. The organisation is increasing its attention to establishing what the cost drivers
are. There is a need to be very careful in evaluating the cost drivers chosen, otherwise the
information could be even worse than under a conventional volume drive system.
3.25 A learning curve reflects how production efficiency increases with increased production. An
experience curve shows how product costs from across the value chain decrease with
increased production.
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SOLUTIONS TO EXERCISES
EXERCISE 3.27 (15 minutes) Variable and fixed costs; graphical and tabular
analyses: manufacturer
$1 200 000
$900 000
$600 000
$300 000
2
Production level (kg) Unit cost Total cost
10 000 $30 per kilogram $300 000
20 000 $30 per kilogram $600 000
30 000 $30 per kilogram $900 000
3 Graph of fixed production cost:
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Fixed costs
$50 000
$40 000
$30 000
$20 000
$10 000
4
Production level (kg) Unit cost Total cost
10 000 $5 $50 000
20 000 $2.50 $50 000
30 000 $1.667 $50 000*
* rounded
1 (a) Fixed
(b) Variable
(c) Variable
(d) Fixed
EXERCISE 3.29 (15 minutes) Fixed and variable costs; missing data: service
firm
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Cost per muffler replacement:
Fixed cost (g) $168 (h) $140 (i) $120
Variable cost (j) 100 (k) 100 (l) 100
Total cost per muffler replacement: (m) $268 (n) $240 (o) $220
Explanatory notes:
(a) Total fixed costs do not vary with activity.
(b) Variable cost per replacement = $60 000/600 = $100
(c) Total variable cost for 500 replacements = $100 500 = $50 000
(d) Fixed cost per replacement = $84 000/500 = $168
(e) Variable cost per replacement = $50 000/500 = $100
2 Cost of food:
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3 Laboratory cost:
4 Cost of utilities:
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5 Nursing costs:
EXERCISE 3.31 (10 minutes) Behaviour of fixed and variable costs: not-for-
profit organisation
1
Cost per broadcast hour
Cost item July September
Production crew:
$5 330/410 hours $13.00 per hour
$8 840/680 hours $13.00 per hour
Supervisory employees:
$6 000/410 hours $14.63 per hour*
$6 000/680 hours $ 8.82 per hour*
*Rounded
1.
Actual Estimated
(a) 20 000 km $3 900 $4 400
(b) 40 000 km 5 200 5 200
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(c) 60 000 km 6 000 6 000
(d) 80 000 km 8 500 7 200
2 (a) The approximation is very accurate in the range of 40 000 to 60 000 km per month.
(b) The approximation is less accurate in the extremes of the longer range of 20 000 to 90
000 km per month.
21 400 22 100
1 Variable cost per machine hour = = 2 000 / 20 000 = $0.10
41 000 21 000
Total electricity cost at 41 000 machine hours = $24 100
Variable cost at 41 000 machine hours (41 000 x $0.10 per hour) = $4 100
Fixed cost = $20 000
Cost equation:
Total electricity cost = $20 000 + $0.10X, where X denotes machine hours.
1 The calculations to estimate the companys electricity behaviour are shown below, using
Excel. Some of the figures have been rounded.
Regression statistics
Multiple R 0.788333
R square 0.621469
Adjusted R square 0.583616
Standard error 1 061.946
Observations 12
Coefficients
Intercept 17 537.5
X Variable 1 0.191667
From this, the equation to explain cost behaviour is as follows.
Y = a + bX
where:
X = the independent variable (machining hours for one month)
Y = the dependent variable (cost for one month)
Y = $17 538 + $0.19X
This can be expressed as total cost = fixed costs of $17 538 plus $0.19 per machining hour
worked.
2 Given that this question does not assume a knowledge of the appendix the evaluation will
focus on R2. In this case, the figure for R2 0.6215 suggests that 62 per cent of the
variability of electricity costs can be explained by changes in the machining hours. The
higher the R2 figure, the more confident the accountant can be that changes in dependent
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variable can be explained in terms of changes in the independent variable. In this case 38 per
cent of the variability of electricity costs remained unexplained.
1 The calculations to estimate the Pathology Services cost behaviour are shown below, using
Excel. Some of the figures have been rounded.
Regression statistics
Multiple R 0.981047
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R square 0.962453
Adjusted R square 0.958698
Standard error 2 191.165
Observations 12
Coefficients
Intercept 29 568.04
X Variable 1 10.09565
From this, the equation to explain cost behaviour is as follows.
Y = a + bX
where:
X = the independent variable (number of blood tests for one month)
Y = the dependent variable (cost for one month)
Y = $29 568 + $10.10X
The regression suggests that there is a component of the cost ($29 568 per month) that is
unrelated to the total number of blood tests completed. This cost component is the intercept
on the vertical axis and is often considered to be the fixed cost as long as the activity level is
within the relevant range. Thus, the least squares regression results in a cost function with
two components, fixed cost per month and variable cost per blood test. This can be
expressed as total cost = fixed costs of $29 568 plus $10.09 per blood test completed.
2 Given that this question does not assume a knowledge of the appendix, the evaluation will
focus on R2.. In this case, the R2 is 0.9625 as per the above calculations. This suggests that
96 per cent of the variability of laboratory running costs can be explained by changes in the
number of blood tests conducted. The higher the R2 figure, the more confident the
accountant can be that changes in dependent variable can be explained in terms of changes
in the independent variable. In this case only 4 per cent of the variability in laboratory costs
remains unexplained.
1 The calculations to estimate the companys cost behaviour are shown below, using Excel.
Some of the figures have been rounded.
Regression statistics
Multiple R 0.968494
R square 0.937980
Adjusted R square 0.922475
Standard error 143.0611
Observations 6
Standard
Coefficients error
Intercept 10 376.90584 179.8564
X Variable 1 0.10074321 0.129525
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This can be expressed as total cost = fixed costs of $10 287 plus $0.10 per kilometre
travelled.
3 Maintenance cost at 20 000 kilometres:
$10 376 + ($0.10 20 000 km) = $12 376
Note that this is very similar to the recorded cost at 22 000 kilometres in the data provided
($12 500). With an R2 of 0.9380 (and an adjusted R2 of 0.9225), it appears that kilometres
travelled is the major factor in explaining the maintenance costs of the firm. Other factors
could be the way in which the bus is driven, the number of stops made, the number of
passengers carried, and so on.
$3,800 $2,600
1 Variable electricity cost per hour = = $4 per hour
700 400
Total electricity cost at 700 hours $ 3 800
Variable electricity cost at 700 hours ($4.00 700 hours) 2 800
Fixed cost per month $ 1 000
Cost formula: Monthly electricity cost = $1000 + $4 X, where X denotes hours of operation.
2 Regression analysis:
Using Excel
Regression statistics
Multiple R 0.975590116
R square 0.951776075
Adjusted R square 0.939720093
Standard error 109.8180313
Observations 6
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Coefficients Standard error
Intercept 1 002 246.6107401
Hrs of operation 4.04 0.454689847
Cost formula:
Monthly electricity cost = $1 002 + $4.04X, where X denotes hours of operation
Variable electricity cost = $4.04 per hour of operation
3 Cost predictions at 470 hours of operation:
(a) Highlow method:
Electricity cost = $1 000 + ($4)(470) = $2 880
(b) Regression:
Electricity cost = $1 002 + ($4.04)(470) = $2 901*
* rounded
1 Regression analysis:
Using Excel:
Coefficients Standard error
Intercept 29 13.77085196
Passengers 1.636363636 0.833195581
Monthly cost of flight service = $29 000 + $1 636X
where X denotes thousands of passengers.
2 Evaluation of the regression equation
Using Excel:
Regression statistics
Multiple R 0.70064905
R square 0.490909091
Adjusted R square 0.363636364
Standard error 1.954016842
Observations 6
Given that this question does not assume a knowledge of the appendix, , the evaluation will
focus on R2.. The coefficient of determination, R2, is a measure of the goodness of fit of the
least-squares regression line. An R2 of .49 means that 49 per cent of the variability of the
dependent variable about its mean is explained by the variability of the independent variable
about its mean. The higher the R2, the better the regression line fits the data. The
interpretation of a high R2 is that the independent variable is a good predictor of the
behaviour of the dependent variable. In cost estimation, a high R2 means that the cost analyst
can be relatively confident in the cost predictions based on the estimated-cost behaviour
pattern.
SOLUTIONS TO PROBLEMS
Answers to this question will vary. It is not always possible to find two cost drivers, and rather than
looking for a right answer, instructors should seek an understanding of the concepts.
(a) Number of weekly papers printed (unit level). If the number of pages per edition was
changed from 40, or the size changed from broadsheet to tabloid (or vice versa), these would
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also be cost drivers.
(b) Number of cards printed (unit level), and the quality of business cards required
(c) Fixed: remuneration may be related to total circulation (product level, as it relates to the
Times).
(d) Number of hours that the presses are operating for, which is related to the number of units
produced (unit level).
(e) No obvious driver (facility level).
(f) Number of jobs (batch level).
(g) Lease costs would be driven by the number of delivery trucks (which in turn may be
influenced by the number of copies printed; geographical spread of circulation; number of
customers; number of loads) Discuss whether unit (number of copies), batch (number of
loads) or product (related to the Times).
(h) No obvious driver (facility level).
(i) Number of different business cards designed (batch or product levels).
(j) Advertising revenue (unit or product levels).
Answers to this question will vary. Rather than looking for a right answer, instructors should seek
an understanding of the concepts.
1 Given that a full-time technician is hired, this is a fixed cost. The additional cost of repairs
by the local dealer may be related to the number of instruments used in the school, or
number of hours of instruction. A semi-variable cost.
2 The number of audit hours is a cost driver, which, in turn may be related to the number of
students (influencing the number of transactions.) A variable cost.
3 No cost driver; a fixed cost.
4 Number of students enrolled, or number of hours of instruction. Variable cost.
5 No cost driver i.e. a fixed cost (if annual fixed salary paid) or, (if paid on an hourly basis)
the number of hours employed or the number of hours of instruction (i.e a variable cost).
6 Number of students enrolled. A variable cost.
7 A fixed cost; no driver (however, in the long term, the cost of instruments will drive the
depreciation charge).
8 Probably fixed; no cost driver.
9 Number of hours the school is open. A semi-variable cost.
1 h 5 b 9 d
2 i 6 g 10 j
3 f 7 c 11 l
4 e 8 a
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PROBLEM 3.45 Cost estimation: high low; regression: wholesaler
1 Scatter diagram:
Material-handling
costs
$12 500
$12 000
$11 500
$11 000
$10 500
$10 000
$9 500
Hundreds of
500 1000 1500 2000 2500 kilograms of
equipment
The lower part of the
vertical axis has
been shortened
2 Highlow method:
Variable cost per unit of cost driver $12 120 $10 200
=
2 600 1 000
= $1.20 per kg of equipment
loaded/unloaded
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Observations 12
7 On the basis of using the high-low method and regression analysis, the material handling
departments monthly cost behaviour was estimated as follows:
Using the highlow method, the following cost estimate was obtained:
Material-handling cost per month = $9 000 + $1.20 per unit of cost driver
Using regression analysis = $9 942.83 + $0.885 per unit of cost driver
The two methods yield different estimates because the highlow method uses only two data
points, ignoring the rest of the information. Regression analysis, on the other hand, is a
statistical technique that can be used to estimate the relationship between the dependent
variable (cost) and the independent variable (quantity of equipment handled). Regression
analysis uses all of the data points to determine the line of best fit.
In this case, the two data points used by the highlow method do not appear to be
representative of the entire set of data. Hence, I suggest that the cost line determined using
regression analysis be utilised.
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5 Cost of electricity used in the Variable Engineered Cost of electricity consumed in
sewing department production is directly related to the
level of manufacturing activity
6 Wages of the staff who package Variable Engineered Cost of packaging directly related to
the finished rugs the level of output produced
7 Salaries of the marketing staff Fixed Committed Marketing staff wages part of
organisations basic structure, difficult
to change in short term
8 Depreciation on the sewing Fixed Committed An allocation of the cost of the
machine, calculated using the equipment, difficult to change in short
SL method term
9 Rent on the factory building Fixed Committed Cost resulting from organisations use
of premises, difficult to change in short
term
10 Cost of daily advertisements in Fixed Discretionary Cost arising from management decision
the local newspaper relating to advertising expenditure
11 Wages of the rug designers who Fixed Committed Cost of designers wages is part of the
experiment with new fabrics and firms structure, difficult to change in
designs short term due to contractual
obligations
12 Cost of car hire to take the Fixed Discretionary Cost arising from managements
managing director to important decision, easy to change/vary in short
meetings term
13 Cost of the yearly staff Fixed Discretionary Cost arising from managements
Christmas party decision, easy to change/vary in short
term
14 Cost of repairing the gas furnace Fixed Committed Cost of maintenance and repairs is part
of the organisation basic structure,
difficult to change in short term
15 Cost of workers compensation Variable Committed Cost of workers compensation is the
insurance paid for the part of basic organisations structure
production employees difficult to change in short term due to
contractual obligations
16 Wages of the production Variable Engineered Cost with clear, direct, physical
employees who weave the rugs relationship to the level of output
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345 000
1 500 tonnes (labour rate = = $230) are extracted or when
1 500
598 000
2 600 tonnes are extracted (labour rate = = $230).
2 600
2 The difficulty with this question is estimating the cost of royalties at 1650 tonnes. Assuming
the cost is semi-variable we could use the high-low method to identify its fixed and variable
components.
1 Because there are two independent variables, it is necessary to use multiple regression
analysis, utilising Excel. The following data is provided.
Regression statistics
Multiple R 0.993370622
R square 0.986785192
Adjusted R square 0.983848568
Standard error 80.80174881
Observations 12
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Coefficients Standard error
Intercept 432.9477003 189.033095
Hours of service (X1) 7.345228273 0.285104437
No. of photocopies(X2) 0.003203239 0.002125703
The coefficients for the regression are in the lower panel of output. The constant, or
intercept, is $432.95, and the coefficients of the two variables are the number of hours of
maintenance and the number of photocopies. The regression equation can be expressed as
follows:
1 The original method was simply the average overhead per hour for the last 12 months and
did not distinguish between fixed and variable costs. Dana divided total overhead by total
labour hours, which effectively treated all overhead as variable. Regression analysis
measures the behaviour of the overhead costs in relation to labour hours and is a model that
distinguishes between fixed and variable costs within the relevant range of 2 500 to 7 500
labour hours.
2 The regression results are shown below:
Regression Statistics
Multiple R 0.980976
R Square 0.962313
Adjusted R
Square 0.958544
Standard Error 1 448.743
Observations 12
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Labour
hours 3.94936 0.247152 15.97946 1.9E-08 3.39867 4.500049 3.39867 4.500049
(It seems that Dana has rounded the regression results from $3.949 to $4.00 per labour hour for
variable overhead and $48 126 to $48 000 for fixed overhead.) Using the regression results the
variable cost per person is:
Food and beverages $14.00
Labour (0.6 hours @ $20/hour) 12.00
Variable overhead (0.6 hours @ $3.949/hour) 2.37*
Total $28.37
* Rounded.
3 The minimum bid for a 250-person cocktail party would be $7 093. The amount is
calculated by multiplying the variable cost per person of $28.37 by 250 people. At any price
above the variable cost, Dana will be earning a contribution toward his fixed costs.
4 Other factors that Dana should consider in developing a bid include the following:
the assessment of the current capacity of Danas business. If the business is at
capacity, other work would have to be sacrificed at some opportunity cost
analysis of the competition. If competition is rigorous, Dana may not have much
bargaining power
a determination of whether or not Danas bid will set a precedent for lower prices
the realisation that regression analysis is based on historical data, and that any
anticipated changes in the cost structure should be considered.
1 The regression equations intercept on the vertical axis is $200. It represents the portion of
indirect materials cost that does not vary with machine hours, when operating within the
relevant range. The slope of the regression line is $4 per machine hour. For every machine
hour, $4 of indirect material costs is expected to be incurred.
2 Estimated cost of indirect material at 900 machine hours of activity:
= S $200 + ($4 900)
= $3 800
3 Several questions should be asked:
(a) Do the observations contain any outliers, or are they all representative of normal
operations?
(b) Are there any mismatched time periods in the data? Are all of the indirect material cost
observations matched properly with the machine hour observations?
(c) Are there any allocated costs included in the indirect material cost data?
(d) Are the cost data affected by inflation?
4 The choice of cost driver should reflect the nature of the production process. Other cost
drivers could include direct labour hours or direct labour cost if the production process is
labour intensive and the consumption of indirect materials is related to labour activities.
Alternative the number of units produced could be a suitable cost driver, if each unit uses
much the same amount/cost of indirect material.
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1 The initial batch took 10 hours for 10 ($200 / $20 per hour) or 1 hour each. When the
cumulative output is increased from 10 to 20 the average labour time per unit for the 20
tables should reduce to 0.8 hours per table. The 20 tables should take 16 hours, so the
second batch will take 6 hours (16 hours for the total output of 20 tables minus the 10 hours
for the first 10).
2 Direct labour = 6 hours $20 = $120 or $12 per table.
3 No. Labour is becoming increasingly skilled at making the tables. The hours taken is an
average of the batches and the first one produced of the first batch would take more than 10
hours, and the last of the second batch would take less than 6 hours.
4 Cumulative production is now 20, so the time taken to produce the next batch of 60 can be
estimated as follows:
Cumulative time taken for 80 tables = 80 (0.8 hours 80% 80%) = 40.96 hrs
Cumulative time taken for the first 20 = 16 hrs
Therefore, time taken for the 60 tables = 24.96 hrs
5 The direct labour cost, per table, for the batch of 60 is:
hours $20 per hour / 60 tables = $8.32 per table
Over time, tables will appear to get cheaper. Perhaps Austral needs to take a more long-run
view of their pricing, to stimulate early demand so that they can move quickly along the
learning curve.
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SOLUTIONS TO CASES
CASE 3.52 (45 minutes) Costs: hospital
1 Scatter diagram
2 Relevant range of activity as marked on the diagram
Administrative Cost.
$18,000
$16,000
(2)
$14,000
relevant
range
$12,000
$10,000
$8,000
$6,000
$4,000
$2,000
$0
0 200 400 600 800 1000 1200 1400 1600
Patient load
3 This analysis is based on the costs and activity within the relevant range, that is between 600
and 1200 patients.
Variable cost per unit cost of driver = ( $ 1 1 1 0 0 $ 8 3 0 0 ) = $ 4 . 6 6 7
(1 2 0 0 6 0 0 )
* per patient *(rounded)
Total cost at 1 200 patients of cost driver = $ 11 100
Total variable cost at 1 200 patients of cost driver = 1 200 x $4.667
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= $5 600 (rounded)
Fixed cost = $5 500
Cost equation based on high-low method:
Administrative cost =$5 500 + $4.667X
where X denotes the number of patients during the period
6 (a) If only patient load is considered as a determinant of administration costs and only the
historical patient load data that falls within the relevant range (patient load between 600 and
1200) are considered, then the simple regression can be used, utilising Excel. The output is
reproduced below
Regression Statistics
Multiple R 0.927088078
R Square 0.859492304
Adjusted R Square 0.824365379
Standard Error 401.9749382
Observations 6
ANOVA
df SS MS F Significance F
Regression 1 3 953 664.596 395 3665 24.468191 0.00778042
Residual 4 646 335.4037 161583.9
Total 5 4 600 000
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Y = $6 181 + $3.84X
This can be expressed as total cost = fixed costs of $6 181 plus $3.84 per patient
(b) The clinics administrative cost during the month when 800 patients visit the hospital would
be $ 6181 + $3.84 x 800 = $9 253
(c) When both patient load and the number of emergency procedures are considered as
determinants of administrative cost, multiple regression must be used. Utilising Excel, the
regression statistics are reproduced below
Regression Statistics
Multiple R 0.92919029
R Square 0.86339459
Adjusted R Square 0.77232432
Standard Error 457.669779
Observations 6
ANOVA
df SS MS F Significance F
Regression 2 3 971 615.12 1 985 808 9.480532 0.05048959
Residual 3 628 384.8797 209 461.6
Total 5 4 600 000
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to rely on the results of these regression models.
3 The minimum bid should include the following incremental costs of the project:
4 Yes, Grassmere Pty Ltd can rely on the formula as long as she recognises that there are
some shortcomings. The fact that least-squares regression estimates cost behaviour increases
the usefulness of rates calculated from cost data. However, the regression is based on
historical costs that may change in the future, and Drake must assess whether the cost
equation would need to be revised for future cost increases or decreases.
5 (a)
Variable OH1 (50 5 $4.15) $1 037.50
Variable OH2 (50 $13.60) 680.00
Variable OH3 (70 $5.90) 413.00
Total incremental variable overhead $2 130.50
(b)
Variable OH1 (50 5 $4.15) $1 037.50
Variable OH2 (25 $13.60) 340.00
Variable OH3 (230 $5.90) 1 357.00
Total incremental variable overhead $2 734.50
(c) The two scenarios in (a) and (b) differ in terms of the activities to be undertaken. Scenario
(a) involves a large amount of seeding activity and relatively little planting activity. Scenario
(b) involves considerably less seeding activity, but a great deal more planting activity. An
activity-based costing system accounts for the different costs in projects involving different
mixes of activity.
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CASE 3.54 (45 minutes) Multiple regression: service firm (continuation of
Case 3.53)
The combined data from this case plus Case 3.53 is reproduced below so that the information is
clear.
Month Total Total direct Square metres of No. of individual
overhead labour hours turf plantings
cost (DLH) (STS) (PL)
January $108 000 6 200 48 000 50
February 94 000 4 800 44 000 30
March 96 000 4 500 44 000 40
April 112 000 5 600 51 000 65
May 114 000 7 000 53 000 35
June 130 000 8 000 55 000 50
July 128 000 8 000 60 000 60
August 112 000 6 800 50 000 16
September 106 000 5 600 52 000 40
October 94 000 5 600 45 000 37
November 94 000 4 300 46 000 40
December 108 000 5 600 51 000 60
Total $1 296 000 72 000 599 000
1 The output data from the multiple regression equation using Excel is shown below.
Regression statistics
Multiple R 0.9706076
R square 0.9420792
Adjusted R square 0.9203589
Standard error 3 495.896
Observations 12
ANOVA
df SS MS F Significance F
Regression 3 159 022 9688 530 076 563 43.373212 2.70477E-05
Residual 8 97 770 311.89 12 221 289
Total 11 1 688 000 000
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ANOVA
df SS MS F Significance F
Regression 1 1 451 098 225 1 451 098 225 61.25316 1.4262E-05
Residual 10 236 901 775.1 23 690 177.5
Total 11 1 688 000 000
All Variables
Regression statistics
Multiple R 0.970607644
R square 0.942079199
Adjusted R square 0.920358899
Standard error 3 495.896021
Observations 12
Coefficients
Intercept 22 376.30123
DLH 6.154785902
STS 0.863174082
PL 128.6778681
SUMMARY OUTPUT
STS only
Regression statistics
Multiple R 0.926291064
R square 0.858015136
Adjusted R square 0.843816649
Standard error 4 895.614883
Observations 12
Coefficients
Intercept 10 517.67759
STS 2.374310736
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SUMMARY OUTPUT
PL only
Regression statistics
Multiple R 0.404441735
R square 0.163573117
Adjusted R square 0.079930428
Standard error 11 882.29178
Observations 12
Coefficients
Intercept 92 492.45348
PL 355.8136869
SUMMARY OUTPUT
DLH only
Regression statistics
Multiple R 0.927176006
R square 0.859655346
Adjusted R square 0.845620881
Standard error 4 867.255645
Observations 12
Coefficients
Intercept 52 402.36686
DLH 9.266272189
SUMMARY OUTPUT
Regression statistics
Multiple R 0.963608878
R square 0.928542069
Adjusted R square 0.912662529
Standard error 3 660.919545
Observations 12
Coefficients
Intercept 14 060.70197
DLH 5.036231834
STS 1.27656575
SUMMARY OUTPUT
STS and PL
Regression statistics
Multiple R 0.926434568
R square 0.858281008
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Adjusted R square 0.826787899
Standard error 5 155.597369
Observations 12
Coefficients
Intercept 10874.76267
STS 2.395508163
PL 16.08458477
SUMMARY OUTPUT
DLH and PL
Regression statistics
Multiple R 0.959970232
R square 0.921542845
Adjusted R square 0.904107922
Standard error 3 836.023358
Observations 12
Coefficients
Intercept 45 322.4726
DLH 8.832453796
PL 222.1676014
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