Fundamentals of Cost Accounting 3rd Edition by William N. Lanen, Shannon W. Anderson, Michael Maher

Exercise 43

Interpretation of Regression Results: Simple Regression Using a Spreadsheet

Hartman Company’s Lucas plant manufactures thermostatic controls. Plant management has experienced fluctuating monthly overhead costs and wants to estimate overhead costs accurately to plan its operations and its financial needs. Interviews with plant personnel and studies reported in trade publications suggest that overhead in this industry tends to vary with labor-hours.

A member of the controller’s staff proposed that the behavior pattern of these overhead costs be determined to improve cost estimation. Another staff member suggested that a good starting place for determining cost behavior patterns is to analyze historical data. Following this suggestion, monthly data were gathered on labor-hours and overhead costs for the past two years. No major changes in operations occurred over this period of time. The data are shown in the following table:

Month	Labor-Hours	Overhead Costs
1	251,563	$2,741,204
2	238,438	2,166,231
3	192,500	1,902,236
4	271,250	2,590,765
5	323,750	3,071,812
6	290,938	2,618,161
7	271,250	2,480,231
8	251,563	2,745,558
9	231,875	2,211,799
10	343,438	3,437,704
11	185,938	2,314,436
12	231,875	2,550,630
13	382,813	3,603,709
14	376,250	3,404,786
15	290,938	3,016,493
16	395,938	3,638,331
17	356,563	3,553,886
18	323,750	3,191,617
19	389,375	3,481,714
20	317,188	3,219,519
21	343,438	3,495,424
22	336,875	3,207,258
23	382,813	3,600,622
24	376,250	3,736,658

Required

a. Use the high-low estimation method to estimate the overhead cost behavior (fixed and variable portions components of cost) for the Lucas plant.

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b. Prepare a scattergraph showing the overhead costs plotted against the labor-hours.

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c. Use a spreadsheet program to compute regression coefficients to describe the overhead cost equation.

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d. Use the results of your regression analysis to develop an estimate of overhead costs assuming 350,000 labor-hours will be worked next month.

Step 1 of 6

Cost estimation

Cost estimation is an important exercise because it helps managers in decision making. Correct cost estimates result in cost saving and making business successful. Cost estimates helps managers to evaluate and choose the best alternative. It is important for managers to capture the correct cost for each alternative.

There different methods used for cost estimation like engineering, accounting and statistical analysis.

High-low method of cost estimation

Under High-low method of cost estimation, variable cost is calculated by considering the total cost at highest and lowest level. The difference of total cost at highest and lowest activity level are divided by the difference of highest and lowest activity level to calculate variable cost per unit. This method compensates the price instability by considering the highest and lowest level of total cost and the activity level at those two points. Same way fixed cost is calculated by deducting variable cost at lowest activity level from total cost at lowest activity level.

Scatter graph

This graph indicates the relationship between cost and volume which based on past knowledge. Scatter graph considers all data points and develops a pattern of data points and provide rough estimation of cost. This graph also indicates fixed and variable of costs with activity level. It also shows the activity level where the relationship between cost activity level changes.