Deck 3: Cost Behavior

Question 1

Describe the difference between a variable cost and a step-variable cost. When is it reasonable to treat step-variable costs as if they were variable costs?

Answer 1

The difference between a variable cost and a step variable cost is as under:
The variable cost is the cost which changes in proportion to the change in level of activities. The cost per unit is same in the variable cost. The variable cost will vary continually and directly as there is a change in concert with the change in level of activity.
The step variable cost means the cost changes with the change in range of activity changes. The range of activity means the width of the step. For an example, the employee wages where there is a need of 2 employees for the range of activity of production of 100 units, where the production increases from 100 units to 200 units the number of employee's need to be increase from 2 to 4 which increases the variable cost in total. The range of 0 - 100 units and 101 - 200 units produced are the width of step. The cost per unit is same till one range of activity and changes when it jumps to the next range.
Step variable cost per unit remains constant till the change in the activity level and this step affect can have an impact on the allocated cost per manufacture unit. With the increase in production units there will be a decrease in allocated amount per unit until the change in the new range of activity or step variable cost, due to the new step variable cost the cost per unit increases due to the higher total variable cost.
If the width of the step is very narrow it means the range of activity output is narrow, then the cost of resources also changes in response to the change in range or steps, in that case the step variable cost will be treated as variable cost because in every small changes in activity output the cost of resources also changes.

Question 2

Step Costs, Relevant Range
Vargas, Inc., produces industrial machinery. Vargas has a machining department and a group of direct laborers called machinists. Each machinist is paid $25,000 and can machine up to 500 units per year. Vargas also hires supervisors to develop machine specification plans and to oversee production within the machining department. Given the planning and supervisory work, a supervisor can oversee three machinists, at most. Vargas's accounting and production history reveal the following relationships between units produced and the costs of direct labor and supervision (measured on an annual basis):

Required:
1. Prepare two graphs: one that illustrates the relationship between direct labor cost and units produced, and one that illustrates the relationship between the cost of supervision and units produced. Let cost be the vertical axis and units produced the horizontal axis.
2. How would you classify each cost? Why?
3. Suppose that the normal range of activity is between 2,400 and 2,450 units and that the exact number of machinists is currently hired to support this level of activity. Further suppose that production for the next year is expected to increase by an additional 400 units. How much will the cost of direct labor increase (and how will this increase be realized)? Cost of supervision?

Answer 2

Question 3

An increase in production levels within a relevant range most likely would result in: a. increasing the total cost.
B) increasing the variable cost per unit.
C) decreasing the total fixed cost.
D) decreasing the variable cost per unit.

Answer 3

An increase in production levels within a relevant range most likely would result in increasing the total fixed cost. Because, variable cost per unit is fixed within a relevant level. Total fixed cost does not change over a relevant level and variable cost per unit is fixed over the relevant level.
Hence, the correct option is
.

Question 4

Using Multiple Regression Results to Construct and Apply a Cost Formula
The controller for Dohini Manufacturing Company felt that the number of purchase orders alone did not explain the monthly purchasing cost. He knew that nonstandard orders (for example, one requiring an overseas supplier) took more time and effort. He collected data on the number of nonstandard orders for the past 12 months and added that information to the data on purchasing cost and number of purchase orders.

Multiple regression was run on the above data; the coefficients shown by the regression program are:

Required:
1. Construct the cost formula for the purchasing activity showing the fixed cost and the variable rate.
2. If Dohini Manufacturing Company estimates that next month will have 430 purchase orders and 45 nonstandard orders, what is the total estimated purchasing cost for that month? (Round your answer to the nearest dollar.)
3. What if Dohini Manufacturing wants to estimate purchasing cost for the coming year and expects 5,340 purchase orders and 580 nonstandard orders? What will estimated total purchasing cost be? What is the total fixed purchasing cost? Why doesn't it equal the fixed cost calculated in Requirement 2 above? (Round your answers to the nearest dollar.)

Question 5

Some firms assign mixed costs to either the fixed or variable cost categories without using any formal methodology to separate them. Explain how this practice can be defended.

Question 6

A delivery company is implementing a system to compare the costs of purchasing and operating different vehicles in its fleet. Truck 415 is driven 125,000 miles per year at a variable cost of $0.13 per mile. Truck 415 has a capacity of 28,000 pounds and delivers 250 full loads per year. What amount is the truck's delivery cost per pound? a. $0.00163 per pound
B) $0.00232 per pound
C) $0.58036 per pound
D) $1.72000 per pound

Question 7

Why do mixed costs pose a problem when it comes to classifying costs into fixed and variable categories?

Question 8

Account Analysis Method
Penny Davis runs the Shear Beauty Salon near a college campus. Several months ago, Penny used some unused space at the back of the salon and bought two used tanning beds. She hired a receptionist and kept the salon open for extended hours each week so that tanning clients would be able to use the benefits of their tanning packages. After three months, Penny wanted additional information on the costs of the tanning area. She accumulated the following data on four accounts:

Penny decided that wages and equipment depreciation were fixed. She thought supplies and maintenance would vary with the number of tanning visits and that electricity would vary with the number of tanning minutes.
Required:
1. Calculate the average account balance for each account. Calculate the average monthly amount for each of the two drivers. (Round all answers to the nearest dollar or the nearest whole unit.)
2. Calculate fixed monthly cost and the variable rates for the account averages. (Round to the nearest cent.) Express the results in the form of an equation for total cost.
3. In April, Penny predicts there will be 360 visits for a total of 3,700 minutes. What is the total cost for April?
4. Suppose that Penny decides to buy a new tanning bed at the beginning of April for $6,960. The tanning bed is expected to last four years and will have no salvage value at the end of that time. What part of the cost equation will be affected? How? What is the new expected cost in April?

Question 9

Cost Behavior, Resource Usage, Excess Capacity
Rolertyme Company manufactures roller skates. With the exception of the rollers, all parts of the skates are produced internally. Neeta Booth, president of Rolertyme, has decided to make the rollers instead of buying them from external suppliers. The company needs 100,000 sets per year (currently it pays $1.90 per set of rollers).
The rollers can be produced using an available area within the plant. However, equipment for production of the rollers would need to be leased ($30,000 per year lease payment). Additionally, it would cost $0.50 per machine hour for power, oil, and other operating expenses. The equipment will provide 60,000 machine hours per year. Direct material costs will average $0.75 per set, and direct labor will average $0.25 per set. Since only one type of roller would be produced, no additional demands would be made on the setup activity. Other overhead activities (besides machining and setups), however, would be affected. The company's cost management system provides the following information about the current status of the overhead activities that would be affected. (The supply and demand figures do not include the effect of roller pro-duction on these activities.) The lumpy quantity indicates how much capacity must be purchased should any expansion of activity supply be needed. The purchase price is the cost of acquiring the capacity represented by the lumpy quantity. This price also represents the cost of current spending on existing activity supply (for each block of activity).

Production of rollers would place the following demands on the overhead activities:

Producing the rollers also means that the purchase of outside rollers will cease. Thus, purchase orders associated with the outside acquisition of rollers will drop by 5,000. Similarly, the moves for the handling of incoming orders will decrease by 200. The company has not inspected the rollers purchased from outside suppliers.
Required:
1. Classify all resources associated with the production of rollers as flexible resources and committed resources. Label each committed resource as a short- or long-term commitment. How should we describe the cost behavior of these short- and long-term resource commit-ments? Explain.
2. Calculate the total annual resource spending (for all activities except for setups) that the company will incur after production of the rollers begins. Break this cost into fixed and variable activity costs. In calculating these figures, assume that the company will spend no more than necessary. What is the effect on resource spending caused by production of the rollers?
3. Refer to Requirement 2. For each activity, break down the cost of activity supplied into the cost of activity output and the cost of unused activity.

Question 10

Cumulative Average-Time Learning Curve
Pohlman Company makes aircraft engines. Pohlman has noticed that, in general, each new engine design is subject to an 80 percent learning rate. Assume that the first unit produced takes 500 hours, and direct labor is paid an average of $30 per hour.
Required:
1. Set up a table with columns showing: the cumulative number of units, cumulative average time per unit in hours, and cumulative total time in hours. Show results by row for total production of: one engine, two engines, four engines, eight engines, sixteen engines, and thirty two engines. (Round hour answers to two significant digits.)
2. What is the total labor cost if Pohlman manufactures the following number of engines: one, four, or sixteen? What is the average cost per engine for the following number of engines: one, four, or sixteen? (Round your answers to the nearest dollar.)
3. What if Pohlman is preparing a bid to build 16 engines? Calculate budgeted labor cost for an engine design which Pohlman has built before (assume that 16 of these engines had been made previously and the first unit took 500 hours). Calculate budgeted labor cost for a new engine design that Pohlman's workers have never made before (assume the first unit will take 500 hours).

Question 11

Account Analysis Method
Shirrell Blackthorn is the accountant for several pizza restaurants based in a tri-city area. The president of the chain wanted some help with budgeting and cost control, so Shirrell decided to analyze the accounts for the past year. She divided the accounts into four different categories, depending on whether they appeared to be primarily fixed or to vary with one of three different drivers. Food and wage costs appeared to vary with the total sales dollars. Delivery costs varied with the number of miles driven (workers were required to use their own cars and were reim-bursed for miles driven). A group of other costs, including purchasing, materials handling, and purchases of kitchen equipment, dishes, and pans, appeared to vary with the number of different product types (e.g., pizza, salad, and lasagna). Shirrell came up with the following monthly averages:

Required:
1. Calculate the average variable rate for the following costs: food and wages, delivery costs, and other costs.
2. Form an equation for total cost based on the fixed costs and your results from Requirement 1.
3. The president is considering expanding the restaurant menu and plans to add one new offering to the menu. According to the cost equation, what is the additional monthly cost for the new menu offering?

Question 12

Cost Behavior, High-Low Method, Pricing Decision
St. Teresa's Medical Center (STMC) offers a number of specialized medical services, including neuroscience, cardiology, and oncology. STMC's strong reputation for quality medical care allowed it to branch out into other services. It is now ready to expand its orthopedic services and has just added a free-standing orthopedic clinic offering a full range of outpatient, surgical, and physical therapy services. The cost of the orthopedic facility is depreciated on a straight-line basis. All equipment within the facility is leased.
Since the clinic had no experience with in-patient orthopedic services (for patients recovering from hip and knee replacements, for example), it decided to operate the orthopedic center for two months before determining how much to charge per patient day on an ongoing basis. As a temporary measure, the clinic adopted a patient-day charge of $190, an amount equal to the fees charged by a hospital specializing in orthopedic care in a nearby city.
This initial per-day charge was quoted to patients entering the orthopedic center during the first two months with assurances that if the actual operating costs of the new center justified it, the charge could be less. In no case would the charges be more. A temporary policy of billing after 60 days was adopted so that any adjustments could be made.
The orthopedic center opened on January 1. During January, the center had 4,200 patient days of activity. During February, the activity was 4,500 patient days. Costs for these two levels of activity output are as follows:

Required:
1. Classify each cost as fixed, variable, or mixed, using patient days as the activity driver.
2. Use the high-low method to separate the mixed costs into fixed and variable.
3. The administrator of the orthopedic center estimated that the center will average 4,300 patient days per month. If the center is to be operated as a nonprofit organization, how much will it need to charge per patient day? How much of this charge is variable? How much is fixed?
4. Suppose the orthopedic center averages 4,800 patient days per month. How much would need to be charged per patient day for the center to cover its costs? Explain why the charge per patient day decreased as the activity output increased.

Question 13

Why is a scattergraph a good first step in separating mixed costs into their fixed and variable components?

Question 14

Scattergraph Method, High-Low Method
Deepa Dalai opened a free-standing radiology clinic. She had anticipated that the costs for the V-J radiological tests would be primarily fixed, but she found that costs increased with the number of tests performed. Costs for this service over the past nine months are as follows:

Required:
1. Prepare a scattergraph based on the preceding data. Use cost for the vertical axis and number of radiology tests for the horizontal axis. Based on an examination of the scattergraph, does there appear to be a linear relationship between the cost of radiology service and the number of tests?
2. Compute the cost formula for radiology services using the high-low method.
3. Calculate the predicted cost of radiology services for October for 3,500 tests using the formula found in Requirement 2.

Question 15

High-Low Method, Method of Least Squares, Correlation, Confidence Interval
Big Mike's, a large hardware store, has gathered data on its overhead activities and associated costs for the past 10 months. Nizam Sanjay, a member of the controller's department, believes that overhead activities and costs should be classified into groups that have the same driver. He has decided that unloading incoming goods, counting goods, and inspecting goods can be grouped together as a more general receiving activity, since these three activities are all driven by the number of receiving orders. The 10 months of data shown on page 134 have been gathered for the receiving activity.

Required:
1. Prepare a scattergraph, plotting the receiving costs against the number of purchase orders. Use the vertical axis for costs and the horizontal axis for orders.
2. Select two points that make the best fit, and compute a cost formula for receiving costs.
3. Using the high-low method, prepare a cost formula for the receiving activity.
4. Using the method of least squares, prepare a cost formula for the receiving activity. What is the coefficient of determination?
5. Prepare a 95 percent confidence interval for receiving costs when 1,200 receiving orders are expected.

Question 16

Mixed Costs and Cost Formula
Callie's Gym is a complete fitness center. Owner Callie Ducain employs various fitness trainers who are expected to staff the front desk and to teach fitness classes. While on the front desk, trainers answer the phone, handle walk-ins and show them around the gym, answer member questions about the weight machines, and do light cleaning (wiping down the equipment, vacuuming the floor). The trainers also teach fitness classes (e.g., pilates, spinning, body pump) according to their own interest and training level. The cost of the fitness trainers is $600 per month and $20 per class taught. Last month, 100 classes were taught.
Required:
1. Develop a cost equation for total cost of labor.
2. What was total variable labor cost last month?
3. What was total labor cost last month?
4. What was the unit cost of labor (per class) for last month?
5. What if Callie increased the number of classes offered by 50 percent? What would be the total labor cost? The unit labor cost? Explain why the unit labor cost decreased.

Question 17

What are the advantages of the scatterplot method over the high-low method? The high-low method over the scatterplot method?

Question 18

Method of Least Squares, Goodness of Fit
Refer to the data in Exercise 3.17.
Required:
1. Compute the cost formula for radiology services using the method of least squares.
2. Using the formula computed in Requirement 1, what is the predicted cost of radiology services for October for 3,500 appointments? (Round the answer to the nearest dollar.)
3. What does the coefficient of determination tell you about the cost formula computed in Requirement 1? What are the t statistics for the number of tests and the intercept term? What do these statistics tell you about the choice of number of tests as the independent variable and the probability that there are fixed costs?

Question 19

Cost Formulas, Single and Multiple Activity Drivers, Coefficient of Correlation
Kimball Company has developed the following cost formulas:
Material usage: Y m = $80 X ; r = 0.95
Labor usage (direct): Y 1 = $20 X ; r = 0.96
Overhead activity: Y o = $350,000 + $100 X ; r = 0.75
Selling activity: Y s = $50,000 + $10 X ; r = 0.93
where
X = Direct labor hours
The company has a policy of producing on demand and keeps very little, if any, finished goods inventory (thus, units produced equals units sold). Each unit uses one direct labor hour for production.
The president of Kimball Company has recently implemented a policy that any special orders will be accepted if they cover the costs that the orders cause. This policy was implemented because Kimball's industry is in a recession and the company is producing well below capacity (and expects to continue doing so for the coming year). The president is willing to accept orders that minimally cover their variable costs so that the company can keep its employees and avoid layoffs. Also, any orders above variable costs will increase overall profitability of the company.
Required:
1. Compute the total unit variable cost. Suppose that Kimball has an opportunity to accept an order for 20,000 units at $220 per unit. Should Kimball accept the order? (The order would not displace any of Kimball's regular orders.)
2. Explain the significance of the coefficient of correlation measures for the cost formulas. Did these measures have a bearing on your answer in Requirement 1? Should they have a bearing? Why or why not?
3. Suppose that a multiple regression equation is developed for overhead costs: Y = $100,000 + $100 X 1 + $5,000 X 2 + $300 X 3 , where X 1 = direct labor hours, X 2 = number of setups, and X 3 = engineering hours. The coefficient of determination for the equation is 0.94. Assume that the order of 20,000 units requires 12 setups and 600 engineering hours. Given this new information, should the company accept the special order referred to in Requirement 1? Is there any other information about cost behavior that you would like to have? Explain.

Question 20

Why is knowledge of cost behavior important for managerial decision making? Give an example to illustrate your answer.

Question 21

Variable, Fixed, and Mixed Costs
Classify the following costs of activity inputs as variable, fixed, or mixed. Identify the activity and the associated activity driver that allow you to define the cost behavior. For example, assume that the resource input is "cloth in a shirt." The activity would be "sewing shirts," the cost behavior "variable," and the activity driver "units produced." Prepare your answers in the following format:

a. Flu vaccine
b. Salaries, equipment, and materials used for moving materials in a factory
c. Forms used to file insurance claims
d. Salaries, forms, and postage associated with purchasing
e. Printing and postage for advertising circulars
f. Equipment, labor, and parts used to repair and maintain production equipment
g. Power to operate sewing machines in a clothing factory
h. Wooden cabinets enclosing audio speakers
i. Advertising
j. Sales commissions
k. Fuel for a delivery van
l. Depreciation on a warehouse
m. Depreciation on a forklift used to move partially completed goods
n. X-ray film used in the radiology department of a hospital
o. Rental car provided for a client

Question 22

High-Low Method, Cost Formulas
The controller of the South Charleston plant of Ravinia, Inc., monitored activities associated with materials handling costs. The high and low levels of resource usage occurred in September and March for three different resources associated with materials handling. The number of moves is the driver. The total costs of the three resources and the activity output, as measured by moves for the two different levels, are presented as follows:

Required:
1. Determine the cost behavior formula of each resource. Use the high-low method to assess the fixed and variable components.
2. Using your knowledge of cost behavior, predict the cost of each item for an activity output level of 9,000 moves.
3. Construct a cost formula that can be used to predict the total cost of the three resources combined. Using this formula, predict the total materials handling cost if activity output is 9,000 moves. In general, when can cost formulas be combined to form a single cost formula?

Question 23

Scatterplot, High-Low Method, Regression
The management of Wheeler Company has decided to develop cost formulas for its major overhead activities. Wheeler uses a highly automated manufacturing process, and power costs are a significant manufacturing cost. Cost analysts have decided that power costs are mixed; thus, they must be broken into their fixed and variable elements so that the cost behavior of the power usage activity can be properly described. Machine hours have been selected as the activity driver for power costs. The following data for the past eight quarters have been collected:

Required:
1. Prepare a scattergraph by plotting power costs against machine hours. Does the scatter- graph show a linear relationship between machine hours and power cost?
2. Using the high and low points, compute a power cost formula.
3. Use the method of least squares to compute a power cost formula. Evaluate the coefficient of determination.
4. Rerun the regression and drop the point (20,000; $26,000) as an outlier. Compare the results from this regression to those for the regression in Requirement 3. Which is better?

Question 24

Activity Availability, Capacity Used, Unused Capacity
Corazon Manufacturing Company has a purchasing department staffed by five purchasing agents. Each agent is paid $28,000 per year and is able to process 4,000 purchase orders. Last year, 17,800 purchase orders were processed by the five agents.
Required:
1. Calculate the activity rate per purchase order.
2. Calculate, in terms of purchase orders, the:
a. total activity availability
b. unused capacity
3. Calculate the dollar cost of:
a. total activity availability
b. unused capacity
4. Express total activity availability in terms of activity capacity used and unused capacity.
5. What if one of the purchasing agents agreed to work half time for $14,000? How many purchase orders could be processed by four and a half purchasing agents? What would unused capacity be in purchase orders?

Question 25

Describe the method of least squares. Why is this method better than either the high-low method or the scatterplot method?

Question 26

Method of Least Squares, Evaluation of Cost Equation
Lassiter Company used the method of least squares to develop a cost equation to predict the cost of moving materials. There were 80 data points for the regression, and the following computer output was generated:

The activity driver used was the number of moves.
Required:
1. What is the cost formula?
2. Using the cost formula, predict the cost of moving materials if 340 moves are made. Now prepare a 95 percent confidence interval for this prediction. (Round your answers to the nearest dollar.)
3. What percentage of the variability in moving cost is explained by the number of moves? Do you think the equation will predict well? Why or why not?

Question 27

Method of Least Squares
DeMarco Company is developing a cost formula for its packing activity. Discussion with the workers in the Packing Department has revealed that packing costs are associated with the number of customer orders, the size of the orders, and the relative fragility of the items (more fragile items must be specially wrapped in bubble wrap and Styrofoam). Data for the past 20 months have been gathered:


Required:
1. Using the method of least squares, run a regression using the number of orders as the independent variable.
2. Run a multiple regression using three independent variables: the number of orders, the weight of orders, and the number of fragile items. Which regression equation is better? Why?
3. Predict the total packing cost for 25,000 orders, weighing 40,000 pounds, with 4,000 fragile items. Prepare a 99 percent confidence interval for this estimate of total packing cost.
4. How much would the cost estimated for Requirement 3 change if the 25,000 orders weighed 40,000 pounds, but only 2,000 were fragile items?

Question 28

How does the length of the time horizon affect the classification of a cost as fixed or variable? What is the meaning of short run? Long run?

Question 29

Cost Behavior
SmokeCity, Inc., manufactures barbeque smokers. Based on past experience, SmokeCity has found that its total annual overhead costs can be represented by the following formula: Overhead cost = $543,000 + $1.34X, where X equals number of smokers. Last year, SmokeCity produced 20,000 smokers. Actual overhead costs for the year were as expected.
Required:
1. What is the driver for the overhead activity?
2. What is the total overhead cost incurred by SmokeCity last year?
3. What is the total fixed overhead cost incurred by SmokeCity last year?
4. What is the total variable overhead cost incurred by SmokeCity last year?
5. What is the overhead cost per unit produced?
6. What is the fixed overhead cost per unit?
7. What is the variable overhead cost per unit?
8. Recalculate Requirements 5, 6, and 7 for the following levels of production: (a) 19,500 units and (b) 21,600 units. (Round your answers to the nearest cent.) Explain this outcome.

Question 30

Multiple Regression
Sweet Dreams Bakery was started five years ago by Della Fontera who was known for her breads, sweet rolls, and personalized cakes. Della had kept her accounting system simple, believing that she had a good intuitive handle on costs. She had been using the following formula to describe her monthly overhead costs:
Overhead cost = $7,800 + $7.50 (direct labor hours)
For breads and sweet rolls that were available in the bakery case each day, she applied a standard pricing system. For special orders, however, Della needed her cost formula to help her come up with an estimated cost for the personalized cake or wedding cake. To that cost, she applied a markup percentage.
Lately, however, the increase in the variety of orders and the elaborateness of the wedding cakes made her wonder if a more sophisticated view of costs would help her in planning, budgeting, and pricing.
After some late-night discussions with her workers, Della determined that Sweet Dreams' expansion into wedding cakes and gift baskets had made special orders a more complex operation. The various shapes of the wedding cake tiers had required Della's investing in differentsized cake pans, as well as decorating tips for icing. The different icing patterns and elaborate designs took much more time for icing, as well. In addition, while a five-year-old's birthday cake just requires that the child's name and (possibly) the superhero's name are spelled correctly, a wedding cake is a once-in-a-lifetime item that must achieve perfection. (Della hated to use the term "bridezilla" but.…) Gift baskets required Della to stock baskets, cellophane, and bows. Then when an order came in, a worker had to stop baking to arrange the muffins and breads artfully in the basket, wrap it, and tie the bow. While it seemed simple enough, this took time and thought. Thus, the number of direct labor hours was still an important variable, but so were the number of wedding cakes and gift baskets. Della rummaged through her college textbooks and found information on regression. Then, with help from one of her computer savvy workers, she ran multiple regression tables for the past 24 months of data for Sweet Dreams for three independent variables: number of direct labor hours, the number of wedding cakes, and the number of gift baskets. The following printout was obtained:

Required:
1. Write out the cost equation for Sweet Dreams' monthly overhead cost.
2. Suppose that next month Sweet Dreams expects to have 550 direct labor hours, 35 wedding cakes, and 20 gift baskets. What is the expected overhead? (Round to the nearest dollar.)
3. Calculate a 95 percent confidence interval for the prediction made in Requirement 2. (Round to the nearest dollar.)
4. What does R 2 mean in this equation? Overall, what is your evaluation of the cost equation that was developed for the cost of overhead? Suppose that Sweet Dreams charges an extra $2.50 to prepare a gift basket. This charge is in addition to the price charged for the items (e.g., muffins) that the customer chooses to put into the basket. How might Della use the results of the regression equation to see whether or not the $2.50 charge is appropriate?

Question 31

High-Low Method, Scatterplot, Regression
Weber Valley Regional Hospital has collected data on all of its activities for the past 16 months. Data for cardiac nursing care follow:

Required:
1. Using the high-low method, calculate the variable rate per hour and the fixed cost for the nursing care activity.
2. Run a regression on the data, using hours of nursing care as the independent variable. Predict cost for the cardiac nursing care for September 2014 if 1,400 hours of nursing care are forecast. Evaluate the regression equation. How comfortable are you with the predicted cost for September 2014?
3. Upon looking into the events that happened at the end of 2013, you find that the cardiology ward bought a cardiac-monitoring machine for the nursing station. Administrators also decided to add a new supervisory position for the evening shift. Monthly depreciation on the monitor and the salary of the new supervisor together total $10,000. Now, run two regression equations, one for the observations from 2013 and the second using only the observations for the eight months in 2014. Discuss your findings. What is your predicted cost of the cardiac nursing care activity for September 2013?

Question 32

Account Analysis to Determine Cost Behavior
Darnell Poston, owner of Poston Manufacturing, Inc., wants to determine the cost behavior of labor and overhead. Darnell pays his workers a salary; during busy times, everyone works to get the orders out. Temps (temporary workers hired through an agency) may be hired to pack and prepare completed orders for shipment. During slower times, Darnell catches up on bookkeeping and administrative tasks while the salaried workers do preventive maintenance, clean the lines and building, etc. Temps are not hired during slow times. Darnell found that workers' salaries, temp agency payments, rentals, utilities, and plant and equipment depreciation are the largest dollar accounts. He believes that workers' salaries and plant and equipment depreciation are fixed, temp agency payments are associated with the number of orders (since temp workers are used to pack and prepare completed orders for shipment), and electricity is associated with the number of machine hours. When the number of different parts stored by Poston exceeds the space in the materials storeroom, Darnell rents nearby warehouse space. He can rent as much or as little space as he wants on a month-to-month basis. Therefore, he believes warehouse rental payments are variable with the number of parts purchased and stored. The account balances for the past six months as well as the six-month total are as follows:

Information on number of machine hours, orders, and parts for the six-month period follows:

Required:
1. Calculate the monthly average account balance for each account. Calculate the average monthly amount for each of the three drivers.
2. Calculate fixed monthly cost and the variable rates for temp agency payments, warehouse rent, and electricity. Express the results in the form of an equation for total cost.
3. In July, Darnell predicts there will be 420 orders, 250 parts, and 5,900 machine hours. What is the total labor and overhead cost for July?
4. What if Darnell buys a new machine in July for $24,000? The machine is expected to last 10 years and will have no salvage value at the end of that time. What part of the cost equation will be affected? How? What is the new expected cost in July?

Question 33

What is meant by the best-fitting line? Is the best-fitting line necessarily a good-fitting line? Explain.

Question 34

Multiple Regression
Ginnian and Fitch, a regional accounting firm, performs yearly audits on a number of different for-profit and not-for-profit entities. Two years ago, Luisa Mellina, Ginnian's partner in charge of operations, became concerned about the amount of audit time required by not-for-profit entities. As a result, she instituted a series of training programs focusing on the auditing of not-forprofit entities. Now, she would like to see if the training seemed to work. So, she ran a multiple regression on 22 months of data for Ginnian for three variables: the total monthly cost of audit professional time, the number of not-for-profit audits, and the hours of training in the audit of not-for-profit entities. The following printout was obtained:

Required:
1. Write out the cost equation for Ginnian's audit professional time.
2. If Ginnian expects to have 9 audits of not-for-profits next month and expects that audit professionals will have a total of 130 hours of not-for-profit training, what is the anticipated cost of professional time?
3. Calculate a 99 percent confidence interval for the prediction made in Requirement 2.
4. Are the hours spent auditing not-for-profit entities positively or negatively correlated with audit professional costs? Is percentage of experienced team members positively or negatively correlated with audit professional cost?
5. What does R 2 mean in this equation? Overall, what is your evaluation of the cost equation that was developed for the cost of audit professionals?

Question 35

Comparison of Regression Equations
Friendly Bank is attempting to determine the cost behavior of its small business lending operations. One of the major activities is the application activity. Two possible activity drivers have been mentioned: application hours (number of hours to complete the application) and number of applications. The bank controller has accumulated the following data for the setup activity:

Required:
1. Estimate a regression equation with application hours as the activity driver and the only independent variable. If the bank forecasts 2,600 application hours for the next month, what will be the budgeted application cost?
2. Estimate a regression equation with number of applications as the activity driver and the only independent variable. If the bank forecasts 80 applications for the next month, what will be the budgeted application cost?
3. Which of the two regression equations do you think does a better job of predicting application costs? Explain.
4. Run a multiple regression to determine the cost equation using both activity drivers. What are the budgeted application costs for 2,600 application hours and 80 applications?

Question 36

Explain the difference between resource spending and resource usage.

Question 37

Types of Costs
Cashion Company produces chemical mixtures for veterinary pharmaceutical companies. Its factory has four mixing lines that mix various powdered chemicals together according to specified formulas. Each line can produce up to 5,000 barrels per year. Each line has one supervisor who is paid $34,000 per year. Depreciation on equipment averages $16,000 per year. Direct materials and power cost about $4.50 per unit.
Required:
1. Prepare a graph for each of these three costs: equipment depreciation, supervisors' wages, and direct materials and power. Use the vertical axis for cost and the horizontal axis for units (barrels). Assume that sales range from 0 to 20,000 units.
2. Assume that the normal operating range for the company is 16,000 to 19,000 units per year. How would you classify each of the three types of cost?

Question 38

Learning Curve
Bordner Company manufactures HVAC (heating, ventilation, and air conditioning) systems for commercial buildings. For each new design, Bordner faces a 90 percent learning rate. On average, the first unit of a new design takes 600 hours. Direct labor is paid $25 per hour.
Required:
1. Set up a table with columns showing: the cumulative number of units, cumulative average time per unit in hours, and cumulative total time in hours. Show results by row for total production of one unit, two units, four units, eight units, and sixteen units. (Round hour answers to two significant digits.)
2. What is the total labor cost if Bordner makes the following number of units: one, four, sixteen? What is the average cost per system for the following number of systems: one, four, or sixteen? (Round your answers to the nearest dollar.)
3. Using the logarithmic function, set up a table with columns showing: the cumulative number of units, cumulative average time per unit in hours, cumulative total time in hours, and the time for the last unit. Show results by row for each of units one through eight. (Round answers to two significant digits.)

Question 39

Multiple Regression, Confidence Intervals, Reliability of Cost Formulas
Randy Harris, controller, has been given the charge to implement an advanced cost management system. As part of this process, he needs to identify activity drivers for the activities of the firm. During the past four months, Randy has spent considerable effort identifying activities, their associated costs, and possible drivers for the activities' costs.
Initially, Randy made his selections based on his own judgment using his experience and input from employees who perform the activities. Later, he used regression analysis to confirm his judgment. Randy prefers to use one driver per activity, provided that an R 2 of at least 80 percent can be produced. Otherwise, multiple drivers will be used, based on evidence provided by multiple regression analysis. For example, the activity of inspecting finished goods produced an R 2 of less than 80 percent for any single activity driver. Randy believes, however, that a satisfactory cost formula can be developed using two activity drivers: the number of batches and the number of inspection hours. Data collected for a 14-month period are as follows:

Required:
1. Calculate the cost formula for inspection costs using the two drivers, inspection hours and number of batches. Are both activity drivers useful? What does the R 2 indicate about the formula?
2. Using the formula developed in Requirement 1, calculate the inspection cost when 300 inspection hours are used and 30 batches are produced. Prepare a 90 percent confidence interval for this prediction.

Question 40

High-Low Method to Determine Fixed Cost and Variable Rate
Dohini Manufacturing Company had the following 12 months of data on purchasing cost and number of purchase orders.

Required:
1. Determine the high point and the low point.
2. Calculate the variable rate for purchasing cost based on the number of purchase orders.
3. Calculate the fixed monthly cost of purchasing.
4. Write the cost formula for the purchasing activity showing the fixed cost and the variable rate.
5. If Dohini Manufacturing Company estimates that next month will have 430 purchase orders, what is the total estimated purchasing cost for that month?
6. What if Dohini Manufacturing wants to estimate purchasing cost for the coming year and expects 5,340 purchase orders? What will estimated total purchasing cost be? What is the total fixed purchasing cost? Why doesn't it equal the fixed cost calculated in Requirement 3 above?

Question 41

When is multiple regression required to explain cost behavior?

Question 42

Learning Curve
Sharon Glessing, controller for Janson Company, has noticed that the company faces a 75 percent learning rate for its specialty design line. In planning the cost of the latest design, Sharon assumed that the first set of units would take 1,000 direct labor hours. She decided to use this information in budgeting for the cost of the total project, which would involve the manufacture of 16 sets. Direct labor is paid $40 per hour.
Required:
1. Set up a table with columns showing the cumulative number of units, cumulative average time per unit in hours, and cumulative total time in hours. Show results by row for total production of one unit, two units, four units, eight units, and sixteen units. (Round hour answers to two significant digits.)
2. What is the total labor cost if Janson Company makes eight sets? Sixteen sets? (Round your answers to the nearest dollar.)
3. Using the logarithmic function, set up a table with columns showing: the cumulative number of units, cumulative average time per unit in hours, cumulative total time in hours, and the time for the last unit. Show results by row for each of unit sets one through eight. (Round hour answers to two significant digits.) What is the direct labor cost for the eighth set?

Question 43

Simple and Multiple Regression, Evaluating Reliability of an Equation
The Lockit Company manufactures door knobs for residential homes and apartments. Lockit is considering the use of simple (single-driver) and multiple regression analyses to forecast annual sales because previous forecasts have been inaccurate. The new sales forecast will be used to initiate the budgeting process and to identify more completely the underlying process that generates sales.
Larry Husky, the controller of Lockit, has considered many possible independent variables and equations to predict sales and has narrowed his choices to four equations. Husky used annual observations from 20 prior years to estimate each of the four equations.
Following are definitions of the variables used in the four equations and a statistical summary of these equations:
Statistical Summary of Four Equations


Required:
1. Write Equations 2 and 4 in the form Y = a + bx.
2. If actual sales are $1,500,000 in 2013, what would be the forecasted sales for Lockit in 2014?
3. Explain why Larry Husky might prefer Equation 3 to Equation 2.
4. Explain the advantages and disadvantages of using Equation 4 to forecast sales.

Question 44

What is the relationship between flexible resources and cost behavior?

Question 45

Resource Usage Model and Cost Behavior
For the following activities and their associated resources, identify the following: (1) a cost driver, (2) flexible resources, and (3) committed resources. Also, label each resource as one of the following with respect to the cost driver: (a) variable and (b) fixed.

* Destructive sampling occurs whenever it is necessary to destroy a unit as inspection occurs.

Question 46

Cost Behavior Patterns
The graphs below represent cost behavior patterns that might occur in a company's cost structure. The vertical axis represents total cost, and the horizontal axis represents activity output.

Required:
For each of the following situations, choose the graph from the group a-l that best illustrates the cost pattern involved. Also, for each situation, identify the driver that measures activity output.
1. The cost of power when a fixed fee of $500 per month is charged plus an additional charge of $0.12 per kilowatt-hour used.
2. Commissions paid to sales representatives. Commissions are paid at the rate of 5 percent of sales made up to total annual sales of $500,000, and 7 percent of sales above $500,000.
3. A part purchased from an outside supplier costs $12 per part for the first 3,000 parts and $10 per part for all parts purchased in excess of 3,000 units.
4. The cost of surgical gloves, which are purchased in increments of 100 units (gloves come in boxes of 100 pairs).
5. The cost of tuition at a local college that charges $250 per credit hour up to 15 credit hours. Hours taken in excess of 15 are free.
6. The cost of tuition at another college that charges $4,500 per semester for any course load ranging from 12 to 16 credit hours. Students taking fewer than 12 credit hours are charged $375 per credit hour. Students taking more than 16 credit hours are charged $4,500 plus $300 per credit hour in excess of 16.
7. A beauty shop's purchase of soaking solution to remove artificial nails. Each jar of solution can soak off approximately 50 nails before losing its effectiveness.
8. Purchase of diagnostics equipment by a company for inspection of incoming orders.
9. Use of disposable gowns by patients in a hospital.
10. Cost of labor at a local fast-food restaurant. Three employees are always on duty during working hours; more employees can be called in during periods of heavy demand to work on an "as-needed" basis.
11. A manufacturer found that the maintenance cost of its heavy machinery was tied to the age of the equipment. Experience indicated that the maintenance cost increased at an increasing rate as the equipment aged.

Question 47

Learning Curve
Harriman Industries manufactures engines for the aerospace industry. It has completed manufacturing the first unit of the new ZX-9 engine design. Management believes that the 1,000 labor hours required to complete this unit are reasonable and is prepared to go forward with the manufacture of additional units. An 80 percent cumulative average-time learning curve model for direct labor hours is assumed to be valid. Data on costs are as follows:

Required:
1. Set up a table with columns for cumulative number of units, cumulative average time per unit in hours, and the cumulative total time in hours. Complete the table for 1, 2, 4, 8, 16, and 32 units. (Round hours to one significant digit.)
2. What are the total variable costs of producing 1, 2, 4, 8, 16, and 32 units? What is the variable cost per unit for 1, 2, 4, 8, 16, and 32 units?

Question 48

Using Regression Results to Construct and Apply a Cost Formula
Refer to Cornerstone Exercise 3.4 for data on Dohini Manufacturing Company's purchasing cost and number of purchase orders.
The controller for Dohini Manufacturing ran regression on the data, and the coefficients shown by the regression program are:

Required:
1. Construct the cost formula for the purchasing activity showing the fixed cost and the variable rate.
2. If Dohini Manufacturing Company estimates that next month will have 430 purchase orders, what is the total estimated purchasing cost for that month? (Round your answer to the nearest dollar.)
3. What if Dohini Manufacturing wants to estimate purchasing cost for the coming year and expects 5,340 purchase orders? What will estimated total purchasing cost be? (Round your answer to the nearest dollar.) What is the total fixed purchasing cost? Why doesn't it equal the fixed cost calculated in Requirement 1 above?

Question 49

Explain the meaning of the learning curve. How do managers determine the appropriate learning curve percentage to use?

Question 50

Starling Co. manufactures one product with a selling price of $18 and variable cost of $12. Starling's total annual fixed costs are $38,400. If operating income last year was $28,800, what was the number of units Starling sold? a. 4,800
B) 6,400
C) 5,600
D) 11,200

Question 51

Learning Curve
Thames Assurance Company sells a variety of life and health insurance products. Recently, Thames developed a long-term care policy for sale to members of university and college alumni associations. Thames estimated that the sale and service of this type of policy would be subject to a 90 percent cumulative average-time learning curve model. Each unit consists of 350 policies sold. The first unit is estimated to take 1,000 hours to sell and service.
Required:
1. Set up a table with columns for cumulative number of units, cumulative average time per unit in hours, and the cumulative total time in hours. Complete the table for 1, 2, 4, 8, 16, and 32 units.
2. Suppose that Thames revises its assumption to an 80 percent learning curve. How will this affect the amount of time needed to sell and service eight units? How do you suppose that Thames estimates the percent learning rate?

Question 52

What is the relationship between committed resources and cost behavior?

Question 53

Resource Usage and Supply, Activity Rates, Service Organization
EcoBrite Labs performs tests on water samples supplied by outside companies to ensure that their waste water meets environmental standards. Customers deliver water samples to the lab and receive the lab reports via the Internet. The EcoBrite Labs facility is built and staffed to handle the processing of 100,000 tests per year. The lab facility cost $160,000 to build and is expected to last 10 years and will have no salvage value. Processing equipment cost $250,000 and has a life expectancy of five years and will have no salvage value. Both facility and equipment are depreciated on a straight-line basis. EcoBrite Labs has six salaried laboratory technicians, each of whom is paid $30,000. In addition to the salaries, facility, and equipment, EcoBrite Labs expects to spend $50,000 for chemicals and other supplies (assuming 100,000 tests are performed). Last year, 86,000 tests were performed.
Required:
1. Classify the resources associated with the water testing activity into one of the following types: (1) committed resources and (2) flexible resources.
2. Calculate the total annual activity rate for the water testing activity. Break the activity rate into fixed and variable components. (Round your answers to three significant digits.) 3. Compute the total activity availability, and break this into activity output and unused activity.
4. Calculate the total cost of resources supplied, and break this into the cost of activity used and the cost of unused activity.

Question 54

Which of the following costs would decrease if production levels were increased within the relevant range? a. total fixed costs
B) variable costs per unit
C) total variable costs
D) fixed costs per unit

Question 55

Constructing a Confidence Interval Using Regression Results
Dohini Manufacturing Company, using 12 months of data on purchasing cost and number of purchase orders, ran a regression equation that yielded the following information on the intercept, X variable 1, and standard error. (All regression results have been rounded to the nearest cent.)

Dohini Manufacturing Company estimates that 430 purchase orders will be processed next month and wants to know the interval into which the actual value will fall with a 95 percent confidence level. (A table of selected values of the t Distribution is found in Exhibit 3.14.)
Required:
1. Determine the appropriate t-statistic value from Exhibit 3.14 for constructing Dohini Manufacturing Company's confidence interval.
2. Dohini Manufacturing Company estimates that next month will have 430 purchase orders. Construct a 95 percent confidence interval around the predicted value for materials handling cost. (Round the confidence interval answers to the nearest dollar.)
3. What if Dohini Manufacturing wanted a 90 percent confidence level? Will the confidence interval be larger or smaller than the one calculated in Requirement 2? Construct a 90 percent confidence interval. (Round the confidence interval answers to the nearest dollar.)

Question 56

Assume you are the manager responsible for implementing a new service. The time to perform the service is subject to the learning curve. Would you prefer that the new service have a learning rate of 85 percent or 80 percent? Why?

Question 57

The regression analysis results for ABC Co. are shown as y = 90 x + 45. The standard error (Se) is 30, and coefficient of determination ( R 2 ) is 0.81. The budget calls for production of 100 units. What is ABC's estimate of total costs? a. $3,090
B) $9,045
C) $9,030
D) $4,590
E) $11,200