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

Exercise 15

A decision maker is interested in obtaining a cost estimate based on a regression equation. There are no problems with changes in prices, costs, technology, or relationships between activity and cost. Only one variable is to be used. What are some questions an analyst should consider if a regression is prepared for this purpose?

Step 1 of 2

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.

Statistical method

Statistical is more accurate method of cost estimation as compared to engineering and accounting analysis method as they have certain limitations. Under this method, random events are separated from while analyzing relationship between cost and activity. While using statistical method for cost estimation it is important to confirm that past activity levels are related to current estimation.

Simple regression analysis – In simple regression analysis there is only one predictor for the activity and cost is estimated on the basis on one predictor only. For example, overhead cost is estimated on the basis of relationship between total cost and parts used.