Cost Behaviour Topic

1. Cost Behavior:
Analysis and Use
MARIA CRISTINA OBESO-CPA, MBA

2. Cost Behavior
- how a cost will react as changes take place in the level of business
activity.

3. Types of Cost Behavior Pattern
1. Variable Cost
2. Fixed Cost
3. Mixed Cost
4. Semi variable cost
a. Semivariable cost that increase at an increasing rate (ex. Electricity)
b. Semivariable cost that increase at a decreasing rate (ex. Learning curve cost)
5. Semi fixed cost (step function cost or step cost)

4. VARIABLE COST

5. FIXED COST

6. MIXED COST

7. SEMI VARIABLE COST

8. SEMI VARIABLE COST

9. SEMI-FIXED COST

10. The Analysis of Mixed Cost
1. Account analysis
2. Industrial engineering method
3. Conference method
4. High-low method
5. Regression Analysis Method
6. Scattergraph or Visual Fit

11. Account Analysis
It makes uses of the experience and judgement of managers and
accountants who are familiar with company operations and the way
costs react to changes in activity level

12. Account Analysis
The account analysis involves the ff. steps:
(i) Review each cost account used to record the costs that are of interest.
Each cost is identified as either fixed or variable depending on the
relationship between the cost and some activity
(ii)Each major class of manufacturing overhead or other mixed cost is
itemized. Each cost is then divided into its estimated variable and fixed
components. This is done on the basis of the experience and judgement
of accounting and other personnel

13. Industrial Engineering Method
Estimates cost function by analyzing the relationship between inputs
and outputs in physical forms. Engineering estimates indicate what
costs should be.

14. Industrial Engineering Method
Steps in applying engineering method of estimating costs.
i. A study of the physical relation between the quantities of inputs
(material, labor etc) and each unit of output (finished product) is done
a. A detailed step by step analysis of each phase of each manufacturing process
together with the kids of work performed, and time to perform each step is done.
b. Engineering estimates of the materials required for each unit of production are
obtained from drawings and specification sheets

15. Conference Method
Cost functions are estimated based on the analysis and opinions
about costs and their drivers obtained from various departments of
an organization such as purchasing, process engineering,
manufacturing, employee relations and so on. This information is
used to determine the selling price of the product, optimum product
mix and evaluate cost improvements over time.

16. High-low Method
- is based on costs observed at both the high and low levels of
activity within the relevant range
Variable cost per unit (b) = highest cost –lowest cost
highest activity level-lowest activity level
Fixed cost (a) = Total cost – variable cost
= Total cost – b (no. of units)

17. High-low Method
Illustrative Case I. Predictors, Inc.
Given: Data for the past 10 months were collected for Predictors, Inc. to
estimate the variable and fixed manufacturing overhead.

18. High-low Method
The following data on supplies cost and direct labor hours from Jan, to October are available:
Required: Determine the variable cost rate per hour and the fixed cost portion using the high-
low method
X Y
DIRECT LABOR
HOURS
SUPPLIES COST
20 50
40 110
60 150
20 70
30 80
40 100
50 150
10 60
30 110
50 120

19. ANSWER: HIGH-LOW METHOD

20. Regression Analysis Method
Uses all available data to estimate the cost function
It is a statistical method that measures the average amount of change in
the dependent variable that is associated with a unit of change of one or
more independent variable.

21. Regression Analysis Method
Simple regression analysis – estimates the relationship between the dependent variable
and one independent variable
Multiple regression analysis – estimates the relationship between the dependent and
multiple independent variable
Least squares regression method – a statistical technique which is often used in
separating mixed costs into their fixed and variable components
- Basically a line of regression is determined by solving two simultaneous linear equations which
which are based on the condition that the sum of deviations above the line equals the sum of
deviations below the line

22. Regression Analysis Method

23. Regression Method
The following data on supplies cost and direct labor hours from Jan, to October are available:
Required: Determine the variable cost rate per hour and the fixed cost portion using the high-
low method
X Y
DIRECT LABOR
HOURS
SUPPLIES COST
20 50
40 110
60 150
20 70
30 80
40 100
50 150
10 60
30 110
50 120

24. ANSWER: REGRESSION

25. X Y XY X squared
20 50 1000 400
40 110 4400 100
____ _________ ____ _____

26. REGRESSION USING EXCEL

27. Scattergraph or Visual Fit
This is a rough guide for cost estimation which plot the cost against past activity
levels. The line is drawn, insofar as possible by visual judgement, so that the
distances of the observation above the line are equal to the distances of the
observations below the line. The line is called regression line.

28. Scattergraph or Visual Fit
Steps involved in the use of Scattergraph
i. On a graph, plot actual costs (on vertical axis) during the period under study against the volume
levels (on horizontal axis)
ii. The line of best fit is then drawn by visual inspection of the plotted points, the line representing
the trend shown by the majority of the points
iii. The fixed cost is estimated by extending the left end of the line to the vertical axis
iv. The variable cost rate or slope of the cost line is determined by dividing the difference between
any two levels of activities by the difference in costs corresponding to the same level of activities

29. Strengths and Weaknesses of
Cost Estimation Methods
METHOD STRENGTHS WEAKNESSES
Account Analysis Provides a detailed expert analysis of the
cost behavior in each account
Subjective
Engineering Method Based on studies of what future costs should
should be rather than what past costs have
been
Not particularly useful when the
physical relation between inputs and
outputs is indirect
High-low method Simple to apply Uses only two data points which may
not produce accurate results
Scattergraph Method Uses all the observations of cost data
Relatively easy to understand and apply
The fitting of the line to the
observations is subjective.
Difficult to do where several
independent variables are to be used.
Least-squares regression method Uses all of the observations of cost data
The line is statistically fit to the observations
A measure of the goodness of fits of the line
to the observations is provided
Relatively easy to use with computers and
sophisticated calculators
The regression model requires that
several relatively strict assumptions be
satisfied for the results to be valid