1. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

2. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Successor Group
Umair Ahmed 0042
Umair Abbas 0031
Shahid Anwar 0034
Ali Mardan 0017
Muneeb Ahsan 0022
University of central Punjab(Okara Campus)

3. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Determining How Costs Behave
Explain the two assumptions
frequently used in cost-behavior
estimation.

4. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Assumptions in Cost-Behavior Estimation
Changes in total costs can be explained by
changes in the level of a single activity.
Cost behavior can adequately be
approximated by a linear function of the
activity level within the relevant range.

5. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Functions And Common Ways
Describe linear cost functions and
three common ways in which they
behave.

6. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Function
What is a cost function?
It is a mathematical expression
describing how costs change
with changes in the level
of an activity.

7. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Function
La Playa Hotel offers an airline
three alternative cost structures to
accommodate its crew overnight:
1. $60 per night per room usage
y = $60x
The slope of the cost function is $60.

8. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Function
$0
$5,000
$10,000
$15,000
$20,000
0 100 200 300
x = Number of rooms
y=Cost

9. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Function
2. $8,000 per month
y = $8,000
$8,000 is called a constant or intercept.
The slope of the cost function is zero.

10. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Function
$0
$5,000
$10,000
$15,000
$20,000
0 100 200 300
x = Number of rooms
y=Cost

11. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Function
3. $3,000 per month plus $24 per room
This is an example of a mixed cost.
y = $3,000 + $24x
y = a + bx

12. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Function
$0
$5,000
$10,000
$15,000
$20,000
0 100 200 300
x = Number of rooms
y=Cost

13. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Classification and Estimation
Function
Choice of cost object
Time span
Relevant range

14. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Choice of Cost Object Example
If the number of taxis owned by a taxi company
is the cost object, annual taxi registration and
license fees would be variable costs.
If miles driven during a year on a particular taxi
is the cost object, registration and license fees
for that taxi are fixed costs.

15. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Time Span
Whether a cost is variable or fixed with
respect to a particular activity depends
on the time span.
More costs are variable with longer time
spans.

16. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Relevant Range
Variable and fixed cost behavior patterns
are valid for linear cost functions only
within the given relevant range.
Costs may behave nonlinear outside the
range.

17. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Estimation
What is cost estimation?
It is the attempt to measure a past
cost relationship between costs
and the level of an activity.
Past cost-behavior functions can help
managers make more accurate
cost predictions.

18. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost Estimation Approaches
Industrial engineering method
Conference method
Account analysis method
Quantitative analysis methods

19. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Account Analysis Example
The cost analyst uses experience and
judgment to separate total costs into
fixed and variable.
Avisha & Co. sells software programs.
Total sales = $390,000
The company sold 1,000 programs.

20. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Account Analysis Example
Cost of goods sold = $130,000
Manager’s salary = $60,000
Secretary’s salary = $29,000
Commissions = 12% of sales
What is the total fixed cost?
$60,000 + $29,000 = $89,000
What is the fixed cost per unit sold?

21. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Account Analysis Example
$89,000 ÷ 1,000 = $89.00
What is the variable cost per unit sold?
Cost of goods sold: $130,000
Commissions: $390,000 × .12 = $46,800
($130,000 + $46,800) ÷ 1,000 = $176.80

22. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Steps In Estimating A Cost Function
Six steps in estimating
a cost function on the basis
of past cost relationships.

23. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Steps In Estimating A Cost Function
Step 1:
Choose the dependent variable.
Step 2:
Identify the independent variable cost
driver(s).
Step 3:
Collect data on the dependent variable
and the cost driver(s).

24. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Steps In Estimating A Cost Function
Step 4:
Plot the data.
Step 5:
Estimate the cost function.
Step 6:
Evaluate the estimated cost
function.

25. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
High-Low Method Example
High capacity December: 55,000 machine-hours
Cost of electricity: $80,450
Low capacity September: 30,000 machine-hours
Cost of electricity: $64,200
What is the variable rate?

26. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
High-Low Method Example
($80,450 – $64,200) ÷ (55,000 – 30,000)
$16,250 ÷ 25,000 = $0.65
What is the fixed cost?

27. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
High-Low Method Example
$80,450 = Fixed cost + (55,000 × $0.65)
Fixed cost = $80,450 – $35,750 = $44,700
$64,200 = Fixed cost + (30,000 × $0.65)
Fixed cost = $64,200 – $19,500 = $44,700
y = a + bx
y = $44,700 + ($0.65 × Machine-hours)

28. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Regression Analysis
It is used to measure the average amount of
change in a dependent variable, such as
electricity, that is associated with unit
increases in the amounts of one or more
independent variables, such as machine-hours.
Regression analysis uses all available
data to estimate the cost function.

29. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Regression Analysis
Simple regression analysis estimates the
relationship between the dependent
variable and one independent variable.
Multiple regression analysis estimates the
relationship between the dependent
variable and multiple independent
variables.

30. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Regression Analysis
The regression equation and regression line
are derived using the least-squares technique
The objective of least-squares is to develop
estimates of the parameters a and b.

31. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Regression Analysis
The regression method is more accurate than
the high-low method.
The vertical difference (residual term) measures
the distance between the actual cost and the
estimated cost for each observation.

32. ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
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