CHAPTER 2CHAPTER 2
PowerPoint Author:
LuAnn Bean, Ph.D., CPA, CIA, CFE
Copyright © 2014 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
2-2
Fixed Cost BehaviorFixed Cost Behavior
Consider the followingconcert example where theband will be paid $48,000 regardless of the number of tickets sold.
When activity . . . .
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Fixed Cost BehaviorFixed Cost Behavior
$48,000 ÷ 3,000 Tickets = $16.00 per Ticket
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The total variable cost increases in direct proportion to the number of tickets sold.
Variable unit cost per ticket remains at$16 regardless of the number of tickets sold.
Variable Cost BehaviorVariable Cost Behavior
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Variable Cost BehaviorVariable Cost Behavior
When activity . . .
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Now let’s see what happens whenthe number of units sold increases.
Effect of Cost Structure onProfit StabilityEffect of Cost Structure onProfit Stability
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The increase in income is greaterin the All Fixed Company.
Effect of Cost Structureon Profit StabilityEffect of Cost Structureon Profit Stability
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Yes, the decrease in income is
greater in the All Fixed Company.
Effect of Cost Structureon Profit StabilityEffect of Cost Structureon Profit Stability
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VariableCosts
FixedCosts
Effect of Cost Structureon Profit StabilityEffect of Cost Structureon Profit Stability
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An Income Statement underthe Contribution MarginApproachAn Income Statement underthe Contribution MarginApproach
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$20,000$5,000
OperatingLeverage
=
= 4
A measure of how a percentagechange in sales will effect profits.
Measuring Operating LeverageUsing Contribution MarginMeasuring Operating LeverageUsing Contribution Margin
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Activity
Total Cost
RelevantRange
The Relevant RangeThe Relevant Range
Our variable costassumption(constant unitvariable cost)applies within therelevant range.
Our variable costassumption(constant unitvariable cost)applies within therelevant range.
Possible VariableCost Behavior
Our VariableCost Assumption
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Cost AveragingCost Averaging
Average costs decline as activity increases whenfixed costs such as equipment rental are involved.
Managers must use these average costs withcaution as they differ at every level of activity.
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Unit variable cost = $4,000 ÷ 5,000 units = $.80 per unit
Fixed cost = Total cost – Total variable costFixed cost = $9,700 – ($.80 per unit × 10,000 units)Fixed cost = $9,700 – $8,000 = $1,700
Total cost = Fixed cost + Variable costTotal cost = $1,700 + $0.80X
The High-Low Method
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0 1 2 3 4
*
Total Cost in1,000’s of Dollars
$10
$20
$0
*
*
*
*
*
*
*
*
*
Activity, 1,000’s of Units Produced
X
Y
Total variable cost = Total cost – Total fixed costTotal variable cost = $16,000 – $10,000 = $6,000Unit variable cost = $6,000 ÷ 3,000 units = $2
The Scattergraph Method
Estimated fixedis $10,000
Vertical distance is total cost,approximately$16,000.
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Regression Method of CostEstimationRegression Method of CostEstimation
A method used to analyze mixed costs if ascattergraph plot reveals an approximately linearrelationship between the X and Y variables.
This method uses all of thedata points to estimatethe fixed and variablecost components of amixed cost.This method uses all of thedata points to estimatethe fixed and variablecost components of amixed cost.
This method uses all of thedata points to estimatethe fixed and variablecost components of amixed cost.This method uses all of thedata points to estimatethe fixed and variablecost components of amixed cost.
The goal of this method isto fit a straight line to thedata that minimizes thesum of the squared errors.The goal of this method isto fit a straight line to thedata that minimizes thesum of the squared errors.
The goal of this method isto fit a straight line to thedata that minimizes thesum of the squared errors.The goal of this method isto fit a straight line to thedata that minimizes thesum of the squared errors.
The cost analysisobjective is the same:
Y = a + bX
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End of Chapter 2End of Chapter 2
