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Chapter 6
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Terms in this set (22)
Cost Behavior
How costs change as volume changes.
There are three common cost behaviors:
1. Variable Costs
2. Fixed Costs
3. Mixed Costs
Key Characteristics of Variable Costs
Total variable costs change in direct proportion to changes in volume.
Variable cost per unit remains constant.
Slope
Cost Graphs
Vertical Axis (y-axis)- always shows total costs
Horizontal Axis (x-axis)- shows volume of activity
Cost Equation
Is a mathematical equation for a straight line, to predict total cost.
Variable cost line can be mathematically expressed --> total variable cost (y) = variable cost per unit of activity (v) x volume of activity (x).
Key key key variable costs
total variable costs change in direct proportion to changes in volume
the variable cost per unit of activity (v) remains constant and is the slope of the variable cost line
total variable cost graphs always begin at the origin (if volume is zero, total variable costs are zero)
total variable costs can be expressed as follows: y=vx
where: y = total variable cost, x = variable cost per unit of activity, x = volume of activity.
Key Characteristics of Fixed Costs
Total fixed costs stay constant over a wide range of volume
fixed costs per unit of activity vary inversely with changes in volume: fixed costs per unit of activity increases when volume decreases, fixed cost per unit of activity decreases when volume increases.
total fixed cost graphs are always flat lines with no slope that intersect the y-axis at a level equal to total fixed costs
total fixed costs can be expressed as y = f where: y = total fixed cost and f = fixed cost over a given period of time.
Costs and Decisions
committed fixed costs
discretionary fixed costs
Key Characteristics of Mixed Costs
Total mixed costs increase as volume increases because of the variable cost component
mix costs per unit decrease as volume increases because of the fixed cost component
total mixed costs graphs slope upward but do not begin at the origin- they intersect the y-axis at the level of fixed costs.
total mixed costs can be expressed as a combination of the variable and fixed cost equations: total mixed costs = variable cost component + fixed cost component, y = v (x) + f
where: y = total mixed costs, v = variable cost per unit of activity (slope), x = volume of activity, f = fixed cost over a given period of time (vertical intercept)
Relevant Range
Band of volume where total fixed costs remain constant at a certain level
variable costs per unit remain constant at a certain level
Sustainability and Cost Behavior
Sustainable companies and changes in cost behavior
E-banking/billing drive down variable costs
greener lifestyles
environmental impact
Cost Behavior Analysis
Four methods to analyze cost behavior
1. account analysis
2. scatter plots
3. high-low method
4. regression analysis
Account Analysis
Use of judgment to classify each general ledger account as fixed, variable, or mixed.
Subjective
Scatter Plots
Use historical data to determine a cost's behavior
Scatter plot is the graph of historical cost data on the y-axis and volume data on the x-axis.
Helps managers visually determine how strong the relationship is between the cost and the volume of the chosen activity base.
High-Low Method
step 1: find VC/unit (slope) of cost line
step 2: find the fixed costs (vertical intercept)
step 3: create the cost equation
advantage: easy to use
disadvantage: only uses 2 data points
R-Square Value
"goodness of fit"
how well does the line fit the data points?
ranges from 0-1
Data Concerns
only valid within relevant range
seasonal variations
inflation
outliers-abnormal data points
Absorption Costing
required by GAAP for external reporting
assign all MOH costs to products (DM,DL,Variable MOH, and Fixed MOH)
Traditional (conventional) Income Statement
Sales Revenue
- CGS
--------------
Gross Profit (GP)
- Operating Expenses
--------------
Operating Income (OI)
Variable Costing
Assigns only variable MOH costs to products (DM, DL, and Variable MOH)
Fixed MOH = period cost
For internal management decisions
CM income statement
CM Income Statement
Sales Revenue
- Variable CGS
- Variable Operating Exp.
-----------------
CM
- Fixed MOH
- Fixed Op. Exp.
-----------------
Operating Income
Reconciling Operating Income Between the Two Costing Systems
Difference in operating income = (change in inventory level, in units) x (Fixed MOH per unit)
Absorption Costing and Manager Incentives
When inventories increase, absorption costing income is higher than variable costing income.
When inventories decrease, absorption costing income is lower than variable costing income.
Therefore... managers may increase production to build up inventory to maximize income and therefore their own bonus.
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