Financial and Management Decisions Summary
Chapter 3 Measurement of cost behaviour
Learning objectives:
1. Explain step- and mixed-cost behavior.
2. Explain management influences on cost behavior.
3. Measure and mathematically express cost functions and use them to predict costs.
4. Describe the importance of activity analysis for measuring cost functions.
5. Measure cost behavior using the engineering analysis, account analysis, high-low, visual-fit, and
least-squares regression methods.
Measurement of cost behaviour – understanding and quantifying how activities of an organisation
affect its levels of costs.
Linear-cost behaviour – activity that can be graphed with a straight
line because costs are assumed to be either fixed or variable.
Accountants and managers often assume that cost behavior is linear
over some relevant range of activity levels or cost-driver levels.
Step costs – change abruptly at intervals of activity because the
resources and their costs come in indivisible chunks. If the individual
chunks of cost are relatively large and apply to a specific, broad range
of activity, we consider the cost a fixed cost over that range of activity.
Example:
When oil and gas exploration activity reaches a certain level in a given region, the company must
lease an entire additional rig. One level of oil
and gas rig leasing, however, will support all
volumes of exploration activity within a
relevant range of drilling. Within each relevant
range, this step cost behaves as a fixed cost.
In contrast, accountants often describe step
costs as variable when the individual chunks of
costs are relatively small and apply to a narrow
range of activity.
Example: Panel B shows the wage cost of
cashiers at a supermarket. Suppose one cashier
can serve an average of 20 shoppers per hour and that within the relevant range of shopping activity,
the number of shoppers can range from 40 per hour to 440 per hour. The corresponding number of
cashiers would range between 2 and 22. Because the steps are relatively small, this step cost behaves
much like a variable cost, and we could assume it is variable for planning purposes with little loss of
accuracy.
Chapter 3 Measurement of cost behaviour
Learning objectives:
1. Explain step- and mixed-cost behavior.
2. Explain management influences on cost behavior.
3. Measure and mathematically express cost functions and use them to predict costs.
4. Describe the importance of activity analysis for measuring cost functions.
5. Measure cost behavior using the engineering analysis, account analysis, high-low, visual-fit, and
least-squares regression methods.
Measurement of cost behaviour – understanding and quantifying how activities of an organisation
affect its levels of costs.
Linear-cost behaviour – activity that can be graphed with a straight
line because costs are assumed to be either fixed or variable.
Accountants and managers often assume that cost behavior is linear
over some relevant range of activity levels or cost-driver levels.
Step costs – change abruptly at intervals of activity because the
resources and their costs come in indivisible chunks. If the individual
chunks of cost are relatively large and apply to a specific, broad range
of activity, we consider the cost a fixed cost over that range of activity.
Example:
When oil and gas exploration activity reaches a certain level in a given region, the company must
lease an entire additional rig. One level of oil
and gas rig leasing, however, will support all
volumes of exploration activity within a
relevant range of drilling. Within each relevant
range, this step cost behaves as a fixed cost.
In contrast, accountants often describe step
costs as variable when the individual chunks of
costs are relatively small and apply to a narrow
range of activity.
Example: Panel B shows the wage cost of
cashiers at a supermarket. Suppose one cashier
can serve an average of 20 shoppers per hour and that within the relevant range of shopping activity,
the number of shoppers can range from 40 per hour to 440 per hour. The corresponding number of
cashiers would range between 2 and 22. Because the steps are relatively small, this step cost behaves
much like a variable cost, and we could assume it is variable for planning purposes with little loss of
accuracy.
