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# ACCT 202 Chapter 5 cost behavior is the way in which total cost behaves with changes in the measure

of activity cost drivers are activities that cause total cost to change relevant range is the range of activity over which we expect our assumptions about cost behavior to hold true step costs are fixed over a range of activity and then increase in a steplike fashion when a capacity limit is reached step-variable costs are fixed over a fairly narrow range of activity and rise in multiple steps across the relevant range step-fixed costs are fixed over a much wider range of activity mixed cost, or semivariable costs, have both a fixed and a variable component total cost = fixed cost + (variable cost per unit X activity level) scattergraph is a graph with total cost plotted on the vertical axis and a measure of activity plotted on the horizontal axis visual fit method involves eye-balling the data on the scattergraph and drawing a line through the graph to capture the relationship between total cost and activity high-low method uses the two most extreme activity observations to fit the line; uses only two data points to solve for variable cost per unit (slope) and total fixed cost (intercept)
variable cost per unit = difference in total cost (y1-y2) / difference in activity (x1-x2) total fixed cost = total cost - total variable cost (variable cost per Unit x X) total overhead cost = total fixed cost + total variable cost

least-squares regression is a statistical technique for finding the best fitting line based on all available data points r square tells managers how much of the variability in the y variable (total cost) is explained by the x variable (number of customers served) contribution margin income statement is an internal management tool based on cost behavior, or whether cost is variable or fixed contribution margin is the difference between sales revenue and variable costs contribution margin = sales revenue - variable costs unit contribution margin tells us how much each additional unit sold contributes to the bottom line contribution margin ratio = contribution margin / sales revenue full absorption costing, all manufacturing costs be treated as part of the cost of the product and counted as inventory until the product is sold, fully absorbs all costs incurred to produce it variable costing is based on the distinction between variable costs and fixed costs gross margin is the difference between sales revenue and the cost of goods sold difference between full absorption and variable costing profit = change in units ending inventory (production - sales) X fixed manufacturing overhead cost per unit no difference in profit between full absorption and variable costing when production and sales are equal

## Production Profit more same less

Sales > = < less inv. increase same no change more inv. decrease

## Variable Costing less same more

Summary variable costs increase in total in direct proportion to increases in activity level fixed costs remain constant in total regardless of changes in activity level step costs increase in a steplike fashion when a capacity constraint is reached mixed costs contain a fixed component plus a variable component that changes w/ activity level a scattergraph provides a visual representation of the relationship between total cost and activity; created by plotting activity level on the x axis and total cost on the y axis if scattergraph suggests that the relationship between cost and activity is roughly linear, a straight line can be used to approximate that relationship the slope of the line represents the variable cost per unit of activity the intercept of the line represents the total fixed cost the high-low method is one of three linear methods that can be used to estimate the relationship between total cost and activity. The high-low method steps are to: identify the two data points that represent the highest and lowest activity levels calculate the variable cost per unit by dividing the change in total cost across the high and low points by the change in activity level across the high and low points calculate the total fixed cost by subtracting the variable cost from the total cost at either the high or low point least-squares regression uses all available data to find the best fitting line the best fitting line is the one that minimizes the sum of squared errors, or the squared vertical distance between the data points and the regression line the regression output provides an estimate of total fixed cost (intercept) and the variable cost per unit of X (X coefficient) although least squares regression is easily computed using a computer program such as Excel, properly interpreting the information is critical for managerial use contribution margin is the difference between sales revenue and variable costs, the contribution margin can be expressed on a total, per unit, or as a percentage or ratio of sales the unit contribution margin, which is the difference between a units selling price and its variable cost, indicates how profit will change as a result of selling one more or one less unit the contribution margin ratio is computed by dividing the unit contribution margin by the unit selling price or by dividing the total contribution margin by total sales revenue, the contribution margin ratio shows how much a \$1 increase in sales will affect the contribution margin and net operating income

Chapter Seven Step 1: Identify the Decision Problem Step 2: Determine the Decision Alternatives Step 3: Evaluate the Costs and the Benefits of the Alternatives For short term decision making, use incremental or differential analysis Step 4: Make the Decision Step 5: Review the Results of the Decision-Making Process relevant cost has the potential to influence a particular decision and will change depending on which alternative a manager selects; costs that differ between decision alternatives are also called differential costs or incremental costs also known as avoidable costs irrelevant costs are those that will not impact a particular decision or differ between alternatives costs that have already been incurred and are not relevant to future decisions are called sunk costs costs that are the same regardless of the alternative the manager chooses opportunity cost is the forgone benefit of choosing to one thing instead of another capacity is the measure of the limit placed on a specific resource idle/excess capacity means the company has not yet reached the limit on its resources and opp. costs are not relevant