Cornerstones of Cost Accounting Canadian 1st Edition Hansen Solutions Manual
Cornerstones of Cost Accounting Canadian 1st Edition Hansen Solutions Manual
Cornerstones of Cost Accounting Canadian 1st Edition Hansen Solutions Manual
CHAPTER 1
BASIC COST MANAGEMENT CONCEPTS
DISCUSSION QUESTIONS
2. If the ending inventory of direct materials were $2,000 higher, then the direct mate-
rials used in production would be $2,000 smaller, the total manufacturing costs
added would be $2,000 lower, and the cost of goods manufactured would be
$2,000 lower. No other line items would be affected.
2. If beginning finished goods were $5,000 lower, then the cost of goods sold would
be $5,000 lower.
2. If the cost of goods sold has been 80 percent of sales for the past few years, man-
agers would probably be pleased. Clearly, the cost of goods sold has decreased by
about 2.76 percent, and this would be reflected in higher profit. Managers should
investigate to see why the decrease occurred, making sure that it was not on ac-
count of reduced quality, and take steps to lock in the improvement in the coming
year.
5. Since office rent is a fixed cost, no variable cost would be affected, and prime cost
and total variable cost stay the same. Since conversion cost includes the new
higher fixed overhead, it would increase. Similarly, total unit service cost would in-
crease as shown below.
Unit services production cost
= ($27,000 + $472,500 + $15,000 + $19,500)/15,000
= $35.60
*The beginning and ending work-in-process amounts could clearly be eliminated. They
are shown here to reinforce the concept that for this firm, with no work in process, total
services production cost equals cost of services produced.
2. Unlike a service firm, we would expect a manufacturing firm to have beginning and
ending finished goods inventory.
2. If the price increased to $50, sales would be $750,000, a $75,000 increase. This
would increase gross margin and operating income by $75,000. The new operating
income would be $142,500.
Exercise 1–9
4. The cost management information system is similar in that it has interrelated parts:
processes, objectives, inputs, and outputs. The differences are: inputs are econom-
ic events and there are users of information. The output of the cost management
system produces user actions. Output can act as the basis for action or can confirm
that actions already taken had the intended effects.
3. The inputs consist of only production costs suggesting a traditional product cost
definition.
Exercise 1–11
a. Direct tracing
b. Allocation
c. Direct tracing
d. Direct tracing
e. Driver tracing; potential driver—machine hours or maintenance hours
f. Direct tracing
g. Direct tracing
h. Allocation
i. Driver tracing; potential driver—number of orders
j. Driver tracing; potential driver—number of engineering hours
k. Allocation
l. Driver tracing; potential driver—number of employees or direct labour hours
m. Allocation
n. Allocation
a. Value-chain. This is a strategic decision and involves activities and costs through-
out the entire value chain.
b. Operating. At this point, the costs of design and development are sunk costs; the
decision to produce should consider the costs of production, marketing, and servic-
ing the product.
c. Value-chain. The price needs to cover all product costs, including the costs of de-
veloping, selling, and servicing.
d. Product. This approach is mandated for external reporting.
e. Value-chain. Product mix decisions should consider all costs and the mix that is the
most profitable in the long run should be selected.
f. Operating. The designs should be driven by the effect they have on production,
marketing, and servicing costs. Thus, the operating cost definition is the most rele-
vant.
g. Product. This approach is mandated for external reporting.
h. Operating. Research and design costs are not relevant for a price decision involv-
ing an existing product. Production, marketing, and servicing costs are relevant,
however.
i. Operating. Any special order should cover its costs which potentially include pro-
duction, marketing, and servicing costs.
1. Lucero Company
Statement of Cost of Goods Manufactured
For the Year Ended December 31
Direct materials:
Beginning inventory ..................................................... $ 47,000
Add: Purchases ........................................................... 160,400
Freight-in on materials ........................................ 830
Materials available ....................................................... 208,230
Less: Ending inventory................................................. 17,000
Direct materials used in production ................................... $191,230
Direct labour ...................................................................... 206,780
Manufacturing overhead:
Materials handling ........................................................ 26,750
Factory supplies ........................................................... 37,800
Factory utilities ............................................................. 46,000
Factory supervision and indirect labour ....................... 190,000
Total overhead costs ................................................... 300,550
Total manufacturing costs added ...................................... 698,560
Add: Beginning work in process ........................................ 201,000
Less: Ending work in process............................................ (98,000)
Cost of goods manufactured ............................................. $801,560
2. Lucero Company
Statement of Cost of Goods Sold
For the Year Ended December 31
Cost of goods manufactured .................................................................. $801,560
Add: Beginning finished goods inventory ............................................... 18,000
Cost of goods available for sale ............................................................. 819,560
Less: Ending finished goods inventory ................................................... 62,700
Cost of goods sold ................................................................................. $756,860
6. Clearly, the rent, insurance, and utilities are indirect costs. No matter how many
packages Janine and her workers package and send off for delivery, the rent, utili-
ties, and insurance will be the same. The amount paid to UPS and FedEx, howev-
er, for the package delivery is a direct cost. This amount, which is collected by
Send ‘n’ Deliver, is a direct cost of each package. It will change from month to
month according to the number and type of packages that customers drop off.
2. Leslie will be concerned with all costs along the value chain. Clearly, the after-sale
costs will be an important factor in pricing since the potential for fatal side effects
will lead to both lawsuits and the withdrawal of Glaxane from the market. However,
Leslie must also be concerned with the costs of research, development, and
production since pharmaceutical companies attempt to link all of these costs to a
drug to justify their pricing strategies.
3. Dante will be primarily concerned with the overall research and development costs
and the eventual revenue from the successful drugs. Any individual potential drug
can turn out to have no value as long as some drug projects are successful and
can justify the total efforts.
Exercise 1–20
2. Tremblay Company
Income Statement
For the Year Ended December 31
Sales ...................................................................................................... $1,320,000
Cost of goods sold ................................................................................. 928,900
Gross margin .......................................................................................... 391,100
Less: Selling and administrative expenses ............................................ 204,600
Operating income ................................................................................... $ 186,500
Problem 1–22
4. Brody Company
Statement of Cost of Goods Manufactured
For Last Year
Direct materials................................................................................ $ 272,000
Direct labour .................................................................................... 140,000
Overhead ......................................................................................... 300,000
Total manufacturing cost ................................................................. 712,000
Add: Beginning work in process ...................................................... 124,000
Less: Ending work in process .......................................................... (130,000)
Cost of goods manufactured ........................................................... $ 706,000
Unit product cost = $706,000/100,000 units = $7.06
5. Brody Company
Statement of Cost of Goods Sold
For Last Year
Cost of goods manufactured ........................................................... $706,000
Add: Beginning inventory, Finished goods ...................................... 84,000
Less: Ending inventory, Finished goods .......................................... (82,000)
Cost of goods sold ........................................................................... $708,000
Brody Company
Income Statement
For Last Year
Percent
Sales .............................................................. $1,200,000 100.00
Cost of goods sold ......................................... 708,000 59.00
Gross margin .................................................. 492,000 41.00
Less: Operating expenses
Selling expenses ....................................... $151,800 12.65
Administrative expenses ........................... 218,000 369,800 18.17
Operating income ........................................... $ 122,200 10.18
Spencer Company
Statement of Cost of Goods Manufactured
For the Year Ended December 31
1. Direct materials:
Beginning inventory ................................................ $ 290,000
Add: Purchases ...................................................... 2,350,000
Materials available .................................................. 2,640,000
Less: Ending inventory ........................................... 112,000
Direct materials used in production.............................. $2,528,000
Direct labour ................................................................ 1,100,000
Manufacturing overhead:
Indirect labour ......................................................... 334,000
Depreciation, factory building ................................. 525,000
Depreciation, factory equipment ............................. 416,000
Property taxes on factory........................................ 65,000
Utilities, factory ....................................................... 150,000
Insurance on factory ............................................... 200,000 1,690,000
Total manufacturing costs added ................................. 5,318,000
Add: Beginning work in process ................................... 450,000
Less: Ending work in process ...................................... (750,000)
Cost of goods manufactured........................................ $5,018,000
3. Spencer Company
Income Statement: Absorption Costing
For the Year Ended December 31
Percent
Sales (191,000* × $36) .................................... $6,876,000 100.00
Cost of goods sold:
Cost of goods manufactured ..................... $5,018,000
Add: Beg. finished goods inventory ........... 107,500
Goods available for sale ............................ 5,125,500
Less: End. finished goods inventory .......... 488,750 4,636,750 67.43
Gross margin .................................................... 2,239,250 32.57
Less: Salary, sales supervisor ........................ 85,000 1.24
Commissions, salespersons .................. 216,000 3.14
Advertising ............................................. 500,000 7.27
Administrative expenses........................ __390,000 1,191,000 5.67
Operating income ............................................. $1,048,250 15.25
*2,500 + 200,000 – 11,500 = 191,000 units sold
1. Skilz-Accountants Company
Statement of Cost of Goods Manufactured
For the Previous Year
Direct materials ................................................................................. $ 45,000
Direct labour ..................................................................................... 35,000a
Manufacturing overhead ................................................................... 205,000a
Total current manufacturing costs .................................................... 285,000
Add: Beginning work in process ........................................................ 12,500b
Less: Ending work in process ........................................................... (2,500)b
Cost of goods manufactured............................................................. $295,000
a Conversion cost = 3 × Prime cost
$240,000 = 3(Direct materials + Direct labour)
$240,000 = 3($45,000 + Direct labour)
Direct labour = $35,000
Overhead = Conversion cost – Direct labour
Overhead = $240,000 – $35,000
Overhead = $205,000
b Ending WIP = 0.2 × Beginning WIP
$285,000 + Beginning WIP – (0.2 × Beg. WIP) = $295,000
Beginning WIP = $12,500; Ending WIP = 0.2 × $12,500 = $2,500
2. Skilz-Accountants Company
Statement of Cost of Goods Sold
For the Previous Year
Cost of goods manufactured............................................................. $295,000
Add: Beginning finished goods ......................................................... 14,400
Cost of goods available for sale ........................................................ 309,400
Less: Ending finished goods ............................................................. 73,400a
Cost of goods sold ............................................................................ $236,000b
a Ending finished goods = $309,400 – $236,000 = $73,400
b Cost of goods sold = 0.80 × $295,000 = $236,000
2. The dominant cost is direct labour (for the 15 professionals). Although labour is the
major cost of providing many services, it is not always the case. For example, the
dominant cost for some medical services may be overhead (e.g., CAT scans). In
some services, the dominant cost may be materials (e.g., funeral services).
4. Services have three attributes that are not possessed by tangible products: (1) in-
tangibility, (2) perishability, and (3) inseparability. Intangibility means that the buy-
ers of services cannot see, feel, hear, or taste a service before it is bought.
Perishability means that services cannot be stored. Therefore, there will never be
any finished goods inventories, making the cost of services produced equal to cost
of services sold. Inseparability means that providers and buyers of services must
be in direct contact for an exchange to take place.
The average cost of preparing one tax return last year was $526 ($1,577,500/3,000
returns). However, it will be difficult for MSW to use this figure in budgeting. Some
of its accountants are no doubt more experienced than others, capable of complet-
ing a return in less time and with less research. The returns themselves differ in
complexity. In addition, the seemingly continual changes in the tax law may affect
certain of its clients more than others, making those clients’ returns more difficult to
prepare.
1. Paulisse Company
Statement of Cost of Goods Manufactured
For Last Year
Direct materials:
Beginning inventory ..................................................... $ 16,200
Add: Purchases ........................................................... 164,700*
Less: Ending inventory................................................. (10,700)
Direct materials used in production ................................... $170,200
Direct labour ...................................................................... 72,000
Manufacturing overhead:
Plant depreciation ........................................................ 9,500
Salary, production supervisor ...................................... 45,000
Indirect labour .............................................................. 40,600
Utilities, factory ............................................................ 5,700
Depreciation, factory equipment .................................. 25,000
Supplies (0.4 × $8,000)................................................ 3,200 129,000
Total manufacturing costs added ...................................... 371,200
Add: Beginning work in process ........................................ 13,250
Less: Ending work in process............................................ (28,250)
Cost of goods manufactured ............................................. $356,200
*$16,200 + Purchases – $10,700 = $170,200; Purchases = $164,700
2. Paulisse Company
Income Statement: Absorption Costing
For Last Year
Sales (250,000 × $4) ......................................................... $1,000,000
Cost of goods sold:
Beginning finished goods inventory ............................. $113,000
Add: Cost of goods manufactured ............................... 356,200
Goods available for sale .............................................. 469,200
Less: Ending finished goods inventory ........................ 85,000 384,200
Gross margin ..................................................................... 615,800
Less operating expenses:
Administrative expenses .............................................. 162,000
Selling expenses* ........................................................ 119,800 281,800
Operating income .............................................................. $ 334,000
*$40,000 + (0.6 × $8,000) + $75,000 = $119,800
At first glance, this seems simple. Couldn’t John simply mention that Patty had already
accepted a position as controller in another company? Since the decision was a close
one between the two, this information would likely tip the balance in favour of John.
However, some ethical issues should be considered. First, the information that Patty
gave was likely given in confidence, and John should not disclose this confidential in-
formation without her permission. Second, disclosing the confidential information may
provide a personal benefit to John. Third, it may be that Patty will change her mind
about the position she has accepted (assuming she can withdraw honourably from the
acceptance) once she is officially aware of the promotion. This decision and its conse-
quences should be Patty’s and not John’s. If I were John, I would leave the response to
the promotion entirely in Patty’s hands. Once offered the position, she may simply indi-
cate that she cannot accept it because she is committed to another job. This may then
cleanly open up the position for John.
Problem 1–28
1. Emily should not implement the suggested accounting procedures because they
conflict with generally accepted accounting principles and violate the CMA Code of
Professional Ethics. It raises serious ethical questions in the areas of competence
and integrity. Emily “must act at all times with competence through devotion to high
ideals of personal honour and professional integrity.” She must “disclose all materi-
al facts” when preparing financial reports.
2. Emily should discuss the problem with the next highest management level (if the
divisional manager’s mind cannot be changed). This could be, for example, the
corporate controller or the CEO. She could also discuss the matter with an objec-
tive advisor to assess possible courses of action. In some firms, ethical hotlines ex-
ist that will allow the dilemma to be analyzed. If no resolution is obtained, then
resignation may be called for.
Top management’s request for Larry Stewart to account for the company’s information
in a manner that is not in accordance with generally accepted accounting principles vio-
lates the standard to “disclose all material facts known to” Larry and “report all material
misstatements or departures from generally accepted accounting principles.”
Top management has violated the ethical standard of not using “any confidential infor-
mation concerning the affairs of” Larry’s firm “unless acting in the course of his duties.”
Top management has violated the standard to “act at all times with competence
through devotion to high ideals of personal honour and professional integrity.” Man-
agement must "not commit an act discreditable to the profession.”
To resolve the ethical dilemma, Larry should first determine if the company has an es-
tablished policy. If so, he should follow the prescribed policies in resolving the ethical
conflict. If there is no policy, then the specific steps are as follows:
a. To confront top management about the unethical behaviour unless Larry feels that
they are involved, in which case the problem should be presented to the next higher
level, the chairman of the board of directors. If this fails, then the issue can be tak-
en to the audit committee and the board of directors.
By discussing the possible sale of Emery’s common stock with members of the trouble-
shooting team, Gus Swanson has violated certain standards of ethical conduct.
Gus has disclosed “confidential information concerning the affairs” of the firm.
By discussing this information, Gus has engaged in a “way which may adversely reflect
on the public reputation” of the firm.
Gus has violated the requirement to “not commit an act discreditable to the profession.”
1. Assuming the controller did not inform the CEO and CFO of the situation, the ethical
considerations of the controller’s apparent lack of action, as covered in the CMA
Code of Professional Ethics, are as follows.
2. The recommended course of action that Marian Nevins should take is as follows.
Consult company policies and procedures regarding ethical conflict. If the company
does not have adequate procedures in place to resolve the conflict, then Marian
should discuss the problem with her immediate superior, the controller. However, as
the controller is apparently involved in the matter and she has already spoken to
him, it would not be necessary to inform him that she is taking the situation to the
CFO.
Since the issue is still not resolved, she should consult the next higher level of man-
agement, the CFO, particularly since he or she will be one of the signers of the rep-
resentation letter.
During this process, Marian could clarify relevant concepts by confidential discus-
sion with an objective advisor to obtain an understanding of possible courses of ac-
tion.
If the issue remains unresolved, Marian should continue to take the problem to the
next higher levels of authority, which may include the audit committee, executive
committee, and/or the board of directors.
If the ethical conflict still exists, after exhausting all levels of internal review, Marian
should resign and submit an informative memorandum to an appropriate repre-
sentative of the organization.
3. The actions that Heart Health Procedures can take to improve the ethical situation
within the company include:
Setting the tone at the top for control consciousness of the people in the organi-
zation.
Establishing an audit committee within the board of directors and providing an
avenue for communication free of reprisals within the company.
Adopting performance-based, long-term financial incentive plans.
COST BEHAVIOUR
Chapter 2 provides the basics of cost behaviour, focusing on expanded definitions of fixed and
variable costs and introducing the concept of mixed costs. Methods of separating mixed costs
into fixed and variable elements are presented and discussed. In addition, the resource usage
model is presented. This chapter is an important foundation for Chapter 3, Cost-Volume-Profit
Analysis.
LEARNING OBJECTIVES
2. Explain the use of resources and activities and their relationship to cost behaviour.
3. Separate mixed costs into their fixed and variable components using the high-low method,
the scatterplot method, and the method of least squares.
7. Define the learning curve, and discuss its impact on cost behaviour.
KEY TOPICS
The following major topics are covered in this chapter (related learning objectives are listed for each
Topic):
2-1
Copyright © 2013 by Nelson Education Ltd.
6. Multiple Regression (LO 6)
Cost behaviour refers to whether a cost changes when the level of output changes. Usually costs
are placed into one of four categories: fixed costs, variable costs, mixed costs, and step costs.
These categories are reasonably accurate within a relevant range of activity.
Relevant range: The range of activity over which the assumed cost relationship is valid for the
normal operations of a firm is called the relevant range. While the cost function may not be
linear, we will often assume linearity because the function will appear to be linear within the
relevant range.
Fixed costs: Fixed costs are costs that do not change in total as the activity level changes. All
costs are considered to be fixed in the short run. The term “fixed cost” does not mean that the
cost cannot change over time, but that a change in the activity level will not cause a change in the
total cost. The duration of the short run can change depending on the cost under consideration.
Total fixed costs can be described in equation format to be:
Teaching hint: Some students have a hard time with the concept of fixed cost because they
equate it to “never changing.” However, their experience living in an inflationary economy is
that costs do change (typically upward). Thus, they think that no cost can ever be fixed. The key
point is that a fixed cost does not change because activity level changes; a fixed cost can change
for other reasons. For example, a salaried supervisor could be given a raise during the year
because of excellent performance or in an effort to keep him from taking a job with another firm.
The increase in his salary would be a change in a fixed cost. The change was not, however, due
to an increase in the level of activity.
Variable costs: Variable costs are costs that, in total, will vary in direct proportion to changes in
activity level, which is commonly defined as some measure of production or sales activity (e.g.,
direct labour hours, units produced, or units sold). Activity level can refer to the level of any cost
driver (e.g., setup time, number of material moves, etc.) in an activity-based costing system.
Total variable costs can be described in equation format to be:
Yv = VX
where
2-2
Copyright © 2013 by Nelson Education Ltd.
Exhibits 2-1 and 2-2 (pp. 48–49) present the graphical presentations of a fixed cost and a
variable cost.
Teaching hint: You might emphasize that the total variable costs increases (decreases) as activity
level increases (decreases). However, variable cost per unit stays constant as activity level
changes. Students often have difficulty and confuse the two.
Mixed costs: Costs that have both a fixed and a variable component are classified as mixed costs.
A salesperson paid a salary of $20,000 plus a commission equal to 5 percent of sales is an
example of a mixed cost.
Y = F + VX
where
Y = Total cost
F, V, and X are defined previously in the chapter.
Cornerstone 2-1 (p. 51) shows how the linear equation can be used to describe a mixed cost.
Exhibit 2-5 (p. 52) presents a graph of a mixed cost.
Resources are economic elements that permit one to perform activities. Common resources
include direct materials, direct labour, equipment, etc. Resources can be categorized as either
flexible or committed.
Flexible resources are supplied as used and needed (e.g., direct materials).
Committed resources are supplied in advance of usage. These resources are acquired by the use
of either an explicit or implicit contract to obtain a given quantity of resource, regardless of
whether the amount of the resource available is fully used or not. Committed resources may have
unused capacity (e.g., buying or leasing a building or equipment).
Activities are tasks such as setting up equipment, purchasing materials, and assembling
materials. Activity capacity is the ability to perform activities. When a company acquires
resources necessary to perform an activity, it is obtaining activity capacity. Practical capacity is
the efficient level of activity performance.
A step-cost function has the property of displaying a constant level of cost for a range of activity
and then jumping to a higher level of cost at some point, where it remains for a similar range of
activity. A step-cost function is illustrated in Exhibit 2-6 (p. 55).
2-3
Copyright © 2013 by Nelson Education Ltd.
A step-variable cost is simply a step-cost that changes for relatively narrow ranges of activity.
This type of cost is usually treated as if it were a pure variable cost because of the narrow ranges
of activity.
Step-costs that have relatively wide levels of activity are known as step-fixed costs. The
difference between step-variable and step-fixed costs is the range of activity included at each
step. For example, a step-variable cost may increase for every 100 units produced, while a step-
fixed cost may increase for every 10,000 units produced. A step-fixed cost is usually treated as
a fixed cost. Exhibit 2-7 (p. 55) displays a step-fixed cost.
A traditional cost management system typically provides information only about the cost of the
resources supplied. A contemporary cost management system provides information about how
much of the activity is used and the cost of its usage.
The relationship between resources supplied and resources used is expressed by either of the
following equations:
Cost of available activity = Cost of activity used (output) + Cost of unused activity
Cornerstone 2-2 (p. 56) illustrates the way a company may determine the cost of capacity used
and unused capacity.
To facilitate planning and decision making, managers need to know the fixed and variable
components of mixed costs. The text presents three methods used to separate a mixed cost into
its fixed and variable components: the high-low method, the scatterplot method, and the method
of least squares.
When using the high-low method, the highest point and the lowest point are used for creating the
cost formula. The high point is defined as the point with the highest activity level and the low
point as the point with the lowest activity level. The independent variable should be used when
selecting the highest and lowest activity levels. Always make sure that the high and low activity
points are representative of the rest of the points. A scatterplot would be helpful to see whether
the two points are representative of the others.
Letting (X1, Y1) be the low point and (X2, Y2) be the high point, the equations for determining the
slope parameter and intercept parameter are, respectively:
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Copyright © 2013 by Nelson Education Ltd.
F = Total mixed cost – Variable cost
= Y2 – VX2
or
F = Y1 – VX1
Cornerstone 2-3 (p. 59) shows how the high-low method can be used to determine the fixed cost
and variable rate.
Teaching hint: Tell the students that the high-low method is nothing more than finding the
equation of a line through two points.
B. Scatterplot Method
Using the scatterplot method, the manager plots the observations of cost and activity level on a
graph. The manager selects two points by visual inspection of the scattergraph and fits a line to
these two points. This is accomplished by using the slope-intercept method from basic algebra.
The slope is the change in cost divided by the change in activity. Once the slope is known,
simply substitute the slope and the values of one of the two points into the linear cost formula
(Y = F + VX) and solve for the fixed component, F (F = Y – VX).
Exhibit 2-8 (p. 61) presents a plot of data points, along with the graph of a line for the high-low
method and a possible scattergraph line.
The method of least squares identifies the line that best fits the data points (the sum of the
squared deviations is minimized). This method is the most sophisticated and provides the user
with a measure of the goodness of fit, which can be used to assess the usefulness of the cost
formula. If the fit is not very good, then a search for additional activity variables may be needed.
Computing the regression formula manually is tedious and best left to a statistics course. The
same program can be used for multiple regression as well. Cornerstone 2-4 (p. 64) displays how
to take the results of the regression program and to use them to construct a cost formula. That
cost formula can then be used to determine the predicted cost given an estimate of the
independent variable.
There are two basic measures for determining the reliability of cost formulas: coefficient of
determination and coefficient of correlation.
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Copyright © 2013 by Nelson Education Ltd.
The coefficient of determination (R2) is a measure of the goodness of fit. It shows the percent of
the variation in the dependent variable that is explained by the independent variable (or
variables). The higher the percentage of variability explained, the better the fit.
The coefficient of correlation (r) is the square root of the coefficient of determination. If the
coefficient of correlation is positive, the independent variable and the dependent variable move
together in the same direction. If it is negative, the independent variable and the dependent
variable move in a predictable fashion in opposite directions.
Activities may use a mix of resources acquired in advance and resources that are acquired as
needed. As a result they display mixed cost behaviour. In practice, companies use a variety of
methods of estimating cost, and a variety of quantitative and statistical methods.
The account analysis method is used to estimate costs by classifying accounts in the general
ledger as fixed, variable, or mixed. To use the account analysis method, the accountant uses
judgment and experience to separate the accounts into two categories—fixed and variable. Once
the fixed categories are known, the average monthly cost can be computed, and this is the fixed
amount. The variable categories need to be further separated into categories according to the
driver the accountant wishes to associate with the account. Cornerstone 2-5 (p. 68) shows how
the account analysis method can be used to separate fixed and variable costs, determine a cost
function, and use that cost function in budgeting.
Managerial Judgment
Multiple regression can be used to predict a cost function when there is more than one
independent variable. When using a spreadsheet to perform regression analysis, multiple
regression is no more difficult than simple regression that assists us to construct a cost equation.
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Copyright © 2013 by Nelson Education Ltd.
VII. THE LEARNING CURVE AND NONLINEAR COST BEHAVIOUR
The learning curve shows how the labour hours worked per unit decrease as the volume
produced increases. The use of the learning curve enables management to be more accurate in
budgeting and in performance evaluations for processes in which learning occurs. In order to use
a learning curve model, management must estimate a learning rate for a process, usually on the
basis of past experience. The learning curve model takes two common forms: (1) the cumulative
average-time learning curve model, and (2) the incremental unit-time learning curve model.
The cumulative average-time learning curve model assumes that the cumulative average time per
unit decreases by a constant percentage, or learning rate, each time the cumulative quantity of
units produced doubles. Cornerstone 2-6 (p. 72) shows how to calculate the amount of time
needed for producing successive units given the learning rate and direct labour hours for the first
unit. Then, Exhibit 2-10 (p. 74) displays an Excel screenshot of the results for the cumulative
average-time learning model. Exhibit 2-11 (p. 74) shows the graph of both the cumulative
average time per unit (the bottom line) and the cumulative total hour’s required (top line).
The incremental unit-time learning curve model assumes that the time necessary for production
decreases by a constant percentage each time the cumulative quantity of units produced doubles.
Exercises and problems are described on the following two pages according to coverage of
content, learning objective(s), and level of difficulty. The time required to solve the problems is
roughly proportional to the level of difficulty.
In general, basic exercises/problems are fairly simple and straightforward. The text material is
relatively brief; only one or two concepts are covered. Basic exercises and problems should take
about 15 to 20 minutes each.
Moderate exercises/problems may take longer and involve more concepts. These problems
may have a “twist” and require more thought. Moderate exercises and problems may take 20 to
40 minutes each.
Challenging problems are more comprehensive and may cover more concepts. The text material
is relatively longer and may include some ambiguity. Challenging problems may take 60 to
90 minutes each.
2-7
Copyright © 2013 by Nelson Education Ltd.
Cornerstone
Exercise
(CS)/
Exercise/ Learning Degree of
Problem Topic Objective Difficulty
CS 2-1 Mixed Costs and Cost Formula LO 1 Basic
CS 2-2 Activity Availability, Capacity Used, Unused LO 2 Basic
Capacity
CS 2-3 High-Low Method to Determine Fixed Cost and LO 3 Basic
Variable Rate
CS 2-4 Using Regression Results to Construct and Apply LO 3 Basic
a Cost Formula
CS 2-5 Account Analysis to Determine Cost Behaviour LO 5 Basic
Cornerstone
Exercise
(CS)/
Exercise/ Learning Degree of
Problem Topic Objective Difficulty
2-33 Multiple Regression, Confidence Intervals, LO 2, 4, 6 Challenging
Reliability of Cost Formulas
2-34 Learning Curve LO 7 Moderate
2-35 Learning Curve LO 7 Moderate
CMA 2-1 Simple and Multiple Regression, Evaluating LO 2, 3, 4 Challenging
Reliability of an Equation
LIST OF ILLUSTRATIONS
Illustration Topic
Exhibit 2-1 Fixed Cost Behaviour
Exhibit 2-2 Variable Cost Behaviour
Exhibit 2-3 Nonlinearity of Variable Costs
Exhibit 2-4 Relevant Range for Variable Costs
Exhibit 2-5 Mixed Cost Behaviour
Exhibit 2-6 Step-Cost Function
Exhibit 2-7 Step-Fixed Costs
Exhibit 2-8 Scattergraph for Anderson Company’s Materials Handling Costs
Exhibit 2-9 Deviations of Data from a Line
Exhibit 2-10 Spreadsheet for Cumulative Average-Time Learning Model
Exhibit 2-11 Graph of Cumulative Total Hours Required and the Cumulative Average Time
per Unit
2-9
Copyright © 2013 by Nelson Education Ltd.