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MA 1 - Basics, Cost Classification, Cost Behavior - Hi-Low Method
MA 1 - Basics, Cost Classification, Cost Behavior - Hi-Low Method
ِ رب زِدْنِي
ِّ
Management Accounting
SESSION 4
Study Methodology & Class Discipline
1) Manufacturing
2) Trading
3) Service Industry
COST CLASSIFICATION
A different way of analysing and classifying costs is into fixed costs and
variable costs.
A fixed cost is a cost which is incurred for a particular period of time and
which, within certain activity levels, is unaffected by changes in the level of
activity.
A variable cost is a cost which tends to vary with the level of activity.
A semi-variable cost, also known as a semi-fixed cost or a mixed cost, is
a cost composed of a mixture of fixed and variable components. Costs are
fixed for a set level of production or consumption and become variable after
this production level is exceeded. If no production occurs, a fixed cost is still
incurred.
Fixed Costs and Variable Costs
Requirement:
What is the direct cost per unit?
What is the total cost per unit?
What is the gross profit for the period?
What is the net profit for the period?
Solution:
Materials Rs. 600,000
Labour Rs. 1,000,000
Total Direct Cost Rs. 1,600,000
Production Overhead Rs. 500,000
Total Production Costs Rs. 2,100,000
Number of units 1000
Direct Cost per unit Rs. 1,600
Total Cost per unit Rs. 2,100
Requirement:
At the following different levels of production of the product A.
1 Unit 100 Units 250 Units
SOLUTION:
Production Units 1 100 250
Variable cost (Rs.) 50 50 50
Total Variable cost (Rs.) 50 5000 12,500
Fixed Costs (Rs.) 50,000 50,000 50,000
Total Costs (Fixed+Variable) (Rs.) 50,050 55,000 62,500
Fixed Cost per unit 50,000 500 200
Total cost per unit (Rs.) 50,050 550 250
Sale
Cost behaviour is the way in which costs are affected by changes in the
volume of output.
Management decisions will often be based on how costs and revenues
vary at different activity levels.
Examples of such decisions are as follows.
What should the planned activity level be for the next period?
Should the selling price be reduced in order to sell more units?
Should a particular component be manufactured internally or bought
in?
Should a contract be undertaken?
Question – Determine per annum total costs
Deinfa has a fleet of company cars for sales representatives. Running costs have been estimated as follows.
(a) Cars cost Rs.1,200,000 when new, and have a guaranteed trade-in value of Rs.600,000 at the end of two
years. Depreciation is charged on a straight-line basis.
(b) Petrol and oil cost Rs.15 per mile.
(c) Tyres cost Rs. 30,000 per set to replace; replacement occurs after 30,000 miles.
(d) Routine maintenance costs Rs. 20,000 per car (on average) in the first year and $45000 in the second year.
(e) Repairs average Rs. 40,000 per car over two years and are thought to vary with mileage. The average car
travels 25,000 miles per annum.
(f) Tax, insurance, membership of motoring organisations and so on cost Rs. 40,000 per annum per car.
Requirement
• Calculate the cost of cars which travel 15,000 miles per annum and 30,000 miles per annum for year 1 and
year 2.
• Calculate the average cost of cars which 15,000 miles per annum and 30,000 miles per annum for 2 years.
Solution – Determine per annum total costs
Cost accountants tend to separate semi-variable costs into their variable and
fixed elements.
variable cost / unit = Total cost* at high activity level - total cost* at low activity
Total units at high activity level - total units at low activity
QUESTION:
Dynamic Ltd. has recorded the following total costs during the last five years.
Year Output volume Total cost
Units $
2013 65,000 145,000
2014 80,000 160,000
2015 90,000 170,000
2016 60,000 140,000
2017 75,000 155,000
Requirement:
Calculate the total cost that should be expected in 2018 if output is 85,000 units.
The high-low method
QUESTION:
The Washington Company incurred Rs. 50,000 to ship 22,000 liters
and Rs. 42,000 to ship 18,000 liters.
Requirement:
Calculate the expected shipping expense if the company ships
20,000 liters.
The high-low method
QUESTION:
ABC Co has a manufacturing capacity of 10,000 units. The flexed
production cost budget of the company is as follows:
Capacity 60% 100%
Total production costs (Rs.) 11,280 15,120
Requirement:
What is the budgeted total production cost if the company operates
at 85% capacity?
High-low method with stepped fixed costs
QUESTION:
The following data relate to the overhead expenditure of contract cleaners (for
industrial cleaning) at two activity levels.
Square metres cleaned 12,750 15,100
Overheads $73,950 $83,585
When more than 14,000 square metres are industrially cleaned, there will be a
step up in fixed costs of $4,700.
Requirement:
Calculate the estimated total cost if 14,500 square metres are to be
industrially cleaned.
The high-low method
QUESTION:
An organisation has the following total costs at two activity levels:
Units Cost (Rs)
15,000 380,000
24,000 470,000
Variable cost per unit is constant in this activity range but there is a
step up cost of Rs. 18,000 when the activity exceeds 20,000 units.
Requirement:
What are the total costs at an activity level of 18,000 units?
The high-low method
QUESTION:
V Ltd buys IT support services from an outside agency. In its last four accounting periods, the
charges made by the agency have been as follows:
Period Usage Charge for services
(hours) Rs.
1 3,700 16,700
2 4,900 20,300
3 3,250 15,350
4 5,800 23,000
The agency did not increase its charging rates in periods 1 to 4. It has notified V Ltd that, in
period 5, it will increase the fixed element of the charge by 5% and the variable element by
10%.
If V Ltd estimates its level of usage at 5,500 hours in period 5, what will be the expected
charge for IT support services?
The high-low method
QUESTION:
An organisation has the following total costs at three activity levels: