3. Cost Behaviour

Question 1

What are the four kinds of cost?

Answer 1

Variable, fixed, stepped fixed and semi variable

Question 2

What is a variable cost?

Answer 2

One that tends to vary with the level of activity

Question 3

Describe the graph of variable costs, with level of activity on the x axis and total cost on the y:

Answer 3

Diagonal line going upwards from the origin

Question 4

Describe the graph of variable costs, with level of activity on the x axis and cost per unit on the y:

Answer 4

A straight horizontal line

Question 5

What is a variable cost?

Answer 5

A cost incurred for a period (within certain output and turnover limits) that is unaffected by fluctuations in level of activity

Question 6

Describe the graph of fixed costs, with level of activity on the x axis and total cost on the y:

Answer 6

A straight horizontal line

Question 7

Describe the graph of fixed costs, with level of activity on the x axis and cost per unit on the y:

Answer 7

A decreasing curved line

Question 8

What is a stepped fixed cost?

Answer 8

One which is fixed for a particular range of activity levels, and that jumps to a new higher level when that range is surpassed

Question 9

Describe the graph of stepped fixed costs, with level of activity on the x axis and total cost on the y:

Answer 9

Like stairs going upwards

Question 10

How are stepped costs treated in the short and long term?

Answer 10

As fixed in the short term and variable in the long term

Question 11

What is a semi-variable cost?

Answer 11

One with both fixed and variable components, thus is partly affected by fluctuations in activity level

Question 12

Describe the graph of semi-variable costs, with level of activity on the x axis and total cost on the y:

Answer 12

A diagonal line going upwards from a point on the y axis (which is the fixed cost element)

Question 13

Describe the graph of semi-variable costs, with level of activity on the x axis and cost per unit on the y:

Answer 13

A decreasing curved line that goes towards the limit of variable cost per unit

Question 14

What are the two methods for estimating semi variable costs?

Answer 14

The high/low method and the line of best fit (regression analysis)

Question 15

What is the formula for variable cost per unit in the high/low method?

Answer 15

Change in total costs / change in output of the highest and lowest output level

Question 16

What is the cost relationship equation in the high low method?

Answer 16

Fixed Cost + (VC/unit)*(output)

Question 17

What are the advantages of the high low method?

Answer 17

Simple to calculate and explain, and only requires two pieces of data

Question 18

What are the disadvantages of the high low method?

Answer 18

Extreme data points may not be representative of the standard cost behaviour in between

Question 19

What is the advantage of line of best fit?

Answer 19

Takes all observations into account

Question 20

What are the disadvantages of line of best fit?

Answer 20

Uses historic data, is only an estimate, and assumes that output/activity solely determines cost

Question 21

What does the correlation co-efficient indicate? (r)

Answer 21

The strength of the relationship between the variables (close to +1 mean positive, -1 means negative and 0 means no correlation)

Question 22

What is the co-efficient of determination? (r^2)

Answer 22

The variable the indicates the proportion of change in the y (dependant) variable that is explained by the change in x (independent variable).

Question 23

What is the formula for the linear function generated in regression analysis?

Answer 23

y = a + b*x

Question 24

What are the advantages of regression analysis?

Answer 24

It takes all pairs of data into consideration, and gives a statistically accurate link between the two variables

Question 25

What are the disadvantages of regression analysis?

Answer 25

It relies on historical data, it assumes the relationship will be linear ,it may suggest a cause and effect relationship (which may not be the case), there may be may independent variables influencing, and it may only be used over the range of data supplied