3. Cost Behaviour Flashcards
What are the four kinds of cost?
Variable, fixed, stepped fixed and semi variable
What is a variable cost?
One that tends to vary with the level of activity
Describe the graph of variable costs, with level of activity on the x axis and total cost on the y:
Diagonal line going upwards from the origin
Describe the graph of variable costs, with level of activity on the x axis and cost per unit on the y:
A straight horizontal line
What is a variable cost?
A cost incurred for a period (within certain output and turnover limits) that is unaffected by fluctuations in level of activity
Describe the graph of fixed costs, with level of activity on the x axis and total cost on the y:
A straight horizontal line
Describe the graph of fixed costs, with level of activity on the x axis and cost per unit on the y:
A decreasing curved line
What is a stepped fixed cost?
One which is fixed for a particular range of activity levels, and that jumps to a new higher level when that range is surpassed
Describe the graph of stepped fixed costs, with level of activity on the x axis and total cost on the y:
Like stairs going upwards
How are stepped costs treated in the short and long term?
As fixed in the short term and variable in the long term
What is a semi-variable cost?
One with both fixed and variable components, thus is partly affected by fluctuations in activity level
Describe the graph of semi-variable costs, with level of activity on the x axis and total cost on the y:
A diagonal line going upwards from a point on the y axis (which is the fixed cost element)
Describe the graph of semi-variable costs, with level of activity on the x axis and cost per unit on the y:
A decreasing curved line that goes towards the limit of variable cost per unit
What are the two methods for estimating semi variable costs?
The high/low method and the line of best fit (regression analysis)
What is the formula for variable cost per unit in the high/low method?
Change in total costs / change in output of the highest and lowest output level
What is the cost relationship equation in the high low method?
Fixed Cost + (VC/unit)*(output)
What are the advantages of the high low method?
Simple to calculate and explain, and only requires two pieces of data
What are the disadvantages of the high low method?
Extreme data points may not be representative of the standard cost behaviour in between
What is the advantage of line of best fit?
Takes all observations into account
What are the disadvantages of line of best fit?
Uses historic data, is only an estimate, and assumes that output/activity solely determines cost
What does the correlation co-efficient indicate? (r)
The strength of the relationship between the variables (close to +1 mean positive, -1 means negative and 0 means no correlation)
What is the co-efficient of determination? (r^2)
The variable the indicates the proportion of change in the y (dependant) variable that is explained by the change in x (independent variable).
What is the formula for the linear function generated in regression analysis?
y = a + b*x
What are the advantages of regression analysis?
It takes all pairs of data into consideration, and gives a statistically accurate link between the two variables
What are the disadvantages of regression analysis?
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
