ACC 220 Chapter 18 and 20

Regression analysis

a statistical approach that estimates the cost equation by employing information from all data points to find the cost equation line that minimizes the sum of the squared distances from the line to all the data points

Activity index

the activity that causes changes in the behavior of costs, allows costs to be classified as variable, mixed or fixed

Variable costs

costs that vary in TOTAL directly and proportionately with changes in the activity level, example: if the activity level increases by 10%, TOTAL variable costs increase by 10%

Classify variable costs

direct materials, direct labor, and indirect materials

Unit variable costs

remain the same at evert level of activity

Fixed costs

costs that remain the same in TOTAL regardless of changes in the activity level

Classify fixed costs

depreciation and rent

Unit fixed costs

varies inversely with activity, example: as volume increases, unit cost declines, and vice versa

Mixed costs

costs that have BOTH A VARIABLE COST and a FIXED COMPONENT, change in TOTAL but NOT PROPORTIONATELY with changes in activity level

Classify mixed costs

maintenance and utilities

Break-even point

the level of activity at which total revenue equals total cost, yielding a net income of zero, expressed in sales units (quantity) or in sales dollars

Mathematical equation for break-even point

sales - variable costs - fixed costs = 0

Contribution margin technique for break-even point

must equal total fixed costs, total revenues - variable costs = ??

Equals break even point in units

Fixed costs/unit contribution margin

Equals break-even point in dollars

Fixed costs/contribution margin ratio

Break-even analysis

the process of finding the break-even point

Contribution margin (CM)

the amount of revenue remaining after deduction variable costs

Contribution margin ratio

the percentage of each dollar of sales that is available to apply to fixed costs and contribute to net income

Cost behavior analysis

the study of how specific costs respond the changes in the level of business activity

Cost-volume-profit graph

a graph showing the relationship between costs, volume, and profits

Cost-volume-profit income statement

a statement for internal use that classifies costs as fixed or variable and reports contribution margin in the body of the statement

High-low method

a mathematical calculation that used total costs incurred at the high and low levels of activity to classify mixed costs into fixed and variable components

Margin of safety

the difference between actual or expected sales, and sales at the break-even point

Relevant range

the range of activity index over which the company expects to operate during the year

Target net income

the income objective set by management, level of sales necessary to achieve a target income

Mathematical equation for target net income

sales - variable costs - fixed costs

Equals required sales units

(Fixed costs + Target net income)/Unit contribution margin

Equals required sales dollars

(Fixed costs + Target net income)/Contribution margin ratio

Unit contribution margin

the amount of revenue remaining per unit after deducting variable costs

Mathematical equation for unit contribution margin

unit selling price - unit variable costs

Mathematical equation for contribution margin ratio

unit contribution margin/unit selling price

total contribution margin/total sales

Variable cost ratio

variable costs expressed as a percentage of sales

Incremental analysis

The process of identifying the financial data that change under alternative courses of action

Opportunity cost

the potential benefit that is lost when one course of action is chosen rather than an alternative course of actions

Relevant costs and revenues

those costs and revenues that differ across alternatives

Sunk costs

a cost incurred in the past that cannot be changed or avoided by any present or future decision

Special orders

to obtain additional business by making a major price concession to a specific customer

assumes that sales of products in other markets are not affected and that company is NOT operating at full capacity

Sell or process further

may have option to sell a product at a given point in production or continuing to process and sell later at a higher price

Decision rule: sell or process

you can process further as long as the incremental revenue from such processing EXCEEDS the incremental processing costs

Eliminate unprofitable segment or product

focus on relevant costs

fixed costs allocated to the unprofitable segment MUST BE ABSORBED by the other segments

net income may DECREASE when an unprofitable segment is eliminated

Decision rule: eliminate unprofitable

you can retain the segment unless fixed costs eliminated EXCEED contribution margin lost

Joint costs

all cost incurred prior to the point at which the two products are seperately identifiable known as the split-off point

Joint products

multiple end-products produced from a single raw material and a common production process