AFM 102: Winter 2017

Week 3 Chapter 3: Cost Behaviour: Analysis and Use

Types of Cost Behaviour Patterns
Variable Costs

Activity Base
Measure of whatever causes a variable cost to be incurred
Example: Total cost of direct materials in a bicycle manufacturing company will
increase as the number of bicycles produced increases. Therefore, the number of
bicycles produced is an activity base for explaining the total cost of direct
materials
Extent of Variable Costs

True Variable Costs

AFM 102: Winter 2017

Direct materials is a true or proportionately variable cost because the amount

used during a period varies in direct proportion to the level of production activity
Any amounts purchased but not used can be stored and carried forward to the
next period as inventory
Step-Variable Costs
Obtainable only in large amounts and that increases and decreases only in
response to fairly wide changes in the activity level

The Linearity Assumption and the Relevant Range

Curvilinear Costs
Costs that show a curved relationship between cost and activity rather than a
straight-line relationship

Fixed Costs
AFM 102: Winter 2017

Types of Fixed Costs

Committed Fixed Costs
Difficult to adjust in the short term and that relate to the investment in
facilities, equipment, and the basic organizational structure of a firm
Discretionary Fixed Costs
Arising from annual decisions by management to spend in certain areas
(advertising and research)
Fixed Costs and the Relevant Range
AFM 102: Winter 2017

Mixed Costs

Analyzing Mixed Costs

Account Analysis
Each account under consideration is classified as either variable or fixed based
on the analysts prior knowledge of how the cost in the account behaves
Engineering Approach
Detailed analysis of cost behaviour based on an industrial engineers evaluation
of the inputs required to carry out a particular activity and of the prices of those
inputs
The High-Low Method
Separating a mixed cost into its fixed and variable elements by analyzing the
change in cost between the high and low levels of activity
AFM 102: Winter 2017

Least-Squares Regression Method