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Answer: B
The high-low method of cost estimation is a method of linear extrapolation or interpolation between
two actual data points. It is a method for flexing a budget by calculating the budgeted cost for the actual
activity.
The high-low method uses the highest and lowest costs in the budget period for the extrapolation process
itself. The measurement of actual cost for the budgeted activity is irrelevant. The high-low method
estimates a single cost at a certain level of activity and not a range of costs.
Which of the following equations describes the total annual telephone cost, C if the company
uses T minutes of call time in a year?
A. C = 480 + 0.01T
B. C = 40 + 0.01T
C. C = 480 + 0.12T
D. C = 40 + 0.01T/12
Answer: A
1. What is the relationship between customer-service costs and number of service reports. Is the
relationship economically plausible?
2. Use the high-low method to compute the cost function, relating customer-service costs to the number
of service reports.
3. What variables, in addition to number of service reports, might be cost drivers of weekly customer
service costs of Capitol Products?
Answer:
Estimating a cost function, high-low method.
1. There is a positive relationship between the number of service reports (a cost driver) and the
customer-service department costs. This relationship is economically plausible.
2.
Calculation of fixed cost:
Customer-
Number of Service
Particulars
Service Reports Department
Costs
Highest observation of cost driver
455 21,900
Lowest observation of cost driver 115 13,000
Difference 340 8,900
8,900
Variable cost per number of service reports: = $26.18
340
Cost function:
Customer-service department costs = C + b(number of service reports)
Opportunity cost
Luzon Fabricators, Inc. estimates that 60,000 special components will be used in the
manufacture of a specialty steel window for the whole next year. Its supplier quoted a price of
P60 per component. Luzon prefers to purchase 5,000 units per month, but its supplier could
not guarantee this delivery schedule. In order to ensure availability of these components, Luzon
is considering the purchase of all the 60,000 units at the beginning of the year.
Assuming Luzon can invest cash at 8%, the company’s opportunity cost of purchasing all the
60,000 units at the beginning of the year is
Answer: A
Problem 6
Answer: C
Problem 8
The opportunity cost of making a component part in a factory with excess capacity for which
there is no alternative use is
A. the total manufacturing cost of the component.
B. the total variable cost of the component.
C. the fixed manufacturing cost of the component.
D. zero.
Answer: D
Problem 9
The cost of not receiving rent from a space because you decide to make the part rather than
buying it from an outside supplier is considered a(an)
A. sunk cost C. opportunity cost
B. future cost D. fixed cost
Answer: C
Problem 10
An opportunity cost commonly associated with a special order is
A. the contribution margin on lost sales
B. the variable costs of the order
C. additional fixed cost that is related to the increased output
D. any of the above
Answer: A
Problem 11
Operating at or near full capacity will require a firm considering a special order to recognize
the:
A. opportunity cost arising from lost sales
B. value of full employment
C. time value of money
D. need for good management
Answer: A
Problem 12:
Baxter Corporation is working at full production capacity producing 10,000 units of a unique product,
JKL. Manufacturing costs per unit for JKL follow:
Direct material $2
Direct manufacturing labor 3
Manufacturing overhead 5
$10
The unit manufacturing overhead cost is based on a variable cost per unit of $2 and fixed costs of
$30,000 (at full capacity of 10,000 units). The non-manufacturing costs, all variable, are $4 per unit,
and the selling price is $20 per unit. A customer, Jacksonville Company, has asked Baxter to produce
2,000 units of a modification of JKL to be called RST. RST would require the same manufacturing
processes as JKL. Jacksonville Company has offered to share equally the non-manufacturing costs with
Baxter. RST will sell at $15 per unit.
Required:
a. What is the opportunity cost to Baxter of producing the 2,000 units of RST (assume that no
overtime is worked)?
b. The Graves Company has offered to produce 2,000 units of JKL for Brown, so
Brown can accept the Jacksonville offer. Graves Company would charge Baxter $14
per unit for the JKL. Should Baxter accept the Graves Company offer?
c. Suppose Baxter had been working at less than full capacity producing 8,000 units of JKL at the
time the RST offer was made. What is the minimum price Baxter should accept for RST under
these conditions (ignoring the $15 price mentioned previously)?
Answer:
a. JKL
Particulars
Sales price $20
Variable cost ($2 + $3 + $2 + $4) -11
Contribution margin $9
Problem 13
The master budget for Serse Ltd, a single-product firm, for the current year is as follows:
£
Sales 480,000
Variable materials (20,000 tonnes at £10 per tonne) 200,000
Variable labour 96,000
Variable overhead 48,000
Fixed overhead 72,000
Total cost (416,000)
Budgeted net profit 64,000
Serse Ltd has substantial excess production capacity. A sales enquiry has been received, late in the year,
which will increase sales and production for the year by 25% over budget.
The extra requirement for 5,000 tonnes of material will enable the firm to purchase 7,000 tonnes at a
discount of 5% on its normal buying price. The additional 2,000 tonnes will be used to complete the
year’s budgeted production.
What price should Serse Ltd charge for the special order in order to earn the same budgeted net profit
for the year of £64,000?
A. £83,500
B. £100,500
C. £82,500
D. £101,500
Answer: C
The total sales will use 25,000 tonnes of material, at a cost of:
(18,000 × £10) + (7,000 × £10 × 95%)
The variable labour and overhead cost for this level of production would increase to:
(£96,000 + £48,000) × 125% = £144,000 × 125% = £180,000
The requirement is to earn the same budget profit of £64,000. This means the total required sales income
will be (£498,500 + £64,000) = £562,500.
The sales revenue without the extra order is £480,000 and therefore the revenue to be generated from
the extra order is (£562,500 – £480,000) = £82,500.
Problem 14
Within decentralised organisations there may be cost centres, investment centres and profit
centres. Which of the following statements is true?
Answer: B
Cost centres have the lowest degree of autonomy with managers only able to control costs. Profit centres
have a higher degree of autonomy as managers can not only control costs but can also control sales
prices and revenue. Investment centres have the highest degree of autonomy as managers can not only
control costs and revenues but can also make investment decisions not open to managers in either of
the other two centres.