COST CLASSIFICATION AND ESTIMATION METHODS

SEMINAR QUESTIONS
QUESTION 1
The Cheyenne Hotel in Big Sky, Montana, has accumulated records of the total electrical costs of
the hotel and the number of occupancy-days over the last year. An occupancy-day represents a
room rented out for one day. The hotel's business is highly seasonal, with peaks occurring during
the ski season and in the summer.

Month Occupancy-Days Electrical Costs

January 1,736 TZS4,127
February ........................................... 1,904 TZS4,207
March ................................................ 2,356 TZS5,083
April .................................................. 960 TZS2,857
May ................................................... 360 TZS1,871
June .................................................. 744 TZS2,696
July ................................................... 2,108 TZS4,670
August .............................................. 2,406 TZS5,148
September ........................................ 840 TZS2,691
October ............................................. 124 TZS1,588
November ......................................... 720 TZS2,454
December ......................................... 1,364 TZS3,529

Required:
1. Using the high-low method, estimate the fixed cost of electricity per month and the variable
cost of electricity per occupancy-day. Round off the fixed cost to the nearest whole dollar
and the variable cost to the nearest whole cent.
2. What other factors other than occupancy-days are likely to affect the variation in electrical
costs from month to month?

QUESTION 2
The Lakeshore Hotel's guest-days of occupancy and custodial supplies expense over the last seven
months were:
Guest-Days of Custodial Supplies
Month Occupancy Expense
March ................... 4,000 TZS 7,500
April ..................... 6,500 TZS 8,250
May ...................... 8,000 TZS 10,500
June ..................... 10,500 TZS 12,000
July ...................... 12,000 TZS 13,500
August ................. 9,000 TZS 10,750
September ........... 7,500 TZS 9,750

Guest-days is a measure of the overall activity at the hotel. For example, a guest who stays at the
hotel for three days is counted as three guest-days.
Required:
1. Using the high-low method, estimate a cost formula for custodial supplies expense.
2. Using the cost formula you derived above, what amount of custodial supplies expense
would you expect to be incurred at an occupancy level of 11,000 guest-days?
QUESTION 3:
Bargain Rental Car offers rental cars in an off-airport location near a major tourist destination in
California. Management would like to better understand the behavior of the company's costs. One
of those costs is the cost of washing cars. The company operates its own car wash facility in which
each rental car that is returned is thoroughly cleaned before being released for rental to another
customer. Management believes that the costs of operating the car wash should be related to the
number of rental returns. Accordingly, the following data have been compiled:

Rental Car Wash

Month Returns Costs
January ........................... 2,380 TZS 10,825
February ......................... 2,421 TZS 11,865
March .............................. 2,586 TZS 11,332
April ................................ 2,725 TZS 12,422
May ................................. 2,968 TZS 13,850
June ................................ 3,281 TZS 14,419
July ................................. 3,353 TZS 14,935
August ............................ 3,489 TZS 15,738
September ...................... 3,057 TZS 13,563
October ........................... 2,876 TZS 11,889
November ....................... 2,735 TZS 12,683
December ....................... 2,983 TZS 13,796

Required:
Using least-squares regression, estimate the fixed cost and variable cost elements of monthly car
wash costs. The fixed cost element should be estimated to the nearest dollar and the variable cost
element to the nearest cent.
 QUESTIONS

3 Cost classification 29 mins

3.1 A firm has to pay a 20c per unit royalty to the inventor of a device which it manufactures and sells.
How would the royalty charge be classified in the firm's accounts?
A Selling expense
B Direct expense
C Production overhead
D Administrative overhead (2 marks)

3.2 Which of the following would be classed as indirect labour?

A Assembly workers in a company manufacturing televisions
B A stores assistant in a factory store
C Plasterers in a construction company
D A consultant in a firm of management consultants (2 marks)

3.3 A manufacturing firm is very busy and overtime is being worked.

How would the amount of overtime premium contained in direct wages normally be classed?
A Part of prime cost
B Factory overheads
C Direct labour costs
D Administrative overheads (2 marks)

3.4 A company makes chairs and tables. Which of the following items would be treated as an indirect cost?
A Wood used to make a chair
B Metal used for the legs of a chair
C Fabric to cover the seat of a chair
D The salary of the sales director of the company (2 marks)

3.5 Over which of the following is the manager of a profit centre likely to have control?
(i) Selling prices
(ii) Controllable costs
(iii) Apportioned head office costs
(iv) Capital investment in the centre
A All of the above
B (i), (ii) and (iii)
C (i), (ii) and (iv)
D (i) and (ii) (2 marks)

3.6 Which of the following best describes a controllable cost?

A A cost which arises from a decision already taken, which cannot, in the short run, be changed.
B A cost for which the behaviour pattern can be easily analysed to facilitate valid budgetary control
comparisons.
C A cost which can be influenced by its budget holder.
D A specific cost of an activity or business which would be avoided if the activity or business did
not exist. (2 marks)

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 FMA/F2 MANAGEMENT ACCOUNTING

3.7 Which of the following items might be a suitable cost unit within the credit control department of a
company?
(i) Stationery cost
(ii) Customer account
(iii) Cheque received and processed
A Item (i) only
B Item (ii) only
C Item (iii) only
D Items (ii) and (iii) only (2 marks)

3.8 Which of the following best describes a period cost?

A A cost that relates to a time period which is deducted as expenses for the period and is not
included in the inventory valuation.
B A cost that can be easily allocated to a particular period, without the need for arbitrary
apportionment between periods.
C A cost that is identified with a unit produced during the period, and is included in the value of
inventory. The cost is treated as an expense for the period when the inventory is actually sold.
D A cost that is incurred regularly every period, eg every month or quarter. (2 marks)

3.9 A company employs four supervisors to oversee the factory production of all its products. How would the
salaries paid to these supervisors be classified?
A As a direct labour cost
B As a direct production expense
C As a production overhead
D As an administration overhead (2 marks)

3.10 A company manufactures and sells toys and incurs the following three costs:
(i) Rental of the finished goods warehouse
(ii) Depreciation of its own fleet of delivery vehicles
(iii) Commission paid to sales staff
Which of these are classified as distribution costs?
A (i) and (ii) only
B (i) and (iii) only
C (ii) and (iii) only
D (i), (ii) and (iii) (2 marks)

3.11 Which of the following describes a cost centre?

A A unit of output or service for which costs are ascertained
B A function or location for which costs are ascertained
C A segment of the organisation for which budgets are prepared
D An amount of expenditure attributable to a particular activity (2 marks)

3.12 The overhead expenses of a company are coded using a five digit coding system, an extract from which is
as follows:
Cost centre Code no Types of expense Code no
Machining 10 Indirect materials 410
Finishing 11 Depreciation of production machinery 420
Packing 12 Indirect wages 430
Stores 13 Maintenance materials 440
Maintenance 14 Machine hire costs 450
Depreciation of non-production equipment 460
The coding for the hire costs of a packing machine is 12450.

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 Confirming Pages

106 Chapter 3

PROBLEM 3–13 Identifying Cost Behavior Patterns [LO1]

A number of graphs displaying cost behavior patterns are shown below. The vertical axis on each graph
represents total cost, and the horizontal axis represents level of activity (volume).
Required:
1. For each of the following situations, identify the graph below that illustrates the cost behavior pattern
involved. Any graph may be used more than once.
a. Cost of raw materials used.
b. Electricity bill—a flat fixed charge, plus a variable cost after a certain number of kilowatt-
hours are used.
c. City water bill, which is computed as follows:

First 1,000,000 gallons or less ................. $1,000 flat fee

Next 10,000 gallons ................................. $0.003 per gallon used
Next 10,000 gallons ................................. $0.006 per gallon used
Next 10,000 gallons ................................. $0.009 per gallon used
Etc ............................................................ Etc.

d. Depreciation of equipment, where the amount is computed by the straight-line method. When the
depreciation rate was established, it was anticipated that the obsolescence factor would be greater
than the wear and tear factor.
e. Rent on a factory building donated by the city, where the agreement calls for a fixed fee payment
unless 200,000 labor-hours or more are worked, in which case no rent need be paid.
f. Salaries of maintenance workers, where one maintenance worker is needed for every 1,000 hours
www.mhhe.com/noreen2e

of machine-hours or less (that is, 0 to 1,000 hours requires one maintenance worker, 1,001 to
2,000 hours requires two maintenance workers, etc.).
g. Cost of raw materials, where the cost starts at $7.50 per unit and then decreases by 5 cents per
unit for each of the first 100 units purchased, after which it remains constant at $2.50 per unit.
h. Rent on a factory building donated by the county, where the agreement calls for rent of $100,000
less $1 for each direct labor-hour worked in excess of 200,000 hours, but a minimum rental pay-
ment of $20,000 must be paid.
i. Use of a machine under a lease, where a minimum charge of $1,000 is paid for up to 400 hours
of machine time. After 400 hours of machine time, an additional charge of $2 per hour is paid up
to a maximum charge of $2,000 per period.

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