Chapter 06 – Activity Analysis, Cost Behavior, and Cost Estimation
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CHAPTER 6
ACTIVITY ANALYSIS, COST BEHAVIOR, AND COST ESTIMATION
Learning Objectives
2. Define and describe the behavior of the following types of costs: variable, step-
variable, fixed, step-fixed, semivariable (or mixed), and curvilinear.
4. Define and give examples of engineered costs, committed costs, and
discretionary costs.
6. Describe the multiple regression, engineering, and learning-curve approaches to
cost estimation.
8. Perform and interpret a least-squares regression analysis with a single
independent variable (appendix).
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Chapter Overview
I. Cost Behavior Patterns
A. Types of costs
2. Step-variable costs
4. Step-fixed costs
6. Curvilinear cost
B. The relevant range
C. Using Cost Behavior Patterns to Predict Costs
D. Cost Categories and Structures
1. Engineered costs
3. Discretionary costs
II. Cost Estimation
A. Methods
1. Account-classification
3. High-low
4. Least-squares regression
a. Regression line
b. Independent and dependent variables
c. Goodness of fit
5. Multiple regression
B. Data Collection Problems
1. Missing data
3. Mismatched time periods
5. Allocated and discretionary costs
6. Inflation
III. Effects of Learning on Cost Behavior
A. Learning curves
B. Experience curves
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Key Lecture Concepts
I. Cost Behavior Patterns
• Understanding cost behavior patterns (i.e., the relationship between cost
and activity) is important to managers as they plan, control, and make
decisions in the operation of their organizations. (For example, a manager
• Variable costs are costs that remain constant on a per-unit basis and
fluctuate in total in direct response to cost-driver changes.
• Step-variable costs are nearly variable, but such costs increase in small
steps rather than in direct proportion to cost-driver changes.
➢ Example: if a class is a bit larger than usual, an additional exam
• Fixed costs stay constant in total but fluctuate on a per-unit basis across
ranges of activity.
➢ Example: a professor’s salary is fixed, and more students enrolled
• Step-fixed costs are fixed within a wide range of activity but will change
outside that range.
➢ Example: if a course increases by a large number of students, it will
• A semivariable cost (mixed cost) changes in response to a change in a cost
driver, but not in direct proportion. Such costs have both variable and
fixed elements.
➢ Example: a printer’s fee for brochures may include a fixed set-up
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• A curvilinear cost function cannot be represented with a straight line but
instead is represented with a curve that reflects either increasing or
decreasing marginal costs.
• The relevant range reflects the range of activity within which managers
expect a company to operate, allowing the prediction of cost behavior
with some certainty.
• It is useful for management to make a distinction between engineered,
committed, and discretionary costs.
➢ An engineered cost is one that bears a definite physical
➢ Committed costs result from an organization’s ownership or use of
facilities and its basic organizational structure. These costs cannot
be eliminated without endangering the entity’s overall health and
existence.
➢ Discretionary costs exist as the result of a management decision.
In comparison with committed costs, such costs are more easily
changed in bad economic times without doing serious long-run
harm to the entity.
II. Cost Estimation
• The account-classification method (also called account analysis) requires
the study of an account in the general ledger. The experienced analyst
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uses the account information as well as his or her own judgment to
determine future cost behavior.
• With the visual-fit method, an analyst examines a cost by plotting points
on a graph (called a scatter diagram) and places a line through the points
to yield a cost function.
• The high-low method considers only two points of data, the highest and
lowest, for activity within the relevant range.
➢ The method first focuses on cost changes, allowing an analyst to
• The least-squares regression method is a statistical approach that is both
objective and considers all data points.
➢ By using mathematical formulas to arrive at the best possible cost
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• Multiple regression can be used to estimate a cost function when there is
more than one independent variable. (For example, the fuel cost for an
airline is determined by the number of miles flown and by other variables
such as wind speed and load.)
• The process of collecting appropriate data to use in cost estimation is
important, as the best method will fail if it integrates poor data. Common
• The previously mentioned estimation methods assume there is an
historical pool of data from which to draw. In new environments without
such a pool, the engineering method of estimation may be used.
III. Effects of Learning on Cost Behavior
• A learning curve expresses the relationship between labor time and
output. As the labor force becomes more experienced with a new process,
workers become more efficient and the per-unit cost falls.
➢ The learning-curve concept has been broadened to include costs
Teaching Overview
Chapter 6 is a straightforward chapter on cost behavior. If there is a pitfall, it is in
assuming that students already have a solid understanding of the topics. Short-
changing cost behavior concepts may mean having to backtrack later in the course
when topics such as flexible budgeting, overhead variances, and break-even analysis
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are introduced. I recommend doing a refresher of the material presented in earlier
chapters and then expanding a bit.
Also, from a teaching perspective, it is easy to focus solely on the computational aspects
of the various cost-estimation methods. Remember to integrate the pros and cons of
6-35 is sure to create a lively classroom discussion.
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Links to the Text
Homework Grid – CHAPTER 6
Item No.
Learning
Objectives
Completion
Time (min.)
Special
Features*
Exercises:
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1, 2
15
6-23
1, 2
40
6-24
1, 2, 5
15
6-25
1, 2, 5
15
I
6-26
1, 2, 3
15
6-27
1, 2, 5
30
6-28
2
30
C
6-29
1, 2, 5
15
6-30
1, 2, 5
30
6-31
1, 6
10
6-32
2, 6
15
6-33
1, 2, 5, 8
45
6-34
1, 2, 5, 8
45
Problems:
6-35
1, 2
20
I
6-36
1, 2, 5
15
6-37
1, 2, 5
25
6-38
2, 4, 5
25
6-39
2, 5
25
6-40
1, 2, 5, 6
40
W
6-41
1, 2, 5, 6, 8
45
6-42
1, 2, 5
40
6-43
1, 2, 5
35
6-44
2, 5
25
W
6-45
2, 5
40
6-46
1, 2, 5, 8
45
S
Cases:
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1, 2, 5
45
G, W
6-48
1, 2, 5
45
6-49
1, 2, 5, 8
50
E, W
* W = Written response E = Ethical issue G = Group work
I = International C = Internet use S = Spreadsheet