Lecture 3 - Cost Estimation

# Lecture 3 - Cost Estimation - Cost Estimation What you need...

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Cost Estimation What you need to know • How to use various methods to understand and estimate cost behavior – Creation of a “new” understanding – Use of existing past data • How to interpret the results of methods – Implications and limitations for forecasts of sales, costs, etc. Understanding Cost Behavior We want to understand how spending will vary in a variety of decision settings Can we separate the fixed and variable costs? Cause-effect relations and cost drivers

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• Direct costs (i.e., materials and labor) are generally well understood • Overhead costs tend to be mixed in nature and/or less consistent from period to period • Overhead cost behavior has implications for several types of decisions: Our Focus – Overhead Costs Mixed overhead cost behavior Total Power Cost Production volume or other cost driver Total Power Costs The fixed part: the vertical intercept The variable part: the slope Assumed Linearity TC = FC + [VC x (level of cost driver)] where TC = TOTAL cost FC = TOTAL fixed cost VC =variable cost PER UNIT of the cost driver
Volume Overhead Costs A B C D Total Cost Curve Cost Estimation Methods • Engineering estimates • Account analysis • Rough estimates: scattergraph and high-low estimates • Statistical methods: e.g., linear regression Engineering Estimates • Very detailed production method analysis performed, in part, to understand costs • Usually done for new production processes – May supplement past information, especially when changes to production method occur • Closely tied to activity-based costing – Cost system in which costs are computed/allocated based on average cost of activity performed for a product and/or in a particular department

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## This note was uploaded on 05/19/2008 for the course ACCT 2521 taught by Professor Basu during the Fall '07 term at Temple.

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Lecture 3 - Cost Estimation - Cost Estimation What you need...

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