Up to 25 of the generating costs relate to mainte nance These can be reduced

Up to 25 of the generating costs relate to mainte

This preview shows page 43 - 46 out of 130 pages.

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Managerial and Cost Accounting 44 Cost-Volume-Profilt and Business Scalability 7. Cost Behavior Analysis Good managers must not only be able to understand the conceptual underpinnings of cost behavior, but they must also be able to apply those concepts to real world data that do not always behave in the expected manner. Cost data are impacted by complex interactions. Consider for instance the costs of operating a vehicle. Conceptually, fuel usage is a variable cost that is driven by miles. But, the efficiency of fuel usage can fluctuate based on highway miles versus city miles. Beyond that, tires wear faster at higher speeds, brakes suffer more from city driving, and on and on. Vehicle insurance is seen as a fixed cost; but portions are required (liability coverage) and some portions are not (collision coverage). Furthermore, if you have a wreck or get a ticket, your cost of coverage can rise. Now, the point is that assessing the actual character of cost behavior can be more daunting than you might first suspect. Nevertheless, management must understand cost behavior, and this sometimes takes a bit of forensic accounting work. Let’s begin by considering the case of “mixed costs.” 7.1 Mixed Costs Many costs contain both variable and fixed components. These costs are called mixed or semi variable. If you have a cell phone, you probably know more than you wish about such items. Cell phone agreements usually provide for a monthly fee plus usage charges for excess minutes, text messages, and so forth. With a mixed cost, there is some fixed amount plus a variable component tied to an activity. Mixed costs are harder to evaluate, because they change in response to fluctuations in volume. But, the fixed cost element means the overall change is not directly proportional to the change in activity. To illustrate, assume that Butler’s Car Wash has a contract for its water supply that provides for a flat monthly meter charge of $1,000, plus $3 per thousand gallons of usage. This is a classic example of a mixed cost. Below is a graphic portraying Butler’s potential water bill, keyed to gallons used: Look closely at the data in the spreadsheet, and notice that the “variable” portion of the water cost is $3 per thousand gallons. For example, spreadsheet cell B12 is $2,100 (700 thousand gallons at $3
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Managerial and Cost Accounting 45 Cost-Volume-Profilt and Business Scalability per thousand); observe the formula for cell B12 in the upper bar of the spreadsheet (=(A12/1000)*3). In addition, the “fixed” cost is $1,000, regardless of the gallons used. The total in
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