The controller of Chittenango Chain Company believes that the identification of the variable and fixed components of the firm’s costs will enable the firm to make better planning and control decisions. Among the costs the controller is concerned about is the behavior of indirect-materials cost. She believes there is a correlation between machine hours and the amount of indirect materials used.
A member of the controller’s staff has suggested that least-squares regression be used to determine the cost behavior of indirect materials. The regression equation shown below was developed from 40 pairs of observations.
S = $200 + $9H
| where | S | = | Total monthly cost of indirect materials |
| H | = | Machine hours per month |
The estimated cost of indirect materials if 900 machine hours are to be used during a month is $8,300 (Assume that 900 falls within the relevant range for this cost equation.)
The high and low activity levels during the past four years, as measured by machine hours, occurred during April and August, respectively. Data concerning machine hours and indirect-material usage follow.
| April | August | |||||
| Machine hours | 1,050 | 820 | ||||
| Indirect supplies: | ||||||
| Beginning inventory | $ | 1,350 | $ | 2,100 | ||
| Ending inventory | 1,900 | 4,100 | ||||
| Purchases | 7,000 | 7,300 | ||||
Cost of indirect materials used during April is $6,450 and August is $5,300.
1. Use the high-low method to estimate the behavior of the company’s indirect-material cost. Express the cost behavior pattern in equation form. (Round variable cost per machine hour to 2 decimal places.)
2. To determine the validity of the cost estimate computed in requirement 2, what question(s) would you ask the controller about the data used for the regression? (You may select more than one answer. Single click the box with the question mark to produce a check mark for a correct answer and double click the box with the question mark to empty the box for a wrong answer.)
check all that apply
- a.Do the observations contain any outliers, or are they all representative of normal operations?
- b.Are there any mismatched time periods in the data? Are all of the indirect material cost observations matched properly with the machine hour observations?
- c.Are there any allocated costs included in the indirect material cost data?
- d.Are the cost data affected by inflation?
- e.None of these choices are correct.
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