Question

Objective:

This activity has the purpose of helping students apply the appropriate method of cost behavior to a situation and apply the managerial accounting concepts.

Chapter 2: Basic Cost Management Concepts and Accounting for Mass Customization Operations.

Identify the most common variable and the fixed cost in a workplace such as a pharmaceutical. Apply an appropriate method to analyze the behavior of the cost and give your opinion about the method you chose.

Answer 1

For a pharmaceutical company the common variable costs will be the costs of materials and cost of labor. For example for a pharma company that makes aspirin tablets the key ingredient or material that it will use is acetylsalicylic acid. The amount and hence the total cost of this ingredient will depend on the number of aspirins tablets being manufactured by the company and hence it will be a variable cost. Fixed costs in a workplace such as a pharmaceutical organization will be research and development costs, costs of equipment and fees for federal licenses required to produce a drug. These costs will be the same irrespective of the fact whether one aspirin tablet is produced or a hundred aspirin tablet is produced and hence are fixed costs.

The method that I will apply to analyze the behavior of the cost is called the ‘the high low method’. This is a method in which fixed costs and variable costs are separated from a given data set. This method involves taking the highest level of activity and the lowest level of activity and comparing the total costs at both these levels of activities. In this method we need data for the units manufactured at the highest level and the total cost at that level and the units manufactured at the lowest level and the total cost at that level. Unit variable cost will be equal to change in costs/change in units (from high to low). We can then determine the fixed costs and hence the total costs. In my opinion the high low method is an easy to use method. This method can be used when we have limited data points to analyze. In terms of drawbacks, this method can sometimes be unreliable as it considers only two extreme activity levels.