Question

Kootenay Bicycle Company is trying to analyze cost behavior of their electricity costs. They have determined that machine hours is the best way to predict their electricity costs. The company's cost and machine hours for the past six months are as follows: Machine Hours Electricity Cost 1 720 $45,888.00 2 700 $41,550.00 $46,664.00 3 680 4 730 $47,610.00 un 650 $43,765.00 6 710 $46,825.00 I Discuss with me whether you think the Electricity cost is a fixed, variable or mixed cost. Discuss what methods you can use to predict the electricity cost based on machine hours. Which method would you recommend and why?

Answer 1

the electricity cost have a mixed cost behaviour.neither variable nor fixed.if it was fixed then the total cost for different machine hours will be same.but here the costs are different.if it was a variable cost then the cost per machine hour will be same for the machine hours ,but here too its different.the electricity cost have a mixed cost behaviour and it can be proven by using high low method and to create a cost function to find the cost of a specifich machine hours.high low method is used to segregate the fixed cost and variable cost from a mixed cost.

the cost function is y=a+bx

y is the total cost

a is the fixed cost for all activity level

b is the variable cost per machine hours

x is the machine hours consumed

using high low method to the table given

b=(total cost of highest activity level-total cost of lowest activity level)/(highest activity level-lowest activity level)

total cost of highest activity level=$47610

total cost of lowest activity level=$43765

highest activity level=730 hours

lowest activity level=650 hours

b=(47610-43765)/(730-650)=48.0625

applying the values of highest activity level to the constraint to find a

y=$47610

b=$48.0625

x=730 hours

47610=a+(48.0625*730)

47610=a+35085.625

a=47610-35085.625=12524.375

so the general constraint is

y = 12524.375 + 48.0625x