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Question: Many companies face increasingly unpredictable costs and revenues as the recession affects demand for products and the costs of materials and labor for these products.

04 Feb 2023,5:25 PM

1)   Many companies face increasingly unpredictable costs and revenues as the recession affects demand for products and the costs of materials and labor for these products. Revenues and costs have fluctuated significantly in recent years for such cost elements as fuel, labor, commodities (agricultural commodities, metals, etc.), interest, and rent expense, among others. Dealing with the increased fluctuations requires cost estimation methods that are more sophisticated and more frequently updated. The result is that companies are including in their cost estimation additional independent variables. Moreover, these companies are updating their estimation models more frequently. For example, Southwest Airlines updates its revenue prediction model on a daily basis.


Consider Southwest Airlines and the following six key areas of cost for the company. Which of these costs do you think the airline must update most frequently?


a.  Flight crew.


b.  Fuel costs.


c.  Maintenance spending.


d.  Advertising spending.


e.  Aircraft ownership costs.



2)   Match each cost to the appropriate cost behavior pattern shown in graphs (a) through (l). Any graph can fit two or more patterns.


1.  The cost of lumber used to manufacture wooden kitchen tables.

2.  The cost of order fillers in a warehouse. When demand increases significantly, the number of order fillers is increased, and when demand falls off significantly, the number is decreased.

3.  The salary of the plant's quality control inspector, who inspects each batch of products.

4. The cost of water and sewer service to the manufacturing plant. The local municipality charges a fixed rate per gallon for usage up to 10,000 gallons and a higher charge per gallon for usage above that point. 5. The cost of an Internet connection of $23 per month.

6.  The cost of an Internet connection of $10 per month plus $2 per hour of usage above 10 hours.

7.  The cost to make copies of a given document at a printing shop, where the per-copy charge is reduced for customers who make more than 100 copies of the document.

8.  An increase in the per-kilowatt-hour charge by the local electric utility for usage above 5,000 kilowatt-hours to discourage excess usage and to level demand (especially in peak load times).

9.  Monthly rent of a clothing store in the Sunnyvale Mall that pays a fixed rental charge of

$1,000 per month plus 2% of gross sales receipts.

10.  Monthly rent of a shoe store in the Sunnyvale Mall that pays 6% of gross sales receipts, up to a maximum of 10. $3,000 per month as a rental charge.




3)     Cost Relationships: The following costs are for Optical View Inc., a contact lens manufacturer:


Output in Units

Fixed Costs

Variable Costs

Total Costs



















1.     Calculate and graph the total costs, total variable costs, and total fixed costs.

2.     For each level of output calculate the per-unit total cost, per-unit variable costs, and per- unit fixed costs.

3.     Using the results from requirement 2, graph the per-unit total cost, per-unit variable cost, and per-unit fixed costs. Discuss the behavior of the per-unit costs over the given output levels.




3)  Cost Estimation; High-low Method; MAPE: Horton Manufacturing Inc. produces blinds and other window treatments for residential homes and offices. The owner is concerned about the maintenance costs for the production machinery because maintenance costs for the previous fiscal year were higher than he expected. The owner has asked you to assist in estimating future maintenance costs to better predict the firm's profitability. Together, you have determined that the best cost driver for maintenance costs is machine hours. The data from the previous fiscal year for maintenance costs and machine hours follow:



Maintenance Costs

Machine Hours








































1.  Use the high-low method to estimate the fixed and variable portions for maintenance costs.


2.    Graph the data points to check for possible outliers and determine whether the points selected in requirement 1 are representative of the date.


3.    Calculate the mean absolute percentage average error (MAPE) for the cost equation you developed in requirement 1.

4)   CVP Analysis; Commissions; Ethics Lionel Corporation manufactures pharmaceutical products sold through a network of sales agents in the United States and Canada. The agents are currently paid an 18% commission on sales; that percentage was used when Lionel prepared the following budgeted income statement for the fiscal year ending June 30, 2019:


Since the completion of the income statement, Lionel has learned that its sales agents are requiring a 5% increase in their commission rate (to 23%) for the upcoming year. As a result, Lionel's president has decided to investigate the possibility of hiring its own sales staff in place of the network of sales agents and has asked Alan Chen, Lionel's controller, to gather information on the costs associated with this change.


Alan estimates that Lionel must hire eight salespeople to cover the current market area, at an average annual payroll cost for each employee of $80,000, including fringe benefits expense. Travel and entertainment expenses is expected to total $600,000 for the year, and the annual cost of hiring a sales manager and sales secretary will be $150,000. In addition to their salaries, the eight salespeople will each earn commissions at the rate of 10% of sales. The president believes that Lionel also should increase its advertising budget by $500,000 if the eight salespeople are hired.

5. Determine Lionel's breakeven point in sales dollars for the fiscal year ending June 30, 2019, if the company hires its own sales force and increases its advertising costs. Prove this by constructing a contribution income statement.


6.     If Lionel continues to sell through its network of sales agents and pays the higher commission rate, determine the estimated volume in sales dollars that would be required to generate the operating profit as projected in the budgeted income statement.


7.          Describe the general assumptions underlying breakeven analysis that may limit its usefulness.


8.          What is the indifference point in sales for the firm to either accept the agents' demand or adopt the proposed change? Which plan is better for the firm? Why?


9.          What are the ethical issues, if any, that Alan should consider?

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