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Greetings sir.
I was attempting the Self assessment Quiz section in the student virtual learning , for the PM subject, where they test your MA core knowledge.
So for the Quiz of Cost Classification and Behavior, Q.14. , it is a real bummer.
The question is about when after a certain output, variable cost per unit goes down by $1. So we need to find out the variable cost per unit after this output point.
The answer is given that you need to add this amount – the $1 that goes down multiplied by the no. of units which it affects, to the highest output amount, before carrying out the high low method.
I don’t understand the reason, the logic, and the process about this.
Can you please help to elaborate and educate more than the brief explanation provided by the answer given at the ACCA website, after going through it yourself ?
Greatly appreciated.
There are several ways of arriving at the answer to this question. I have not checked which way the ACCA answer chooses to do it, but here is the way that I would do it!!
Using the high-low method we would usually get the variable cost per unit by dividing the difference in the two costs by the difference in the number of units.
However that only works if the variable cost per unit stays the same for any level of production.We need the variable cost per unit for production of more than 15,000 units. Obviously the cost of $68,000 for 20,000 units does include the higher variable cost for the extra 5,000 units, but the $39,400 only includes a lower variable cost which is $1 per unit less.
So to get the total cost for 20,000 units if the variable cost had not fallen by $1 for the extra 5,000 units, we need to add 5,000 x $1 which gives a total cost of 68,000 + 5,000 = $73,000.
Now we can use the normal high low approach to get the variable cost per unit if it had not fallen by $1 as (73,000 – 39,400) / (20,000 – 12,000) = $2.80.
This is the variable cost per unit for units up to 15,000, and therefore for the extra units above 15,000 the variable cost is $1.80 per unit.
(Although in the exam you should not waste time checking it, if it convinces you here then we can check as follows:
Using 8,000 units, the fixed cost must be 39,400 – (8,000 x 2.80) = $17,000.
So the total cost for 20,000 units should be $17,000 + (15,000 x $2.80) + (5,000 x $1.80) = $68,000, which is correct 🙂 )
Sir, I am very grateful for such a generous explanation, especially the double check at the end! It really was helpful!!
You said:
“ Using the high-low method we would usually get the variable cost per unit by dividing the difference in the two costs by the difference in the number of units.
However that only works if the variable cost per unit stays the same for any level of production.”This clarified alot for me! It is a great guide for the future. Thankyou very much!
However, there is one paragraph that is confusing me:
“ We need the variable cost per unit for production of more than 15,000 units. Obviously the cost of $68,000 for 20,000 units does include the higher variable cost for the extra 5,000 units, but the $39,400 only includes a lower variable cost which is $1 per unit less.”
Shouldn’t it be that the cost of $68,000 for the 20,000 units includes only the lower variable cost for the extra 5,000, and that is the reason we would be adding the extra $1 per unit, so we could use the High low method, as you demonstrated soon after ?
Also, shouldn’t it be the $39,400 for 8,000 unit output includes a higher variable cost instead of a lower variable cost, as the variable cost only falls after it crosses the 15,000 unit threshold ?
In summary, as the $39,400 consists of the higher variable cost, and the $68,000 consists of the lower variable cost, we need to increase the variable cost per unit contained in the $68,000 until it matches the level of the variable cost per unit contained in the $39,400 , so High low calculation may then become possible. After that we remove back our extra variable cost that we inserted, in order to arrive at the lower variable cost that the question had asked for.
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