Cost Behavior

1
??? ???? ?????? ??????

• Cost Behavior

February 23rd, 2006
2
Presentation Objective

• To gain an understanding about cost concepts,
  Objectives, Terms, classifications and cost
  behavior.

3
Cost Definition Objectives

• Generally the cost term means a price or a
  payment paid to obtain an object or service that
  has future benefit (over one year period).
• In managerial accounting the term cost is used in
  many different ways as there are different types
  of costs used for different purposes.

4
Cost Definition Objectives contd

• Costs in managerial accounting are useful and
  required in
• Inventory valuation, Income determination,
  Planning, Budgeting, cost control and making of
  short-term and long-term management decisions.

5
Cost Classifications

• Costs can be classified into various categories,
  according to
• Their management function
• Manufacturing costs.
• Non manufacturing costs.
• Their ease of traceability
• Direct costs.
• Indirect costs.

6
Cost Classifications contd

• Their timing of charges against sales revenue.
• Product costs.
• Period costs.
• Their behavior in accordance with changes in
  activity
• Fixed costs.
• Variable costs.
• Semi variable or mixed costs.

7
Cost Classifications contd

• Their relevance to control and decision making
• Controllable and non controllable costs.
• Standard costs.
• Incremental costs.
• Sunk costs.
• Opportunity costs.
• Relevant costs.

8
Cost Behavior Analysis
and Use

• UAA ACCT 202
• Principles of Managerial Accounting
• Dr. Fred Barbee

9
?
?
Graphically
?
?
10
Why do I need to know this information?
Good question. Here are some examples of when
you would want to know this.
11
?
?
Graphically

?
?
Volume (Activity Base)
For decision making purposes, its important for
a manager to know the cost behavior pattern and
the relative proportion of each cost.
12
Knowledge of Cost Behavior
Setting Sales Prices
Make-or-Buy decisions
Entering new markets
Introducing new products
Buying/Replacing Equipment
13
Total Fixed Costs
14
Per-Unit Fixed Costs
15
Fixed Costs - Example
A company manufacturers microwave ovens. The
company pays 9,000 per month for rental of its
factory building. The total and per unit cost of
the rent at various levels of activity would be
16
Types of Fixed Costs
Discretionary May be altered in the short-term by
current managerial decisions
Committed Long-term, cannot be reduced in the
short term.
Examples Advertising and Research and Development
Examples Depreciation on Buildings and Equipment
17
Total Variable Costs
18
Per Unit Variable Costs
19
Variable Costs - Example
A company manufacturers microwave ovens. Each
oven requires a timing device that costs 30.
The per unit and total cost of the timing device
at various levels of activity would be
of Units
Cost/Unit
Total Cost
1
30
30
10
30
300
100
30
3,000
200
30
6,000
Linearity is assumed
20
Cost Behavior
Examples of normally variable costs
Service Organizations Supplies and travel
Merchandisers Cost of Goods Sold
Merchandisers and Manufacturers Sales commissions
and shipping costs
Manufacturers Direct Material, Direct Labor, and
Variable Manufacturing Overhead
Examples of normally fixed costs
Merchandisers, manufacturers, and service
organizations Real estate taxes, Insurance, Sales
salariesDepreciation, Advertising
21
Variable Costs
The equation for total VC
TVC VC x Activity Base
Thus, a 50 increase in volume results in a 50
increase in total VC.
22
Step-Variable Costs
Step Costs are constant within a range of
activity.

But different between ranges of activity
Volume (Activity Base)
23
Mixed Costs
Variable costs
Fixed costs
24
The Analysis of . . .
Mixed Costs
25
Slope
Intercept
y a bX
This is probably how you learned this equation in
algebra.
26
Total Costs
VC Per Unit (Slope)
y a bX
Fixed Cost (Intercept)
Level of Activity
27
Total Costs
VC Per Unit (Slope)
Dependent Variable
y a bX
Fixed Cost (Intercept)
Level of Activity
Independent Variable
28
COST IN OIL MANUFACURING COMPANIES
29
Production stage and cost centers
Exploration stage
Drilling stage
Production and transportation stage
Refining stage
30
1-Exploration Stage
This stage includes Ceological and Geophysical
Survey for different Segement
???? ??? ??????? ?????? ????? ?????????
???????????? ??????? ??????? ???????? ??????
??????? ??????? ???? ?? ??? ????? ??????? ????
????? ??? ??? ?????? ????? ????? ??????? ?????
??? ???? ?????? ?????? ?? ??????? ?? ??????? ??
??????? ????????
31
2- Drilling stage
??? ????? ??????? ?????? ?????? ??????? ????
????? ???? ????? ??? ????? ?????? ??????? ??????
?????? ????? . ????? ????? ??? ??????? ????????
??????? ??????? ?- ???????Moving ?- ?????
Drilling
32
3- Production and transportation stage
????? ????? ?????? ???? ???????? ???? ???? ???
????? ????? ?? ??? ???????? ?? ?????? ??? ????
????? ???? ????? ??????? ??? ????? ???????
???????? ??? ????? ????? ?) ????? ?????? ) oil
lifting(?) ????? ???????? pipe _ line
storage ?) ?????) shipping (?) ????? ??? ??????
water -injection station ??)???? ?????? wells
Services (? ??????? ????? General
production ?????? ??? ????? ????? ??????.
33
Refining stage
????? ?? ????? ????? ????? ???????? ?? ????
???????? ???????? ?? ??????? ????????? ?????
???? ????? ???????? ?????? ???????? ??????? ???
?????? ??????? ??????? . ???? ????? ?????? ??????
???????? ????????? ??? ????? ???????.
34
Exploration And shooting Rights Expenses
Methods of Treatment 1- As a Revenue
Expenditure a - Most of these expenses are
Recurring in nature and nessary for the
continuation of the industry . b-Most of these
expenses are difficult to be defined as capital
expenditure . C- Most of these expenditure are
related to unproductive unit.
35
D- No effect to this type of Expenses if treated
as capital or revere expenditure E-It is very
easy to treat them as revenue expenditure . G-.
Because of conservatism policy its necessary to
treat them as revenue one
2-As capital Expenditure Q- Exploration Expenses
are indirect cost hence it must be treated
capital as Expenditure (E) It is easy to use for
accounting purpose no much calculation is needed
(c) It is of no use to be treated as revenue
expenditure this will show loss from the
beginning of life time of the company which it
has no prove.
36
d- In order to show correct yearly statement for
the company portion of this expenses can be used
and each year expenses can be divided in
accordance to consistency policy for disclosing
the true profit capitalization to the most
acceptable method .
37
3- A spilt Between Revenue and capital
expenditure . ( Is the most acceptable method in
accounting principles )
38

• According to the Accounting principles cost of
  Acquiring
• And asset must be treated as a part of the asset
  cost.
• (b) This method is in accordance of matching
  concept .
• (c) This objective of accounting is to show the
  result of the organization activity regardless
  the volume of accounting work .
• (d) Disclosure and accuracy are the core of the
  accounting reports For the purpose of the fair
  and true accounting result .

39
Drilling Expenses Types of Drilling Expenses cost
for drilling incurred by the companies it can be
divided into two main types 1- Intangible
drilling expenses. 2-Tangible drilling Expenses.
Intangible drilling expenses (a)- Geological
Geophysical expenses for determination area of
drilling . (b) Area determination expenses 1-
cleaning up smoothing earth and or water . 2-
Road construction and erecting of drilling
equipments. 3-Transportion of equipment and
fixing it in the area. (C) Equipment expenses and
Drilling itself.
40
1- labor wages 2- Drilling material . 3-
Maintains and rehabilitation of drilling
equipment. 4- Engine fuel and power 5-
Deprecation equipment. 6-Sundry indirect cost.

41
(d)Completion expenses 1- Necessary experiment
2- Cementing of the well. 3- Chemical
expenses 4-Digining of the well. (e) Other
expenses for removing drilling equipment and
cleaning the place alter finishing the drilling
work. (2) Tangible Experiment Includes all
expenses incurred at the time of purchasing
the Tangible equipments which have scrap value
alter production work. is finished
42

• Subsurface well equipments
• 1-Includes cementing of the well pipes and
  others
• 2- Surface well equipment includes the well
  derrick.
• Production tubing flow lines gathering station
• (b) Lease equipment
• Includes Oil Gas separators heater tarter
  measurement equipment engines and storage tracks.
  plus binding (cost price)

43
Case Study
44
DETERMINE NET ADJUSTED PRODUCTION (NAP)
Field Production Volume
INPUTS
OUTPUTS
ACTIVITY
Production volume
Measure Field Production Volume at Meter
Net Adjusted Production
Measure Production at Production Measurement
Point from Central Processing Facility
Volume of Base Sediments Volume of Water
Net Adjusted Production Total barrels of crude
oil produced from wells less base sediments and
water
45
Production cost component
Fuel, power, .
Variable cost
Seismic lines, drilling expl.
Variable cost
Fixed cost
Salary,consut.flights.
Exploration
Semi variable cost
Fixed cost
Commission, Inspect..
Operation
Salary,consut.flights.
Rates, materials
Semi variable cost
Variable cost
Drilling
Salary,consut.flights.
Fixed cost
wages
Semi variable cost
Spare parts .
Commission , Inspect. log.
Variable cost
Maintenance
Fixed cost
Variable cost
Pumps purchase,
Lifting
Salary,consut.flights.
Fixed cost
Salary,consut.flights.
Semi variable cost
Semi variable cost
Commission , Inspect. log.
, Inspect.
CAIPTAL COST
OPERATION COST
46
Costs are classified in terms of their behaviour
into 3 categories
Selling Price /bbl 20
Barrel Selling Price Production cost
Net Profit /bbl 11
Semi variable Cost /bbl 2.5
Maintenance Repair
Variable Cost /bbl 4.5
Exploration Drilling materials, Development Cost
Fixed Cost /bbl 2.00
Exploration Drilling consultancies, Allocated
cost, Executive salaries
47
The contribution approach to the income statement
Contribution format

• Traditional format

Oil barrel Selling Price (FOB) 20.00 Less
Cost of barrel sold 6.00 Gross
Margin
14.00 Less Opex 2.00 G A
1.00 3.00 Net income
11.00
Oil barrel Selling Price (FOB)
20.00 Less Variable expense Cost of Production
4.50 Cost of GA 1.00
5.50 Contribution Margin
14.50 Less Fixed ex. Prod. 2.00
Administrative 1.50
3.50 Net Income
11.00
48
Quick Check ?

• Which of the following statements about cost
  behavior are true?
• Fixed costs per unit vary with the level of
  activity.
• Variable costs per unit are constant within the
  relevant range.
• Total fixed costs are constant within the
  relevant range.
• Total variable costs are constant within the
  relevant range.

49
Presentation Info. Sources

• Power point presentations downloaded from
  different internet web sites.
• Managerial Accounting Second Edition
• JAE K. SHIM - JOEL G. SIEGEL
• Lecture notes.

50
Thank You and best regards?? ???? ???????? ??????