This is the case for the managers at the Beach Inn, a small hotel on the coast of South Carolina. They know what their costs were for June, but now they want to predict their costs for July. Using this equation, the Beach Inn can now predict its total costs (\(Y\)) for the month of July, when they anticipate an occupancy of \(93\) nights.
Therefore, the company incurred total expense of $1,640 for the car during the given month, wherein $1,000 is the fixed component and $640 is the variable component. To earn a profit during an accounting period, a business must ensure that it makes enough sales to earn revenue in excess of the costs of production and sales. To determine the amount of sales the business must make to earn a profit, it may create a cost equation and a profit equation. Some of the expenses are fixed because they do not change in total as the number of annual miles change. Some of the expenses are variable since the total amount will increase when more miles are driven and will decrease when fewer miles are driven.
What is Mixed Cost?
The company would like you to write a mixed cost formula for planning purposes. It might seem daunting at first but it’s really a lot easier than you might think. The y-axis measures the costs and the x-axis measures product or sales volume.
Now, John’s compensation is a cost to the company and that too mixed in nature as it consists of fixed monthly take way and sales linked incentives. His fixed monthly take away is $5,000 and he earns another $1.5 per unit as a sales incentive. an equation of a line for total mixed costs is Determine the salary paid to John during the month of December 2019 if he could sell 2,000 units in that month. The company has to pay a fixed lease rental of $1,000 every month and it further incurs a running cost of $0.8 per km travelled.
Demonstration of the High-Low Method to Calculate Future Costs at Varying Activity Levels
When interpreting a scatter graph, it is important to remember that different people would likely draw different lines, which would lead to different estimations of fixed and variable costs. No one person’s line and cost estimates would necessarily be right or wrong compared to another; they would just be different. When put into practice, the managers at Regent Airlines can now predict their total costs at any level of activity, as shown in Figure 2.34. In this method, just two data points are required to determine the mix of fixed and variable costs. Since a portion of the mixed cost is fixed in nature, it will be present even in the absence of any activity at all. Further, it also in partially variable in nature and so it is likely to increase as the activity level increases.
We said in the earlier posts that variable rate is the slope of the line. That means that for every additional oil change performed, the total cost increases by the variable rate. In January (the low point), the company performed 2,200 oil changes with a total cost of $9,860. Those additional oil changes cost the company an additional $1,725. That also means that the variable cost of 750 oil changes is $1,725. The formula above shows that the mixed cost has both components, which need to be added together to arrive at the total figure of the mixed costs.
Mixed Cost and The High-Low Method
Using a scatter graph to determine if this linear relationship exists is an essential first step in cost behavior analysis. If the scatter graph reveals a linear cost behavior, then managers can proceed with a more sophisticated analyses to separate mixed costs into their fixed and variable components. However, if this linear relationship is not present, then other methods of analysis are not appropriate. Let’s examine the cost data from Regent Airline using the high-low method. A scatter graph shows plots of points that represent actual costs incurred for various levels of activity. Once the scatter graph is constructed, we draw a line (often referred to as a trend line) that appears to best fit the pattern of dots.
Determine the expense incurred during a month in which the car travelled 800kms. Next we will divide the change in cost by the change in activity to calculate the variable rate. If you read the post on variable cost or the post on mixed cost, you might remember that we talked about slope. I know that slope is terribly boring and something that you might be trying to forget from your math classes, but is actually important here and makes this concept much easier to understand.