Anderson is the cost accountant for Pass Corp, manufacturer of computerized circuit boards. He is trying to develop an accurate cost function to explain and predict support costs in the company's printed circuit board assembly operation.
Anderson is concerned that the cost function that they are currently using, based on direct-labor costs, is not accurate enough for proper planning and control of support costs. Accordingly, they did a random sample of 25 weeks of support costs and three possible cost drivers in the assembly department: direct labor hours, number of boards assembled and average cycle time.
In the assembly operation, a lot of time and effort is spent testing for quality and reworking defective boards, all of which increase the average cycle time in any particular period. Therefore, Anderson believes that the average cycle time will be the best cost driver to use for the support costs.
His regression analysis is summarized as follows:
Coefficients
Driver.....Intercept X Variable R2
Direct labor Hours 9000 6.00 0.10
Number of Boards Completed 20,000 14.00 0.40
Avergage cycle times 5,000 350.00 0.80
Required:
1. Which of the support cost drivers would you expect to be the most reliable for explaining and predicting support costs? WHY?
2. Assume that Pass prices its products on a "cost plus" basis, by adding a percentage markup to its product costs. Product costs include assembly, labor, components AND support costs. Assume the following for a THREE WEEK period:
Assembly labor hours - 20,000
Number of boards completed - 6,000
Average cycle time - 180 hours
Compute the support cost using EACH of the cost functions above:
a) Direct labor hours
b) Number of boards completed
c) Average cycle time
3. Which cost driver would you recommend that Pass use? WHY?
4. Assume that the market for this product is extremely cost competitive. What do you think of Pass's pricing method?