Exam 8: Cost Analysis and Estimation

Incremental cost:

Incremental cost is the change in:

The amount paid is:

Economies of Scale. Tucson Timing, Inc., has just completed a study of weekly production costs during the past year for its premium quality, automotive strobe timing light, the Flash Gun II. By regressing total variable costs on output the firm estimated the following equation. Here total variable cost (TVC) is expressed in thousands of dollars and Q is in thousands of strobe timing lights (units) produced per week. Numbers in parentheses are the standard errors of the coefficients. A. Estimate total variable cost and average variable cost per week for the coming year at a projected volume of 10,000 units per week. B. During this period, the company experienced an unexpected interruption in supplier deliveries, and unexpected increases in the cost of labor and materials. If actual average variable costs were $100 per unit at an average actual volume of 15,000 units per week, calculate the separate influences on average variable cost of lost economies of scale and the unexpected input cost increases.

Learning Curve. Fashionable Designs, Ltd., plans to market a new sports blazer. Based on information provided by the accounting department, the company estimates fixed costs of $40,000 per year and average variable costs at: where AVC is average variable cost (in dollars) and Q is output measured in cases of output per year.

In the decision process, management should always consider:

Opportunity Costs. Two graduate business students are considering opening a full-service car wash in Greenville, North Carolina, after graduation. This is an alternative to employment with a local manufacturing firm where they would each earn $70,000 per year. A fully equipped facility can be leased at a cost of $35,000 for the year. Additional projected costs are $15,000 for overhead, and $5 per automobile for materials and supplies. Full detail automobile cleaning would be priced at $25. A. What is the accounting cost function for this business? B. What is the economic cost function for this business? C. What is the economic breakeven number of units for this operation? (Assume a $25 price and ignore interest costs associated with the timing of the lease payments.)

Cost Estimation. Hampshire Textiles, Inc., has just completed a cost study of its moire taffeta production facility. By regressing total variable costs per week on cloth output, one of their financial analysts estimated the following equation: Here Q is moire taffeta cloth production in square yards and the numbers in parentheses are the standard errors of the coefficients. The R² for the equation was 80%, and the standard error of the estimate was 150 for the weekly observations over a two-year period.

In the decision process, management should ignore:

Cost Estimation. Natural Gas, Inc., has just completed a cost study of its natural gas production operation. By regressing total variable costs (in $000) per week on gas output, the following equation was estimated: Here Q is natural gas production in thousand cubic feet (units) and the numbers in parentheses are the standard errors of the coefficients. The R² for the equation is 85%, and the standard error of the estimate is 50 for the weekly observations over a two-year period.

A. If $e_{c}>1$ , increasing returns to scale and decreasing average costs are inchcated. B. Average cost exceeds marginal cost at the minimum efficient scale of plant. C. When total fixed cost and price are held constant, a rechiction in average variable cost will typically cause a reduction in the breakeven activity level. D. Anincrease in total fixed cost will alwaysincrease the degree of operatingleverage for firms maling a positive net profit. E. When longrun average cost is decreasing it can pay to operate smaller plants at their peak efficiency rather than larger plants with some excess capacity.

The output level at which short-run average costs are minimized is:

Profit Contribution Analysis. Ben Laden Rugs, Inc., sells hand-made cotton rugs to tourists at a price of $50. Of this amount, $40 is profit contribution. Ben Laden is considering an attempt to differentiate his product from several other competitors by using high quality natural herb dyes. Doing so would increase Ben Laden's unit cost by $15 per rug. Current annual profits are $35,000 on 1,000 rug sales. A. Assuming average variable costs are constant at all output levels, what is Ben Laden's total cost function before the proposed change? B. What will the total cost function be if high quality natural herb dyes are used? C. Assume rug prices remain stable at $50. What percentage increase in sales would be necessary to maintain current profit levels?

Economies of Scale. Windy Manes, Inc., has just completed a study of weekly production costs during the past year for its compact hand-held hair dryer. By regressing total variable costs on output the firm estimated the following equation. Here total variable cost (TVC) is expressed in thousands of dollars and Q is in thousands of hand-held hair dryers (units) produced per week. Numbers in parentheses are the standard errors of the coefficients. A. Estimate total variable cost and average variable cost per week for the coming year at a projected volume of 50,000 units per week. B. During this period, the company experienced an unexpected interruption in supplier deliveries, and unexpected increases in the cost of labor and materials. If actual average variable costs were $4.30 per unit at an average actual volume of 75,000 units per week, calculate the separate influences on average variable cost of lost economies of scale and the unexpected input cost increases.

Breakeven Analysis. Betty's Boutique, Inc. is a beauty salon specializing in full-service beauty treatments: facials, manicures, waxes and tanning booths. The business manager for Betty's has been asked by the owner to prepare a financial analysis of the potential of an extended hours operation. Such a move would require remodeling the facility and the hiring of additional staff. Estimated first year expenses for an extended hours operation are: Beautician and staff salary expenses are estimated on an hourly basis, reflecting additional salary and overtime costs. Supplies and remodeling expenses are above and beyond those required for normal facility operations. Equipment costs represent a prorated share of the centers fixed equipment-leasing costs. Electricity costs of $4,000 reflect additional anticipated usage, whereas heat and taxes of $5,000 reflect an allocated share of fixed beauty shop expenses.

In the short run, the:

If the slope of a long-run total cost function decreases as output increases, the firm's underlying production function exhibits:

If a total product curve exhibits increasing returns to a variable input, the cost elasticity is:

Incremental Costs. Infinite Audio, Inc., manufactures car speakers which it sells to other resellers, who then customize and distribute the products to retailers which sell hi-fi auto equipment. The yearly volume of output is 300,000 pairs. The selling price and cost per unit are shown below: Management is evaluating the alternative of performing the necessary customizing to allow Infinite Audio to sell its output directly to car stereo retailers for $200 per unit under an in-house marquee. Although no added investment is required in productive facilities, additional processing costs are estimated as:

The amount that must be paid for an item under prevailing market conditions is: