Question

Antioch Extraction, which mines ore in Montana, uses a calendar year for both financial-reporting and tax purposes. The following selected costs were incurred in December, the low point of activity, when 1,250 tons of ore were extracted:

Straight-line depreciation	$	27,500
Charitable contributions*		7,500
Mining labor/fringe benefits		200,000
Royalties		151,250
Trucking and hauling		201,195

*Incurred only in December.

Peak activity of 2,550 tons occurred in June, resulting in mining labor/fringe benefit costs of $408,000, royalties of $274,750, and trucking and hauling outlays of $256,195. The trucking and hauling outlays exhibit the following behavior:

Less than 1,250 tons	$	173,695
From 1,250–1,749 tons		201,195
From 1,750–2,249 tons		228,695
From 2,250–2,749 tons		256,195

Antioch uses the high-low method to analyze costs.

Required:

1. Classify the five costs listed in terms of their behavior: variable, step-variable, committed fixed, discretionary fixed, step-fixed, or semivariable.

2. Calculate the total cost for next February when 1,550 tons are expected to be extracted.

3-a. Is hauling 1,250 tons with respect to Antioch’s trucking/hauling cost behavior cost-effective?

3-b. Given the current scenario at what number of tons can cost-effectiveness be achieved?

4. Distinguish between committed and discretionary fixed costs. If Antioch were to experience severe economic difficulties, which of the two types of fixed costs should management try to cut?

5. Speculate as to why the company’s charitable contribution cost arises only in December.

Answer 1

1)

straight line depriciation	committed fixed
charitable contribution	discretionary fixed
mining labor/fringe benefits	variable
royalties	semi-variable
trucking and hauling	stepfixed

2) cost for feburary(1,550 tons)

Depriciation(since company is using straight line will remain same in month of feburary)	$27,500
charitable contribution(are incurred only in december.hence wont incurr in feburary)	$0
mining labor/fringe benefits(these are variable.so first calculate rate=$200,000/1250 tons=$160 per ton or $408,000/2550 tons=$160 for 1550 tons cost will be 1550*160)	$248,000
Royalties*	$179,750
trucking and hauling(step fixed, given in the schedule of question)	$201,195
total cost of feburary	$656,445

*royalties are semi variable , so we will use high low method

peak season tons=2550 tons peak season cost=$274,750

low season tons=1250 tons ow season cost=$151,250

variable ost=(274750-151250)/(2550-1250)=$123500/1300tons=$95 per ton

so your fixed cost=274750-(2550*95)=$32,500

for 1550 tons your cost= fixed cost+ variable cost=$32,500+147,250(95*1550)=$179,750

3a)Hauling 1,250 tons is not very cost effective.

3b)Antioch will incur cost of $201,195 if it needs 1,250 tons hauled or, for that matter, 1,749 tons. The company would be better off if it had 1,249 tons hauled, saving outlays of $27,500($201,195-$173,695). In general, with this type of cost function, effectiveness is maximized if a firm operates on the right-most portion of a step, just prior to a jump in cost.

4.A committed fixed cost results from an entity’s ownership or use of facilities and its basic organizational structure.Examples of such costs include property taxes, depreciation, rent, and management salaries.  

Discretionary fixed costs, on the other hand, arise from a decision to spend a particular amount of money for a specific purpose.Outlays for research and development, advertising, and charitable contributions fall in this category.

In times of severe economic difficulties, management should try to cut discretionary fixed costs. Such costs are more easily altered in the short run and do not have significant long-term complexity for a firm. The decision to close a production facility, for example, could decrease property taxes, rent, and/or depreciation. However, that decision may result in a significant long-run change in operations that may be difficult to overturn when economic conditions improve.

5.Antioch uses a calendar year for tax and financial reporting purposes. At year-end, it may have funds available and decide to make donations to charitable causes. Such contributions are deductible in computing the company’s tax obligation to the government. Tax deductions reduce taxable income and, therefore, produce a tax savings for the firm.Generally , such a practice/tax planning is done at year end where company knows how much income it has and how it can reduce its tax liability