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Choice of Cost Driver

Study Appendix 3. Richard Ellis, the director of cost operations of American Micro Devices, wishes
to develop an accurate cost function to explain and predict support costs in the company's printed circuit
board assembly operation. Mr. Ellis is concerned that the cost function that he currently uses?
based on direct labor costs?is not accurate enough for proper planning and control of support costs.
Mr. Ellis directed one of his financial analysts to obtain a random sample of 25 weeks of support costs
and three possible cost drivers in the circuit-board assembly department: direct labor hours, number of
boards assembled, and average cycle time of boards assembled. (Average cycle time is the average
time between start and certified completion?after quality testing?of boards assembled during a
week.) Much of the effort in this assembly operation is devoted to testing for quality and reworking
defective boards, all of which increase the average cycle time in any period. Therefore, Mr. Ellis
believes that average cycle time will be the best support cost driver. Mr. Ellis wants his analyst to use
regression analysis to demonstrate which cost driver best explains
support costs.

ssembly Support Direct Labor Number of Boards Cycle Time
Costs, Hours, Completed, (Hours),
Week Y X1 X2 X3
1 $66,402 7,619 2,983 186.44
2 56,943 7,678 2,830 139.14
3 60,337 7,816 2,413 151.13
4 50,096 7,659 2,221 138.30
5 64,241 7,646 2,701 158.63
6 60,846 7,765 2,656 148.71
7 43,119 7,685 2,495 105.85
8 63,412 7,962 2,128 174.02
9 59,283 7,793 2,127 155.30
10 60,070 7,732 2,127 162.20
11 53,345 7,771 2,338 142.97
12 65,027 7,842 2,685 176.08
13 58,220 7,940 2,602 150.19
14 65,406 7,750 2,029 194.06
15 35,268 7,954 2,136 100.51
16 46,394 7,768 2,046 137.47
17 71,877 7,764 2,786 197.44
18 61,903 7,635 2,822 164.69
19 50,009 7,849 2,178 141.95
20 49,327 7,869 2,244 123.37
21 44,703 7,576 2,195 128.25
22 45,582 7,557 2,370 106.16
23 43,818 7,569 2,016 131.41
24 62,122 7,672 2,515 154.88
25 52,403 7,653 2,942 140.07

1. Plot support costs, Y, versus each of the possible cost drivers, X1, X2, and X3.
2. Use regression analysis to measure cost functions using each of the cost driver
4. Interpret the economic meaning of the best cost function

Solution Summary

This solution conducts a regression analysis on costs operations of American Micro Devices by plotting all the support costs and cost drivers in a graph, determining the regression equation and interpreting the meaning of the best cost function.

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