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Modelling Cost Behaviour

MEW has been contracted by one of its customers to produce twonew components in the next year. The management accountant has beenasked to prepare costings for the two new components and isconcerned that the current method of calculating the overhead costper unit is not accurate enough. She has collected monthlyinformation for the current year on the fixed and variableoverheads incurred and on potential alternative allocation basesthat can be used to calculate the total overhead cost per unit.

Month	Volume	Machine Hours	Direct Labour (Machinists and Assembly only) Hours	Variable Overhead Costs	Fixed Overhead Costs
1	1,200	810	3,500	$ 7,700	$ 18,000
2	1,200	830	3,700	$ 8,700	$ 17,500
3	1,400	920	4,000	$ 9,500	$ 18,300
4	1,300	935	3,800	$ 9,000	$ 18,000
5	1,350	910	4,100	$ 9,800	$ 18,500
6	1,300	860	3,900	$ 9,000	$ 18,100
7	1,400	920	4,050	$ 9,600	$ 19,000
8	1,500	950	4,400	$ 9,700	$ 19,000
9	1,250	820	3,500	$ 8,300	$ 17,900
10	1,400	880	4,033	$ 9,100	$ 19,000
11	1,300	887	3,800	$ 8,600	$ 18,200
12	1,400	945	4,150	$ 9,800	$ 18,500
Total	16,000	10,667	46,933	$ 108,800	$ 220,000

Required:

1. (a) Use the data provided to identify which of the threepotential cost drivers (or combination of cost drivers) should beused to estimate the total overhead cost per unit. Prepare aregression analysis using the cost driver(s) you have selected (youmay want to look at scatterplots and prepare alternative regressionequations to make your decision).

2. (b) Prepare a memo for the CFO that explains (i) why it isnecessary to use a more accurate method of allocating overheads fordetermining the total cost of the new components and (ii) explainshow you decided which cost drivers to include in your regression.You should add supporting evidence and/or calculations to show howyou came to your conclusion. Also, write out your annual totaloverhead cost equation using your regression results. Note the CFOrequests a memo of no more than one page (within specified marginsand font size) excluding any regression results or supportingcalculations.