Problem 3-50     (Appendix 3A) Scattergraph, High-Low Method, Method of Least Squares, Use of Judgment

The management of Wheeler Company has decided to develop cost formulas for its major over- head activities. Wheeler uses a highly automated manufacturing process, and power costs are a significant manufacturing cost. Cost analysts have decided that power costs are mixed. The costs must be broken into their fixed and variable elements so that the cost behavior of the power usage activity can be properly described. Machine hours have been selected as the activity driver for power costs. The following data for the past eight quarters have been collected:

 

 

Quarter	Machine Hours	Power Cost
1	20,000	$26,000
2	25,000	38,000
3	30,000	42,500
4	22,000	37,000
5	21,000	34,000
6	18,000	29,000
7	24,000	36,000
8	28,000	40,000

Note: For the following requirements, round the fixed cost to the nearest dollar, round the vari- able rates to the nearest cent, and the R-squared to two decimal  places.

Required:

1.       Prepare a scattergraph by plotting power costs against machine hours. Does the scatter- graph show a linear relationship between machine hours and power cost?

2.       Using the high and low points (i.e., the high-low method), compute a power cost formula. (Note: Round answers to three decimal places.)

3.       Use the method of least squares to compute a power cost formula. Evaluate the coefficient of determination.

4.       CONCEPTUAL CONNECTION Rerun the regression, and drop the point (20,000, $26,000) as an outlier. Compare the results from this regression to those for the regression in Require- ment 3. Which is better?