What is the High-Low Method?

In expense accounting, the high-low method is an approach used to split mixed expenses right into addressed and also variable costsFixed and Variable CostsCost is something that can be classified in several methods depending on its nature. One of the many well-known methods is classification according. Although the high-low strategy is simple to apply, it is rarely provided bereason it have the right to distort prices, due to its reliance on two extreme values from a offered data set.

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High-Low Method Formula

The formula for emerging a price model using the high-low method is as follows:

*

Once the variable expense per unit is determined:

Fixed expense = Highest activity price – (Variable cost per unit x Highest activity units)

or

Fixed price = Lowest activity expense – (Variable cost per unit x Lowest task units)

The resulting price version after making use of the high-low approach would be as follows:

Cost design = Fixed expense + Variable cost x Unit activity

Example of the High-Low Method

The manager of a hotel would certainly like to construct a cost version to predict the future costs of running the hotel. Unfortunately, the only accessible information is the level of task (variety of guests) in a given month and the complete costsInventoriable CostsInventoriable expenses, likewise well-known as product costs, refer to the straight prices associated with the production of assets for revenue incurred in each month. Being a new hire at the firm, the manager asindicators you the task of anticipating the expenses that would certainly be incurred in the adhering to month (September).

He anticipates that the variety of guests in September will certainly be 3,000. Given the datacollection below, build a expense version and predict the costs that will certainly be incurred in September.

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Using the high-low method:

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Note: It is necessary to pick the high-low values from the units (i.e., number of guests) and also not the complete costs. The variety of systems drives the complete prices. For example, notice that the highest possible full price is $454,255, which coincides to an activity level of 4,323. However before, the correct high-low values are from the independent variable (the variable that predicts the costs). In such a situation, the high and also low will certainly be 4,545 variety of guests in May (full costs: $371,225) and 1,500 number of guests in January (total costs: $143,000).

Given the variable cost per number of guests, we have the right to now identify our addressed prices.

Using the high task cost:

Fixed cost = $371,225 – ($74.97 x 4,545) = $30,486.35

Using the low activity cost:

Fixed cost = $105,450 – ($74.97 x 1,000) = $30,480

Using either the high or low task cost need to yield about the exact same solved cost value. Note that our solved expense differs by $6.35 depending on whether we use the high or low activity cost. It is a nominal distinction, and choosing either solved price for our expense version will suffice.

Cost design for hotel = $30,480 + $74.97 x No. of guests

Thus, the anticipated costs for September would certainly be:

September prices = $30,480 + $74.97 x 3,000 = $255,390

Advanteras of the High-Low Method

The high-low method is a basic way to segregate addressed and also variable costs. By only requiring two data values and some algebra, cost accountants have the right to quickly and also quickly recognize indevelopment around price behavior. Also, the high-low approach does not usage or call for any type of facility devices or programs.

Disadvantages of the Method

Due to the simplicity of utilizing the high-low approach to obtain understanding into the cost-activity relationshipActivity-Based CostingActivity-based costing is an extra specific method of allocating overhead expenses based on “activities” that actually add to overhead prices. An task is, it does not take into consideration tiny details such as variation in prices. The high-low approach assumes that fixed and also unit variable costs are continuous, which is not the situation in genuine life. Since it offers just two information worths in its calculation, variations in costs are not captured in the estimate.

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Anvarious other drawback of the high-low strategy is the ready availability of better cost estimation devices. For instance, the least-squares regression is a technique that takes right into consideration all information points and also creates an optimized cost estimate. It have the right to be conveniently and also quickly offered to yield considerably much better estimates than the high-low strategy.

Related Readings

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