What’s it all about?
A technique for predicting costs where variable and fixed costs are likely to change.
It’s a variation on the separation of the semi-variable costs that we have done on the Basic Concepts page of this site:
With the separation of a semi-variable costs method I advocate using adjacent measurements e.g. the units and total costs for March compared to those for April.
The only requirement being of course that there is a difference in the total units and total costs or you wouldn’t be able to do the calculation.
The High Low method advocates using the highest figure and the lowest figure in a series of records. These might be many months or years apart.
Why I think it is nonsense to use this method.
We are doing the exercise because we don’t know what the Fixed Cost and Variable Cost elements are. It is quite possible then that the Fixed Costs are different between the two periods because there is a stepped fixed cost element and we wouldn’t know. It is also possible that the variable cost has fallen outside the range (we have bought them at a discount in the High version), again we simply wouldn’t know.
It is likely that the High and Low are apart in time too. It does seem much less likely that they would be adjacent months.
If there is a time difference then there is also likely to be time related changes to both the Fixed and Variable costs. Put simply, the rent might have gone up (Fixed costs do change remember) or the price of the materials gone up (theoretically down too).
Any of the four changes above and the High Low Method gives a nonsense answer.
Strictly speaking the four changes could have happened between this month and last month too, but the chances are you are going to be aware of that.
Rooks’ recommendation, don’t use the High Low method, separate the two most recent figures that you have.
Let’s look at an example from a colleagues exam question.
It’s a bit unfair to do this as the question is all made up numbers and was designed for use as a Least Squares formula question, but I can use it to illustrate the points.
Question 4
Bikes-R-Us have recorded the following data regarding sales of their commuter bicycles. This robust bicycle is popular for people that like to cycle to work/college. The Sales manager is concerned that the costs are growing out of control thus potentially impacting the volume of sales. While there has been growth in sales of the commuter bicycles over recent years this is not translating into profits. You have ascertained the following information re numbers of bicycles sold along with total costs incurred.
| Year | Number of bicycles | Total Costs in £ |
| 2008 | 56 | 61,420 |
| 2009 | 88 | 79,680 |
| 2010 | 96 | 91,300 |
| 2011 | 136 | 119,520 |
| 2012 | 161 | 139,440 |
| 2013 | 168 | 162,680 |
| 2014 | 184 | 169,320 |
So, what you can do is take the Highest and Lowest figure in units.
Do that using the standard Separation of a Semi-Variable costs as I have shown you.
In 2008, 56 units for a total cost of £61,420 and in 2014 184 units a ta total cost of £169,320. Using our technique gives us a variable cost of £842.96 say £843 per unit and Fixed Costs of £14,214. Go on, do it and get the same answer.
Using this method we are assuming nothing has changed between 2008 and 2014. Not very likely.
Do the normal method and compare 2008 to 2009.
Do the normal method and compare 2013 and 2014.
If you do that you will find the variable cost in 2008 was actually £576 and in 2014, £415 . You will also find the the Fixed Costs are different too.
Yes, this is only a made up example as it was a colleagues’ exam question, but you are very likely to find the same inconsistency with real numbers.
The answer is to use recent adjacent figures for separation of a semi-variable cost. Wikipedia agrees with me.
Calculation of the answers above.
Possible Written Questions.
(No indication of marks – the more marks a question gets, the more you are expected to write – detail that is, not just words!) If you can’t answer these, you need to do some more reading. I do ‘find’ questions elsewhere, so these aren’t all questions I have used myself.
What is meant by the term Relevant Range?
What are the limitations of the High Low method of cost estimation?
What are the limitations of using a Scatter Chart and the Line of Best Fit in cost estimation?