3.1 The high–low method

The high–low method is a technique for splitting mixed costs into their fixed and variable elements. It is simple and quick but will often not be very accurate. Suppose a business had recorded the following costs for electricity relative to units of production from the factory.

First, identify the periods with the highest and lowest production – here, the months of February and April.

You can see that these costs are not purely variable otherwise they would double as the output doubles.

You can now assume that the increase in costs must arise from the variable part of the costs. So, the extra 10,000 units cause the additional costs of £6,000. This implies variable costs of £0.60 per unit.

If the variable costs are £0.60 per unit, 10,000 units would cause £6,000 total variable costs. At this output, the total costs are £9,000, so the fixed costs must amount to £3,000.

You can check the fixed costs by looking at the output levels chosen. At 20,000 units, variable costs would be £12,000. As total costs are £15,000, fixed costs must be £3,000, as before.