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High-low: how to calculate fixed and variable costs

One of the reasons for calculating costs is to forecast what might happen in the future and set a budget accordingly. Watch this video to learn more.

In the real world, even fixed costs can change during a year if a supplier puts up their prices. Likewise, the cost per unit of variable costs might also change. How do we account for this?

One of the main reasons for calculating costs is so we can use them to forecast what might happen in the future and set a budget accordingly. But calculating the costs you have already paid is pointless unless you can use them to accurately estimate costs that are upcoming.

The answer is the ‘high-low method’.

In this video, the Kaplan tutor expands on what you learned in Identifying fixed and variable costs, and explains how this method can be used when an organisation has many items of data available rather than just two. Basically put, the method involves looking at the data associated with the highest level and the lowest level of activity during a given period.

The video includes the following table:

Month Output (units) Cost ($)
January 1,800 35,000
February 2,450 41,150
March 2,300 41,750
April 2,000 38,000
May 1,750 36,250
June 1,950 37,650

The highest and lowest levels of output are the following:

Month Output (units) Cost ($)
February 2,450 41,150
May 1,750 36,250

On the graph, a straight line is drawn between these two points.

This article is from the free online

Budget Forecasting, Costing, and Variances

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