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Computing a Cost Function Using the High-Low Method

Abdulkrim Company manufactures a product A. The company estimates the cost function for the total costs. The cost driver is number of units. The following information were collected:
Month Units Total Costs
January 3,560 $242,400
February 3,800 $252,000
March 4,000 $260,000
April 3,600 $244,000
May 3,200 $228,000
June 3,040 $221,600

Compute a cost function using the high-low method.
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The high-low method is a cost analysis technique that estimates fixed and variable costs in a linear relationship based on the highest and lowest activity levels and their corresponding costs. By calculating the difference in costs and activity, variable cost per unit is determined, aiding in cost prediction and decision-making.
Highest activity level = 4,000 (March)
Lowest activity level = 3,040 (June)

Step 1: determine variable cost
Variable cost per unit = (highest cost – lowest cost) / (highest activity – lowest activity)
= (260,000 – 221,600) / (4,000 – 3,040)
= 38,400 / 960
=$40 per unit

Step 2: determine fixed cost
Fixed cost = highest cost – (highest activity * variable cost per unit)
= 260,000 – (4,000 * 40)
= 260,000 – 160,000
= 100,000
Therefore, the cost function will be as follows

Cost = 100,000 + 40x
Where x is the number of units produced.

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August 08, 2023

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