# Understanding the High-Low Method in Accounting: Separating Costs

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## What Is the High-Low Method?

In [cost accounting](https://www.investopedia.com/terms/c/cost-accounting.asp), the high-low method is a way of attempting to separate out fixed and variable costs given a limited amount of data. The high-low method involves taking the highest level of activity and the lowest level of activity and comparing the [total costs at each level](https://www.investopedia.com/ask/answers/041415/what-are-different-types-costs-cost-accounting.asp).

If the variable cost is a fixed charge per unit and fixed costs remain the same, it is possible to determine the fixed and variable costs by solving the system of equations. It is worth being cautious when using the high-low method, however, as it can yield more or less accurate results depending on the distribution of values between the highest and lowest dollar amounts or quantities.

### Key Takeaways

*   The high-low method separates fixed and variable costs using only limited data points: the highest and lowest activity levels.  
    
*   This method gives a rough estimate, often lacking accuracy due to reliance on extreme data points.  
    
*   While simple and useful for quick assessments, it may not reflect changes in cost behavior over time.  
    
*   The high-low method is best used when detailed cost data is unavailable, offering a basic analysis.  
    
*   Comparison with regression analysis highlights the high-low method's simplicity versus regression's comprehensive data use.

## How the High-Low Method Works

Calculating the outcome for the high-low method requires a few formula steps. First, you must calculate the variable-cost component and then the fixed-cost component, and then plug the results into the cost model formula.

First, determine the variable-cost component:

$\begin{aligned} &\text{Variable Cost} = \frac { \text{HAC} - \text{Lowest Activity Cost} }{ \text{HAUs} - \text{Lowest Activity Units} } \\ &\textbf{where:} \\ &\text{HAC} = \text{Highest activity cost} \\ &\text{HAUs} = \text{Highest activity units} \\ &\text{Variable cost is per unit} \\ \end{aligned}$

Next, use the following formula to determine the fixed-cost component:

$\begin{aligned} &\text{Fixed Cost} = \text{HAC} - ( \text{Variable Cost} \times \text{HAUs} ) \\ \end{aligned}$

Use the results of the first two formulas to calculate the high-low cost result using the following formula:

$\begin{aligned} &\text{High-Low Cost} = \text{Fixed Cost} + ( \text{Variable Cost} \times \text{UA} ) \\ &\textbf{where:} \\ &\text{UA} = \text{Unit activity} \\ \end{aligned}$

## Insights Gained from the High-Low Method

The costs associated with a product, product line, equipment, store, geographic sales region, or subsidiary consist of both [variable costs](https://www.investopedia.com/terms/v/variablecost.asp) and [fixed costs](https://www.investopedia.com/terms/f/fixedcost.asp). To determine both cost components of the total cost, an analyst or accountant can use a technique known as the high-low method.

The high-low method is used to calculate the variable and fixed costs of a product or entity with mixed costs. It takes two factors into consideration. It considers the total dollars of the mixed costs at the highest volume of activity and the total dollars of the [mixed costs](https://www.investopedia.com/terms/s/semivariablecost.asp) at the lowest volume of activity. The total amount of fixed costs is assumed to be the same at both points of activity. The change in the total costs is thus the variable cost rate times the change in the number of units of activity.

## Real-Life Example: High-Low Method in Action

For example, the table below depicts the activity for a cake bakery for each of the 12 months of a given year.

Below is an example of the high-low method of cost accounting:

The highest activity for the bakery occurred in October, when it baked the highest number of cakes, while August had the lowest activity level, with only 70 cakes baked at a cost of $3,750. The cost amounts adjacent to these activity levels will be used in the high-low method, even though these cost amounts are not necessarily the highest and lowest costs for the year.

We calculate the fixed and variable costs using the following steps:

### 1\. Calculate variable cost per unit using identified high and low activity levels

﻿ $\begin{aligned} &\text{Variable Cost} = \frac{ \text{TCHA} - \text{Total Cost of Low Activity} }{ \text{HAU} - \text{Lowest Activity Unit} } \\ &\text{Variable Cost} = \frac { \$5,550 - \$3,750 }{ 125 - 70 } \\ &\text{Variable Cost} = \frac { \$1,800 }{ 55 } = \$32.72 \text{ per Cake} \\ &\textbf{where:} \\ &\text{TCHA} = \text{Total cost of high activity} \\ &\text{HAU} = \text{Highest activity unit} \\ \end{aligned}$﻿

### 2\. Solve for fixed costs

To calculate the total fixed costs, plug either the high or low cost and the variable cost into the total cost formula:

﻿ $\begin{aligned} &\text{Total Cost} = ( \text{VC} \times \text{Units Produced} ) + \text{Total Fixed Cost} \\ &\$5,550 = ( \$32.72 \times 125 ) + \text{Total Fixed Cost} \\ &\$5,550 = \$4,090 + \text{Total Fixed Cost} \\ &\text{Total Fixed Cost} = \$5,550 - \$4,090 = \$1,460 \\ &\textbf{where:} \\ &\text{VC} = \text{Variable cost per unit} \\ \end{aligned}$﻿

### 3\. Construct total cost equation based on high-low calculations above

Using all of the information above, the total cost equation is as follows:

﻿ $\begin{aligned} &\text{Total Cost} = \text{Total Fixed Cost} + ( \text{VC} \times \text{Units Produced} ) \\ &\text{Total Cost} = \$1,460 + ( \$32.72 \times 125 ) = \$5,550 \\ \end{aligned}$﻿

This can be used to calculate the total cost of various units for the bakery.

## Comparing the High-Low Method with Regression Analysis

The high-low method is a simple analysis that takes less calculation work. It only requires the high and low points of the data and can be worked through with a simple calculator. It also gives analysts a way to estimate future unit costs.

However, this method doesn't account for inflation and gives a rough estimate because it only uses the highest and lowest values, ignoring any outliers.

[Regression analysis](https://www.investopedia.com/articles/financial-theory/09/regression-analysis-basics-business.asp) helps forecast costs as well, by comparing the influence of one predictive variable upon another value or criteria. It also considers outlying values that help refine the results. However, regression analysis is only as good as the set of data points used, and the results suffer when the data set is incomplete.

It’s also possible to draw incorrect conclusions by assuming that just because two sets of data [correlate](https://www.investopedia.com/terms/c/correlation.asp) with each other, one must cause changes in the other. Regression analysis is also best performed using a spreadsheet program or [statistics](https://www.investopedia.com/terms/s/statistics.asp) program.

## Challenges and Limitations of the High-Low Method

The high-low method is less reliable because it only considers two extreme activity levels. The high or low points may not truly reflect the usual costs at those levels, as they may be affected by outlier costs. This can lead to inaccurate results.

The high-low method is often not preferred because it can misrepresent the data if variable or fixed-cost rates change over time or a tiered pricing system is used. In most real-world cases, it should be possible to obtain more information so the variable and fixed costs can be determined directly. Thus, the high-low method should only be used when it is not possible to obtain actual [billing](https://www.investopedia.com/terms/d/descriptive-billing.asp) data.

## How Is the High-Low Method Used?

The high-low method is used to calculate the variable and fixed costs of a product or entity with mixed costs. It considers the total dollars of the mixed costs at the highest volume of activity and the total dollars of the mixed costs at the lowest volume of activity.

## Why Is the High-Low Method a Simple Analysis?

Because it takes less calculation work. The high-low method only requires the high and low points of the data and can be worked through with a calculator.

## Why Is the High-Low Method Considered Unreliable?

Because it only considers two extreme activity levels. The high or low points used for the calculation may not represent the costs normally incurred at those volume levels due to outlier costs that are higher or lower than would normally be incurred. The high-low method will then produce inaccurate results.

## The Bottom Line

The high-low method helps separate fixed and variable costs using limited data, making it an efficient but straightforward approach to cost accounting. This method is easy to apply but may lead to inaccuracies since it relies on only two extreme activity levels, which might not reflect typical conditions. Although useful for quick estimates, the high-low method is less reliable than other techniques like regression analysis, which can provide more nuanced insights by considering a larger dataset. Practitioners should be cautious about using the high-low method in isolation, as extreme data points can produce skewed results; additional data or methods should be considered if available. The high-low method should be employed as a preliminary tool, with results verified through more comprehensive approaches when feasible.

> **Article Sources**
>
> 1.  Harvard Business School Online. “[What Is Regression Analysis in Business Analytics?](https://online.hbs.edu/blog/post/what-is-regression-analysis)”