Question

There are different methods of separating the fixed cost portion from the variable cost portion...as discussed in your textbook. We will discuss only one of those methods, the High-Low Method.

Let's say that the monthly electricity costs at your company are listed below:

	Machine-Hours	Electricity Cost
March	413	$73,710
April	506	$77,400
May	435	$74,470
June	486	$76,600
July	499	$77,040
August	461	$75,630
September	467	$75,710
October	458	$75,220
November	425	$74,030

1. Why is the above a mixed cost? How do you decide? Explain clearly.
2. If it is a mixed cost, using the high-low method, estimate the variable component of the electricity cost per machine-hour, and the total fixed cost per month.
3. Write the cost function based on your answer to question 2 in the form Y = a + bX where X stands for machine hours.
4. Finally, estimate the electricity cost when the number of machine hours will be 520.

Answer 1

Electricity cost can be said to be mixed cost as it consist of fixed cost per month as well as variable cost per month which varies on the basis of machine hours . Fixed cost can be in any form such as fixed meter charges, monthly rent, etc.

Seperating fixed portion and variable portion using high low method

Variable cost per machine hour =

(Total cost at highest machine hour - Total cost at lowest machine hour)/( Highest machine hour - Lowest machine hour)

=77400- 73710/506-413

=3690/93 i.e 39.677

Fixed cost = Total cost at 506 hours - Variable cost at 506 hours

=77400 - (506*39.677)

=77400-20076 i.e 57323

Total cost when machine hours = 520

= Fixed cost + Machine hours * Variable cost per hour

= 57323 + (520*39.677) i.e 77955.27