Farnor, Inc. , would like to estimate the variable and fixed components of its electrical costs and has compiled the following data for the last four months of operations. Using the high-low method of analysis, the estimated fixed cost per month for electricity is closest to:
A)$53.46
B)$0.00
C)$3.40
D)$48.00

Question

Farnor, Inc. , would like to estimate the variable and fixed components of its electrical costs and has compiled the following data for the last four months of operations.  Using the high-low method of analysis, the estimated fixed cost per month for electricity is closest to:
A)$53.46 
B)$0.00 
C)$3.40 
D)$48.00

Quizplus · Accepted Answer

Using the high-low method, we need to first identify the highest and lowest levels of activity (in this case, the highest and lowest monthly kWh usage).

Highest level of activity: 1,600 kWh in October 
Lowest level of activity: 1,000 kWh in September

Next, we determine the change in cost between the highest and lowest levels:

$300 - $120 = $180

Then, we determine the change in activity between the highest and lowest levels:

1,600 kWh - 1,000 kWh = 600 kWh

Finally, we can use this information to estimate the fixed cost component:

Fixed cost = highest cost - (variable cost per unit x highest activity level)

Fixed cost = $300 - ($0.30/kWh x 1,600 kWh)

Fixed cost = $300 - $480

Fixed cost = -$180

Since the calculated fixed cost is negative, we can assume that there is no fixed cost component and that all of the electrical costs are variable. Therefore, the closest estimated fixed cost per month for electricity is $0.00.

Option D is the correct answer as it is the closest option to $0.