Question

High-Low Method Quality Tools. Quality Tools Incorporated would like to estimate costs associated with its sales personnel. Salespeople are paid a salary plus commission. Commission rates vary among products and are based on sales dollars. The company reported the following monthly cost data related to sales personnel:

Reporting Period (Month)	Total Costs	Sales Amount
January	$710,000	$13,800,000
February	695,000	13,600,000
March	765,000	15,100,000
April	650,000	12,000,000
May	775,000	15,500,000
June	750,000	14,700,000
July	715,000	14,500,000
August	680,000	13,100,000
September	830,000	16,500,000
October	815,000	16,000,000
November	800,000	15,600,000
December	690,000	13,200,000

Required:

1. Use the four steps of the high-low method to estimate total fixed costs per month and the variable cost per sales dollar. State your results in the cost equation form Y = f + vX by filling in the dollar amounts for f and v.
2. What would Quality Tools’ estimated costs be if it had sales of $12,500,000 next month?
3. What would Quality Tools’ estimated costs be if it had sales of $20,000,000 next month? Why should you feel uncomfortable estimating costs for $20,000,000 in sales?

Answer 1

a)

	sales	Total cost
Highest activity	16500000	830000
Lowest activity	12000000	650000
change	4500000	180000

Variable cost per $sales = change in cost /change in $ sales

                      = 180000/ 4500000

                        =$ .04 per $ sales

Fixed cost at highest activity=Total cost- variable cost

                   = 830000-(1650000*.04)

                     = 830000- 660000

                     = 170000

Y = 170000+ .04X

B)Estimated cost = 170000+ (.04* 12,500,000)

                         170000+ 500000

                           $ 670000

c)Estimated cost = 170000+ (.04*20,000,000)

                     = 170000+ 800000

                       = 970000

This is so because $ 20,000,000 is a huge amount and not incurred before in any of the reporting period (month)