Some estimation techniques to identify mixed costs only seek to arrive at approximations of the fixed and variable element in the costs. Under the high-low method, the enterprise identifies the highest and lowest levels of activity for a particular period of time. The enterprise might then examine the particular cost heading, containing the mixed costs, and look at the total costs under that cost heading at the times of highest and lowest activity. The variable cost relating to the change in activity will be taken to be the difference in total costs between those highest and lowest levels of activity.
Therefore, by looking at the cost difference between the two levels of activity and dividing this by the difference in levels of activity at the two prices, it is possible to arrive at a figure for the variable cost per unit of activity. The fixed cost element would then simply be found by deducting the variable cost element from the total cost at that level of output.
If, for example, at the level of highest activity (an output of 10,000 units) a particular cost amounted to $100,000, and at the level of lowest activity (output of 8,000 units) the cost was $90,000, then the variable cost would be estimated by dividing $10,000 ($100,000 - $90,000) by the difference in units produced, which is 2,000 units (10,000 - 8,000).
The variable cost per unit would therefore be estimated at $5. Since at an output of 10,000 units the variable cost element is $50,000 ($5 x 10,000 units), the fixed cost is found by deducting the variable costs from total costs, in other words the fixed cost is also $50,000 ($100,000 - $50,000).
This can be confirmed by looking at the lowest level of output in the period, where the variable costs are $40,000 (8,000 units x $5) and the fixed cost is again calculated to be $50,000 ($90,000 - $40,000).
Using the high-low method is not necessarily accurate, because it depends on only two values for mixed costs and activity levels within a particular period of time. The use of this method involves the danger that the highest and lowest values within a particular period may be anomalous figures that give a misleading result. The high-low method is only accurate where the progression of costs in relation to output is linear. Where management needs a more accurate estimate of the variable and fixed cost elements, they must use other estimation techniques to determine fixed costs.