Chapter 5, Problem 39E

Methods of Estimating Costs: High-Low

Davis Stores sells clothing in 15 stores located around the southwestern United States. The managers at Davis are considering expanding by opening new stores and are interested in estimating costs in potential new locations. They believe that costs are driven in large part by store volume measured by revenue. The following data were collected from last year’s operations (revenues and costs in thousands of dollars):

Required

1. a.      Use the high-low method to estimate the fixed and variable portions of store costs based on revenues.
2. b.      Managers estimate that one of the proposed stores will have revenues of $2.5 million. What are the estimated monthly overhead costs, assuming no inflation?
3. c.       Managers are also considering a “mega-store” with revenues of $10 million. What are the estimated monthly overhead costs, assuming no inflation?
4. d.      Are you more or less confident in the estimate obtained in requirement (c) relative to the estimate in requirement (b), or are you equally confident in both? Explain.