Cost Accounting - Chapter 3 - Cost-Volume-Profit Analysis

Front 1

Cost-volume-profit analysis

Back 1

studies the behavior and relationship among these elements as changes occur in the units sold, the selling price, the variable cost per unit, or the fixed costs of a product.

Front 2

Steps in solving a problem

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1) Identify the problem and the uncertainties

2) Obtain information

3) Make predictions about the future

4) Make decisions by choosing among alternatives.

5) Implement the decision, evaluate performance, and learn.

Front 3

CVP analysis

Back 3

begin with identifying which costs are fixed and which are variable and then calculate the Contribution Margin.

Front 4

Contribution margin

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is the difference between the total revenues and total variable costs (Total revenue-Total varible cost=Contribution margin). Contribution margin indicates why operating income changes as the number of units sold changes.

Front 5

Contribution marging per unit

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is a useful tool for calculating contribution margin and operating income (Selling Price-Variable cost per unit = Contribution Margin per unit).

Front 6

Calculation contribution margin using the contribution margin per unit

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Contribution margin = Contribution margin per unit*Units sold

Front 7

Contribution income statement

Back 7

groups costs into variable costs and fixed costs to highlight contribution margin.

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Contribution margin percentage (or contribution margin ratio)

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(contribution margin per unit)/(Selling Price).

It is the contribution margin per dollar of revenue. If the percentage is 40%, than the company earns 40% of each dollar of revenue (40 cents of each dollar).

Front 9

Contribution margin calculation (using the Contribution margin percentage)

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Contribution margin = Contribution margin percentage*Revenues

Front 10

Expressing the CVP Relationship

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1) The equation method

2) The contribution method

3) The graph method

Front 11

Equation method

Back 11

Each column is expressed as an equation: 1) Revenues - Variable costs - Fixed cost = Operating income. 2) How are revenues in each column calculated? Revenues = Selling price (SP) * Quantity of units sold (Q) 3) How are variable costs in each column calculated? Variable Costs = Variable cost per unit (VCU) * Quantity of units sold (Q). So, ((SP*Q sold)-(VCpU * Q))-FxC = Operating income

Front 12

Contribution margin method

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(Contribution Margin per unit * Q) - Fixed costs = operating income

Front 13

Graph Method

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In this method we represent the total cost and revenue graphically. Each is shown as a line on a graph. We need two points on the graph to plot the line representing each of them. 1) Total costs line - is the sum of fixed costs and variable costs. 2) Total revenues line.

Front 14

Cost Volume Profit assumptions

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1) Change in the revenues and costs arise only because of the changes in the number of products (or service) units sold.

2) Total costs can be separated into two components: a fixed component that doesn't vary and a variable component that changes with respect to units sold.

3) When represented graphically, the behaviors of total revenues and total costs are linear in relation to units sold within a relevant range.

4) Selling price, variable cost per unit, and total fixed costs are known and constant

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The Breakeven Point

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is that quantity of output sold at which total revenues equal total costs - that is, the quantity of output sold that results in $0 of operating income. (SP-Q) - (VCU*Q) - FC = 0

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Breakeven number of units =

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(Fixed cost)/(Contribution margin per unit)

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Breakeven revenues =

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(Breakeven number of units)*(Selling Price)

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or, Breakeven Revenues =

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(Fixed costs) / (Contribution Margin %)

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Breakeven point tells the managers

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how much they must sell to avoid a loss.

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Target Operating income

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((SP * Q) - (VC * Q)) - FC = Target income

Start from inputting the target income number

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or, Target Operating Income

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(Contribution Margin * Q) - Fixed Costs = Target Operating Income

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Quantities of units required to be sold to get the Target Operating income =

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(Fixed Cost + Target Operating Income) / (Contribution Margin per Unit)

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Target Net Income =

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(Target Operating Income) - (Target Op Income * Tax Rate) or, (Target op income)*(1-tax rate)

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CVP Analysis can be used

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to evaluate how operating income will be affected if the original predicted data are not archived - say, if sales are 10% lower than estimated.

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At what price can I sell 50 units (purchased at $115 p/unit) and continue to earn an operating income of $1,200?

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1) Target operating income + Fixed costs = Target Contribution Margin

2) Target Contribution Margin / Number of Units Sold = Target contribution margin per unit

3) Target Contribution Margin per unit + Variable cost per unit = Total selling price

=$179

Front 26

Senstitivity Analysis

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Broadens managers' perspectives to posible outcomes that might occur before costs are committed. What will operating income be if the quantity of units sold decreases by
5% from the original prediction?” and “What will operating income be if variable cost
per unit increases by 10%?

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Margin of safety =

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Budgeted (or actual) revenues - Breakeven revenues

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Margin of Safety in units =

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Budgeted (or actual) sales quantity - Breakeven quantity

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Margin of Safety percentage =

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(Margin of Safety in dollars) / (Budgeted (or actual) revenues)

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Operating Leverage

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describes the effects that fixed costs have on changes in operating income as changes occur in units sold and contribution margin. Organizations with a high proportion of fixed costs in their cost structures have a high operating leverage.

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Degree of Operating leverage =

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(Contribution Margin) / (Operating Income)

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Sales Mix

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is the quantities (or proportion) of various products (or services) that constitute total unit sales of a company.

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Breakeven point in bundles =

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(Fixed Costs) / (Contribution margin per bundle)

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Contribution margin percentage for the bundle =

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(Contribution margin of the bundle) / (Revenue of the bundle)

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Breakeven Revenues =

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(Fixed Costs) / (Contribution Margin Percentage for the bundle)

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Number of bundles required to be sold to break even =

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(Breakeven Revenues) / (Revenue per bundle)

Front 37

Contribution Margin vs Gross Margin

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1) Contribution Margin = Revenues - All Variable Costs

2) Gross Margin = Revenues - Cost of Goods Sold (only)

Front 38

Contribution Income Statement Emphasizing
Contribution Margin

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1) Revenues

2) - Variable manufacturing costs

3) - Variable nonmanufacturing costs

4) = Contribution margin

5) - Fixed manufacturing costs

6) - Fixed nonmanufacturing costs

7) = Operating income

Front 39

Financial Accounting Income Statement Emphasizing Gross Margin

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1) Revenues

2) - Cost of Goods Sold ( Variable manufacturing costs + fixed manufacturing costs)

3) = Gross Margin

4) - Nonmanufacturing costs

5) = Operating income

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Gross Margin can be expressed

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as total, as amount per unit, or as a percentage (Just like the contribution margin)