Cost Volume Profit

Your future,your effort

CVP SalesLess VC = Cont.MarginLess FC =Net Profit

SalesLess COGS= Gross ProfitLess OperatingExpense= Net Profit

Income Statement

Contribution margin is an amount to cover the fixed cost.

Break-even Point

EXAMPLE : Sales 10,000-VC 7,000CM 3,000-FC 3,000Net income 0

Total expense= Total revenues

Profit is zero

3 methods for calculating Break-even Point

1. Equation method BREAK-EVEN POINT IN UNITS

2. Contribution Margin Method

3. Contribution Margin ratio method IN SALES DOLLARS

Equation Approach

Profit = SP(X) – VC(X) – FC

In Break-even, the profit is zero

SP : Selling Price per unitX : Sales unitsVC: Variable costs per unitFC : Fixed costs

Contribution Margin Approach

Break-even point in units = FixedExpense Unit Contribution

Margin

Unit Contribution Margin= SP – VC

Contribution Margin Ratio Method

CM Ratio = Contribution Margin

Sales

BEP in sales dollars : Fixed Expense

CM Ratio

Example

SUNmks sells its safety wear clothing for $80. The variable costs are $60 and fixed costs are $1,000. How many safety clothes that SUNmks Ltd needs to sell to break even? Calculate also the break-even point in sales dollars!BEP in units = $1,000 = 50 units

$80- $60BEP in sales dollars = $1,000 = $1,000 =

$4,000 ($80-$60)/$80 25%

The Graph

Sales

$6,400 Profit areaBreak-even point

$4,000 Variable cost

$2,800 Loss area$1,000 Fixed Cost

35 50 80 Units sold

Total Costs

Total revenue

The lower the break-even point, the easier it is to achieve sales

goals. Break-even point = from 50units to 40 unitsIt can be done by :- Increase the sales price $85 40 = 1,000 SP= $85/unit SP-$60

-Reducing Fixed Cost 40= FC FC=$800 $80-$60-Reducing the Variable cost to

$55/unit 40 = 1,000 VC=$55/unit 80-VC

Target Net IncomeHow much do u want to earn ?

For ex: SUNmks Ltd wants to earn $800 profit, ~how many safety clothes that they need to sell ?

Sales Units = Fixed Cost +Target Profit Contribution margin

= 1,000+800 = 90 units 20

~ What dollar sales are needed to achieve its target profit?

Sales Dollars = Fixed cost+Target ProfitCM Ratio

= $1,000+$800 = $7,20025%

SENSITIVITY AND UNCERTAINTY ANALYSIS Assumed that SUNmks Ltd considered to reduce

selling price of its surf clothes from $80 to $72 to encourage sales. It is expected that sales can increase from 90 units to $120 units. Variable cost per unit is $60 and fixed cost is $1,000

Should SUNmks Ltd decrease its selling price to $75?

Current sales(90 units) Proposed Sales

(120u)

Sales $80x90 units= $7,200 $72x120units= $8,640

Less VC $60x90 units= $5,400 $60x120units= $7,200

Cont.Margin $1,800 $1,440

Less FC $1,000 $1,000

Operating profit $800 $440

Margin Of Safety The Margin of Safety refers to the difference between actual sales and break-even sales. The word “margin” refers to the amount in dollars or units above break-even point.In previous example, break-even sales is 50units or $4,000 while the actual sales is 90 units or $7,200. So, Safety margin in dollars=Sales Actual- Break-even Sales

= $7,200-$4,000 = $3,200

Safety Margin in units = Unit Sales Actual- Unit Sales BE = 90-50 = 40 units

Operating Leverage Measures how a percentage change in

sales will affect profit

OPERATING LEVERAGE= Contribution Margin

Profit

SALES MIX( MULTIPLE PRODUCTS)Description

Selling

Price

Unit Variab

le cost

Unit Contribution Margi

n

Number of

clothes

SAFETY Clothing

$65 $48

$17

100

SAFETY SHOES

$80 $60

$20

150

Total Sold 250

% of Total

40%

60%

100%

BEP = Fixed Expense Weighted average unit Contribution Margin = $1,000 = 54 COMBINED SALES

UNITS 18.8

Description

Cont.Margin

%of total Weighted Contributi

on

SAFETY Clothing

$17 40% 6.8

SAFETY SHOES

$20 60% 12

100% 18.8

Break-even Point is 54 combined unit salesDescripti

onBreak-even sales

%of total Individual sales

SAFETY clothing

54 40% 22

SAFETY SHOES

54 60% 32

Total Units

100% 54

TaxAFTER TAX PROFIT=

BEFORE TAX PROFIT X (1-TAX RATE)

Adding Tax to profit can increase number of sales units required to achieve target profit.

Advantages of using CVP-Decision making-Price determination-Profit planning-Preparation of budgets-Cost controlDifficulties in applying CVP- A company selling multi products, need

so much detail ex: restaurants- Besides volume, other elements like

inflation, efficiency, capacity and technology can affect costs.

ConclusionSUNmks Ltd can do the CVP analysis by finding its break-even point, targeted income, and considering either to increase/decrease its selling price, sales volume, costs to be more profitable.However, CVP analysis requires so much detailed to find the variable costs especially for a company with multi products, and it is also affected by inflation, efficiency.

Adiwirya, Muhammad Sulaiman Kusumah. “Cost-Volume-Profit Analysis: What’s Good and Bad About It”. Accessed May 15, http://onaccountingmanagement.blogspot.sg/2013/03/cost-volume-profit-analysis-whats-good.html

Explain what are the limitations of Cost Volume Profit (CVP) Analysis For Short Term Decision Making. 2006. College Accounting Coach. http://basiccollegeaccounting.com/2006/08/explain-whatt-are-the-limitations-of-cost-volume-profit-cvp-analysis-for-short-term-decision-making/ Hilton, Ronald W and Platt, David E. 2014. Managerial

Accounting: Creating Business Value in a Dynamic Business Environment. New York: McGraw-Hill Education. Holtzman, Mark P. “Managerial Accounting: How to Determine Margin of

Safety”. Accessed May 15, http://www.dummies.com/how-to/content/managerial

accounting-how-to-determine-margin-of-s.html Lewis, Jared. “Advantages & Disadvantages of Cost-Volume-Profit Analysis.”

Accessed May 15, http://smallbusiness.chron.com/advantages-disadvantages-costvolumeprofit-analysis-35135.html 

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