Assumptions of CVP Analysis. Objective 1: Contribution Margin Income Statement. Assumptions of CVP Analysis. Contribution Margin Example

Cost-Volume-Profit Analysis

Assumptions of CVP Analysis

{Expenses can be classified as either variable or fixed.

{CVP relationships are linear over a

id f d ti d l

wide range of production and sales. {Sales prices, unit variable cost, and

total fixed expenses will not vary within the relevant range.

Assumptions of CVP Analysis

{Volume is the only cost driver. {The relevant range of volume is

specified.

{Inventory levels will be unchanged. {The sales mix remains unchanged

during the period.

Objective 1:

Contribution Margin Income Statement

Sales - Variable Costs Contribution Margin

- Fixed Costs Operating Profit

Contribution Margin Example

allows users to take a closer look at icebergs from a ship.

{ The usual price for the device is $100.

$

{ Variable costs are $70 per unit.

{ They receive a proposal from a company

in Newfoundland to sell 20,000 units at a price of $85.

{ There is sufficient capacity to produce the

order.

Contribution Margin Example

How do we analyze this situation?

{$85 – $70 = $15 contribution margin. {$15 × 20,000 units = $300,000 (total

Contribution Margin Income

Statement

The unique sales level at which a

company earns neither a profit nor

i

l

Computing Break-Even Point

incurs a loss.

Sales – Variable Costs – Fixed Costs = 0 Or

Contribution required to break-even=

Fixed costs

Breakeven Point Example

Let’s look back at Luis and Tom’s manufacturing, assuming that the fixed cost are $90,000

.

Contribution margin Income statement: Contribution margin Income statement: Sales (20,000 x $85) $1,700,000 Variable costs (20,000 x $70) (1,400,000) Contribution margin $300,000 Less Fixed costs $90,000 Profit $210,000

Objective 2

{Use CVP analysis for profit planning and graph the cost-volume-profit relations

v

enue _s

T t l fi d t

°Plot total fixed costs on the vertical axis.

Preparing a CVP Chart

rs Total fixed costs

Total costs

Draw the total cost line with a slope equal to the unit variable cost.

v

enue _s

T t l fi d t

Preparing a CVP Chart

Sales

Starting at the origin, draw the sales line with a slope equal to the unit sales price.

Volume in Units Cost s and Re v in Do lla

rs Total fixed costs

Total costs

Break-even Point

Various Sales Levels Example

{What operating profit is expected when sales are 22000units?

Target Operating Profit Example

{Suppose that our business would be content with operating profit of ___$30 000_.

H it t b ld?

{How many units must be sold?

Objective 4

{Use CVP method to perform sensitivity analysis.

Change in Sales Price Example

{Suppose that the sales price per device is _$60_ rather than __$85_ {What is the revised breakeven sales

i it ? in units?

Change in Variable Costs Example

{Suppose that variable expenses per device are _$75___ instead of _$70 {Other factors remain unchanged.

Change in Fixed Costs Example

{Suppose that fixed costs increased by $30,000.

{What are the new fixed costs? {What is the new breakeven point?

Margin of Safety Example

{Excess of expected sales over breakeven sales.

E22-7

Atlanta Braves

Break even in units = 1 200 000

$-$1,000 $2,000 $3,000 - 50 100 150 200 250 (in thousands) (i n t h ou Revenues Total Expense

Fixed expense Break even point

Break even in units = 1,200,000 Break even in $ = 1,200,000 x 24 = $28,800,000

Effect of sales mix on CVP

analysis.

Computing Multiproduct

Break-Even Point

{Unit contribution margin is replaced with contribution margin for a composite unit.

{A composite unit is composed of {A composite unit is composed of

specific numbers of each product in proportion to the product sales mix. {Sales mix is the ratio of the

volumes of the various products.

The resulting break-even formula for composite unit sales is:

Fi d t

Computing Multiproduct

Break-Even Point

per composite unit =

Computing Multiproduct

Break-Even Point

A company sells windows and doors. They sell 4 windows for every door.

Windows Doors

Selling Price $200 $500

Variable Cost 125 350

Unit Contribution $ 75 $ 150

Step 1: Compute contribution margin per composite unit.

Computing Multiproduct

Break-Even Point

Sales Mix Ratio

Composite C/M

Step 2: Compute break-even point in composite units.

Computing Multiproduct

Break-Even Point

per composite unit =

Break-even point Fixed costs C t ib ti i =

Step 2: Compute break-even point in composite units.

Computing Multiproduct

Break-Even Point

in composite units Contribution margin per composite unit = Break-even point in composite units $900,000 $450 per composite unit = Break-even point

in composite units = 2,000 composite units

Step 3: Determine the number of windows and doors that must be sold to break even.

Computing Multiproduct

Break-Even Point

Sales Composite

Product Mix Units Units Window 4 × 2,000 = 8,000 Door 1 × 2,000 = 2,000

Windows Doors Combined Step 4: Verify the results.

Multiproduct Break-Even

Income Statement