21542374 cost behavior and cost volume profit analysis

8/4/2019 21542374 Cost Behavior and Cost Volume Profit Analysis

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Chapter 20

Cost Behavior and Cost-Volume-Profit AnalysisAccounting, 21st Edition

Warren Reeve Fess

PowerPoint Presentation by Douglas CloudProfessor Emeritus of Accounting

Pepperdine University

Copyright 2004 South-Western, a divisionof Thomson Learning. All rights reserved.

Task Force Image Galleryclip art included in thiselectronic presentation is used with the permission ofNVTech Inc.


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Some of the action has been automated,

so click the mouse when you see this

lightning bolt in the lower right-handcorner of the screen. You can point and

click anywhere on the screen.


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1. Classify costs by their behavior asvariable costs, fixed costs, or mixedcosts.

2. Compute the contribution margin, thecontribution margin ratio, and the unitcontribution margin, and explain howthey may be useful to management.

3. Using the unit contribution margin,determine the break-even point and thevolume necessary to achieve a target

profit.

Objectives

After studying this

chapter, you should

be able to:


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4. Using a cost-volume profit chart and a profit-volume chart, determine the break-even pointand the volume necessary to achieve atarget profit.

Objectives

5. Calculate the break-even point for a businessselling more than one product.

6. Compute the margin of safety and theoperating leverage, and explain howmanagers use this concept.

7. List the assumptions underlying cost-volume-profit analysis.


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Cost Behavior


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Jason Inc. produces stereo sound systemsunder the brand name of J-Sound. The partsfor the stereo are purchased from an outside

supplier for $10 per unit (a variable cost).

Variable Cost


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Total Variable Cost Graph

TotalCost

s

$300,000

$250,000

$200,000

$150,000

$100,000

$50,000

10 20 300Units Produced

(in thousands)

Variable Cost


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Unit Variable Cost Graph

$20

$15$10

$5

0

CostperU

nit

10 20 30Units Produced

(000)

Variable Cost


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TotalCosts

$300,000

$250,000$200,000

$150,000

$100,000

$50,000

10 20 300

$20

$15$10

$5

0CostperU

nit

10 20 30

Number of

Units

Produced

Units Produced (000)


Direct

Materials

Cost per Unit

Total Direct

Materials

Cost

5,000 units $10 $ 50,000

10,000 10 l00,000

15,000 10 150,000

20,000 10 200,000

25,000 10 250,000

30,000 10 300,000

Variable Cost


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The productionsupervisor for Minton

Inc.s Los Angeles plantis Jane Sovissi. She ispaid $75,000 per year.

The plant produces from50,000 to 300,000

bottles of perfume.

La Fleur

Fixed Costs


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Number of

Bottles

Produced

Total Salary

for Jane

Sovissi

50,000 bottles $75,000 $1.500

100,000 75,000 0.750

15,000 75,000 0.500

20,000 75,000 0.375

25,000 75,000 0.30030,000 75,000 0.250

Salary per

Bottle

Produced

Fixed Costs


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Fixed Costs

Total Fixed Cost Graph

TotalCosts $150,000

$125,000

$100,000

$75,000

$50,000

$25,000

100 200 3000

Unit Fixed Cost Graph

Bottles Produced (000)

Number of

Bottles

Produced

CostperUnit $1.50

$1.25

$1.00

$.75

$.50

$.25

100 200 3000


Total Salary

for Jane

Sovissi

50,000 bottles $75,000 $1.500

100,000 75,000 0.750

15,000 75,000 0.500

20,000 75,000 0.375

25,000 75,000 0.30030,000 75,000 0.250

Salary per

Bottle

Produced


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Simpson Inc. manufacturessails using rented equipment.

The rental charges are$15,000 per year, plus $1 for

each machine hour used over10,000 hours.


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Mixed Costs

Total Mixed Cost Graph

TotalCosts

0

Total Machine Hours (000)

$45,000

$40,000

$35,000$30,000

$25,000

$20,000

$15,000

$10,000

$5,000

10 20 30 40

Mixed costs are

usually separated into

their fixed and

variable componentsfor management

analysis.

Mixed costs are

sometimes called

semivariable or

semifixed costs.


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The high-low method is a simple wayto separate mixed costs into theirfixed and variable components.

Mixed Costs


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Actual costs incurred

ProductionTotal(Units) Cost

June 1,000 $45,550

July 1,500 52,000

August 2,100 61,500September 1,800 57,500

October 750 41,250

High-Low Method

Variable cost per unit =

Highest level of activity ($) minus

lowest level of activity ($)

Highest level of activity (n) minus

lowest level of activity (n)

What month has

the highest level

of activity interms of cost?


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June 1,000 $45,550

July 1,500 52,000


October 750 41,250


$61,500 minus lowest level of

activity ($)

What month has

the highest level

of activity interms of cost?



High-Low Method


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June 1,000 $45,550

July 1,500 52,000


October 750 41,250


$61,500 minus lowest level ofactivity ($)

For the highest

level of cost,

what is the levelof production?



2,100 minus lowest level of

activity (n)

High-Low Method


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2,100 minus lowest level of

activity (n)



June 1,000 $45,550

July 1,500 52,000


October 750 41,250


$61,500 minus lowest level ofactivity ($)

What month has

the lowest level of

activity in termsof cost?

$57,500$41,250

2,100750

High-Low Method


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2,100750



June 1,000 $45,550

July 1,500 52,000


October 750 41,250

What is the

variable cost per

unit?

$57,500$41,250

High-Low Method

$20,250

1,350Variable cost per unit = $15


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Variable cost per unit = $15

What is the total

fixed cost (using the

highest level)?

Total cost = (Variable cost per unit x Units of production)+ Fixed cost

June 1,000 $45,550

July 1,500 52,000


October 750 41,250

$61,500 = ($15 x 2,100) + Fixed cost

$61,500 = ($15 x 2,100) + $30,000

High-Low Method


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Variable cost per unit = $15

The fixed cost is

the same at the

lowest level.

Total cost = (Variable cost per unit x Units of production)+ Fixed cost

June 1,000 $45,550

July 1,500 52,000


October 750 41,250

$41,250 = ($15 x 750) + Fixed cost

$41,250 = ($15 x 750) + $30,000

High-Low Method


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Variable Costs

Total Fixed Costs

Total Units Produced

TotalCosts


PerUnitC

ost

Total Variable Costs


Unit Variable Costs


TotalCosts

PerUnitC

ost

Fixed Costs

ReviewUnit Fixed CostsUnit costs remain the

same regardless of

activity.

Total costs increase

and decreases withactivity level.Total costs increase and

decreases proportionately

with activity level.

Unit costs remain the

same per unit regardless

of activity.


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Contribution Margin Income Statement

Sales (50,000 units) $1,000,000Variable costs 600,000

Contribution margin $ 400,000

Fixed costs 300,000

Income from operations $ 100,000

The contribution

margin isavailable to cover

the fixed costs

and income fromoperations.

FIXED

COSTS

Contribution

margin

Income from

Operations


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Contribution Margin Income Statement

Sales Variablecosts

Fixedcosts

Incomefrom

operations= + +

SalesVariablecosts

Contributionmargin

=



Fixed costs 300,000



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Contribution Margin Ratio

100%60%

40%

30%

10%

Contribution margin ratio =SalesVariable costs

Sales

Contribution margin ratio = $1,000,000$600,000$1,000,000

Contribution margin ratio = 40%



Fixed costs 300,000



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100%60%

40%

30%

10%

The contribution margin can be expressed three ways:

1. Total contribution margin in dollars.

2. Contribution margin ratio (percentage).3. Unit contribution margin (dollars per unit).

$2012

$ 8



Fixed costs 300,000


Contribution Margin Ratio


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What is the

break-evenpoint?

Revenues Costs=

Break-even


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Calculating the Break-Even Point

At the break-even point, fixed

costs and the contribution

margin are equal.

Sales (? units) $ ?

Variable costs ?


Fixed costs 90,000

Income from operations $ 0

$25

15

$10


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Sales ($25 x ? units) $ ?

Variable costs ($15 x ? units) ?


Fixed costs 90,000


$25

15

$10

Break-even sales (units) = Unit contribution margin

Fixed costs$90,000

$109,000 units

Sales ($25 x 9,000) $225,000

Variable costs ($15 x 9,000) 135,000


Fixed costs 90,000


PROOF!

Calculating the Break-Even PointIn Units


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Contribution margin $ ?

Fixed costs 840,000


$250

145

$105


Fixed costs$840,000

$1058,000 units


The unit selling price is $250 and unit variable

cost is $145. Fixed costs are $840,000.


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Fixed costs 840,000


$250

145

$105


Fixed costs$840,000

$1008,400 units

$250

150

$100

Next, assume

variable costs is

increased by $5.


The unit selling price is $250 and unit variable

cost is $145. Fixed costs are $840,000.


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Sales $ ?

Variable costs ?


Fixed costs $600,000



Fixed costs$600,000

$3020,000 units

$50

30

$20

$60

30

$30


Management increasesthe selling price from

$50 to $60.


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Summary of Effects of Changes on

Break-Even Point


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Target Profit

Fixed costs are estimated at $200,000, and the

desired profit is $100,000. The unit selling

price is $75 and the unit variable cost is $45.

The firm wishes to make a $100,000 profit.

Sales (? units) $ ?

Variable costs ?


Fixed costs 200,000Income from operations $ 0

$75

45

$35

In

Units


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Sales (? units) $ ?

Variable costs ?


Fixed costs 200,000Income from operations $ 0

Sales (units) = Unit contribution margin

Fixed costs + desired profit$200,000 + $100,000

$3010,000 units

Target Profit InUnits

$75

45

$35

Target profit isused here to refer

to Income from

operations.


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$75

45

$30

Sales (10,000 units x $75) $750,000

Variable costs (10,000 x $45) 450,000

Contribution margin $300,000

Fixed costs 200,000Income from operations $100,000

Proof that sales of 10,000 units

will provide a profit of $100,000.

Target Profit


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Graphic Approach to

Cost-Volume-Profit

Analysis


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Cost-Volume-Profit Chart

S

alesandCosts($0

00)

0

Units of Sales (000)

$500

$450

$400$350

$300

$250

$200

$150$100

$ 50

Unit selling price $ 50

Unit variable cost 30

Unit contribution margin $ 20

Total fixed costs $100,000

60%

Total Sales

VariableCosts

1 2 3 4 5 6 7 8 9 10


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S

alesandCosts($000)

0


$500

$450

$400$350

$300

$250

$200

$150$100

$ 50





60%

40%

ContributionMargin

100%

60%

40%

1 2 3 4 5 6 7 8 9 10


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S

alesandCosts($000)

0


$500

$450

$400$350

$300

$250

$200

$150$100

$ 50





Fixed Costs

100%

60%

40%

Total

Costs

1 2 3 4 5 6 7 8 9 10


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S

alesandCosts($000)

0

$500

$450

$400$350

$300

$250

$200

$150$100

$ 50

1 2 3 4 5 6 7 8 9 10

Break-Even Point






100%

60%

40%

$100,000

$20= 5,000 units


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S

alesandCosts($000)

0


$500

$450

$400$350

$300

$250

$200

$150$100

$ 50





100%

60%

40%

Operating Profit Area

Operating Loss Area


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$100

$75

$50$25

$ 0

$(25)

$(50)

$(75)$(100)

Sales (10,000 units x $50) $500,000

Variable costs (10,000 units x $30) 300,000

Contribution margin (10,000 units x $20) $200,000

Fixed costs 100,000

Operating profit $100,000

Units of Sales (000s)

1 2 3 4 5 6 7 8 9 10

Relevant

range is10,000 units

OperatingProfit

(Loss)$000s


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1 2 3 4 5 6 7 8 9 10

Maximum loss is

equal to the total

fixed costs.

Profit Line

Operating

loss

Operatingprofit

$100

$75

$50$25

$ 0

$(25)

$(50)

$(75)$(100)

Sales (10,000 units x $50) $500,000



Fixed costs 100,000


Maximum

profit within

the relevantrange.

OperatingProfit

(Loss)$000s


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OperatingProfit

(Loss)$000s


1 2 3 4 5 6 7 8 9 10

Operating

loss

Operatingprofit

Break-Even Point

Sales (10,000 units x $50) $500,000



Fixed costs 100,000


$100

$75

$50$25

$ 0

$(25)

$(50)

$(75)$(100)


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Sales Mix

Considerations


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Cascade Company sold 8,000 units of Product A

and 2,000 units of Product B during the past year.Cascade Companys fixed costs are $200,000.

Other relevant data are as follows:

Sales $ 90 $140

Variable costs 70 95

Contribution margin $ 20 $ 45Sales mix 80% 20%

Products

A B


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Sales $ 90 $140

Variable costs 70 95

Contribution margin $ 20 $ 45Sales mix 80% 20%

Sales Mix Considerations

Products

A B

Product contribution

margin $16 $ 9

$25

Fixed costs, $200,000


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Products

A BProduct contribution

margin $16 $ 9

$25

Break-even sales units

$200,000

$25



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Products


margin $16 $ 9

$25

Break-even sales units

$200,000

$25


= 8,000 units


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Products


margin $16 $ 9

$25

A: 8,000 units x Sales Mix (80%) = 6,400

B: 8,000 units x Sales Mix (20%) = 1,600


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PROOF

Product A Product B Total

Sales:

6,400 units x $90 $576,000 $576,000

1,600 units x $140 $224,000 224,000

Total sales $576,000 $224,000 $800,000

Variable costs:

6,400 x $70 $448,000 $448,0001,600 x $95 $152,000 152,000

Total variable costs $448,000 $152,000 $600,000

Contribution margin $128,000 $ 72,000 $200,000

Fixed costs 200,000

Income from operations $ 0Break-even point


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Margin

of Safety


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Margin of Safety =SalesSales at break-even point

Sales

The margin of safety indicates the

possible decrease in sales that may occur

before an operating loss results.

Margin of Safety =$250,000$200,000

$250,000

Margin of Safety = 20%


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Operating Leverage


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Both companies have the same contribution margin.

Operating Leverage

Jones Inc. Wilson Inc.

Contribution margin

Income from operations

Sales $400,000 $400,000

Variable costs 300,000 300,000

Contribution margin $100,000 $100,000Fixed costs 80,000 50,000

Income from operations $ 20,000 $ 50,000

Contribution margin ? ?


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Contribution margin



$100,000

$20,000= 5.0Jones Inc.:

Operating Leverage

5.0

Sales $400,000 $400,000




Contribution margin ?


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Contribution margin



= 5.0$100,000

$20,000Jones Inc.

Operating Leverage

Sales $400,000 $400,000




Contribution margin 5.0 ?


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Contribution margin



= 2.0$100,000

$50,000Wilson Inc.:

Capitalintensive?

Laborintensive?

2.0

Operating Leverage

Sales $400,000 $400,000




Contribution margin 5.0


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Assumptions of Cost-Volume-Profit Analysis

1. Total sales and total costs can berepresented by straight lines.

2. Within the relevant rangeof operatingactivity, the efficiency of operations doesnot change.

3. Costs can be accurately divided intofixed

and variablecomponents.4. The sales mix is constant.5. There is no change in the inventory

quantities during the period.

The reliability of cost-volume-profit analysis

depends upon several assumptions.


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The End

Chapter 20

21542374 cost behavior and cost volume profit analysis

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