GROSS PROFIT VARIATION ANALYSIS

By: MHARZAN ANDRES &

MARIA LOURDES COMTIAG-AGMATA

GROSS PROFIT MARGIN/ GROSS PROFIT RATIO

SALES – COST OF GOODS SOLD GROSS PROFIT

It provides the balance for operating expenses, income tax and return of the capital employed.

What causes change in the Gross Profit?

1. Changes in sales prices of the products. 2. Changes in volume sold.

a. Changes in number of physical units sold.

b. Changes in the types of products sold, often called the product mix or sales mix.

3. Changes in cost elements, i.e., materials, labor, and overhead costs.

GROSS PROFIT MARGIN/ GROSS PROFIT RATIO

• It indicates the efficiency of the operation and the price policy of the management.

• An indication of the extent of average mark-up on cost of goods

• A test of efficiency of purchase and sales management.

Uses of Gross Profit Analysis

The gross profit analysis based on budgets and standards costs depicts the weak spots in the year's performance. The gross profit analysis brings together the two major functional areas of the firm (Marketing & manufacturing department) and points to the need for further study by both departments. The marketing department must explain the changes in the sales prices, the shift in the sales mix, and the decrease in units sold, while the production department must account for the increase in cost. To be of real value, the cost price variance should be further analyzed to determine variances for materials, labor, and factory overhead.

Procedures for analyzing gross profit:

1. Gross Profit Analysis Based on the Previous Year’s Figures

2. Gross Profit Analysis Based on Budgets and Standard costs

1. Gross Profit Analysis based on the Previous Year’s Figures

19A 19B Changes Sales (net) Cost of goods sold

Gross profit

$120,000 $100,000 ---------- $20,000 =======

$140,000 $110,000 --------- $30,000 =======

+$20,000 +$10,000 ---------- +$10,000 =======

Additional data taken from various records indicate that the sales and the

cost of goods sold figure can be broken down as follows:

19A Sales 19A Cost of goods sold Product Quantity Unit Price Total Unit Cost Total

X 8,000 Units $5.00 $40,000 $4.000 $32,000

Y 7,000 Units $4.00 $28,000 $3.500 $24,500

Z 20,000 Units $2.60 $52,000 $2.175 $43,500

---------- ---------- $120,000 $100,000

=======

=======

19B Sales 19B Cost of goods sold

Product Quantity Unit Price Total

Unit Cost

Total

X 10,000 Units $6.60 $66,000 $4.00 $40,000 Y 4,000 Units $3.50 $14,000 3.50 $14,000 Z 20,000 Units $3.00 $60,000 2.80 $56,000

-------- -------

140,000 110,000

====== =====

Calculation of sales price and sales volume variance:

Actual 19B sales $140,000

Actual 19B sales at 19A price:

X: 10,000 units @ $5.00 $50,000

Y: 4,000 units @ $4.00 $16,000

Z: 20,000 units @ $2.60 $52,000

------- $118,000

-------

Favorable sales price variance $22,000

=======

Actual 19B sales at 19A price $118,000

Total 19A sales (used as standard) $120,000

------

Unfavorable sales volume variance $2,000

======

In analyzing: Sales and Costs in 19A will serve as basis for all comparisons 1. compute sales price variance and

sales volume variance 2. compute cost price variance and cost

volume variance 3. analyze the sales volume variance

and cost volume variance 4. computation of the sales mix variance 5. computation of the final sales volume

variance

Calculation of Cost Price and Cost Volume Variance:

The cost price and cost volume variances are calculated as follows.

Actual 19B cost of goods sold $110,000 Actual 19B sales at 19A cost: X: 10,000 units @ $4.000 $40,000 Y: 4,000 units @ $3.500 $14,000 Z: 20,000 units @ $2.175 $43,500 --------- $97,500

--------- Unfavorable cost price variance $12,500

======== Actual 19B sales at 19A cost $97,500 Cost of goods sold in 19Aused as standard $100,000

--------- Favorable cost volume variance $2,500

========

The result of the preceding computations might explain the reason for the $10,000 increase in gross profit.

Favorable sales price variance $22,000 Favorable volume variance (net) consisting of: Favorable cost volume variance $2,500 Less unfavorable sales volume variance $2,000 -------- Net favorable volume variance $500

--------

$22,500

Less unfavorable cost price variance $12,500

------- Increase in gross profit 10,000

=====

Calculation of the sales mix and final sales volume variance:

Total gross profit ÷ Total number of units sold

= $20,000 ÷ 35,000

= $0.5714

The $0.5714 average gross profit per unit sold in 19A is multiplied by the total number of units sold in 19B (34,000 units). The resulting $19,427 is the total gross profit that would have been achieved in 19B if all units had been sold at 19A's average gross profit per unit.

The sales mix and final sales volume variance can now be calculated:

Actual 19B sales at 19A sales price $118,000 Actual 19B sales at 19A cost $ 97,500 ------------- Difference $20,500 19B sales at 19A average gross profit $19,427 --------- Favorable sales mix variance $ 1,073 ====== 19B sales at 19A average gross profit $19,427 Total 19A sales (used as standard) $120,000 Cost of goods sold in 19A (used as standard) 100,000 --------- 20,000 --------- Unfavorable final sales volume variance $573

======

Recapitulations of Variances:The variances identified in the preceding calculations are summarized below:

Gains Losses Gain due to increased sales price $22,000 Loss due to increased cost $12,500 Gain due to shift in sales mix $1073

Loss due to decrease in units sold $573

--------- --------- Total $23073 $13073 Less $13073 ---------

Net increase in gross profit $10,000 =======

2. Gross Profit Analysis Based on Budgets and Standard Costs:

As the basis for illustrating the analysis of gross profit using budgets and standard costs, three financial statements for a company are presented:

1. The budgeted income statement prepared at the beginning of the period 2. The actual income statement prepared at the end of the period. 3. An income statement prepared at the end of the period on the basis of actual

sales at budgeted sales prices and at standard costs.

Statement 1:Income Statement (Budgeted)

Product Units Sales Cost Gross Profit Unit price Amount Unit cost Amount Per unit Amount A 6,000 $15.00 $90,000 $12.00 $72,000 $3.00 $18,000 B 3,500 $12.00 $42,000 $10.00 $35,000 $2.00 $7,000 C 1,000 $10.00 $10,000 $8.75 $8,750 $1.25 $1,250 ------- ------- -------- ------- ------- ------- -------- 10,500 $13.52* $142,000 $11.02* $115,750 $2.50* $26,250 ===== ===== ===== ===== ===== ===== ===== *Weighted average

Statement 2: Income Statement (actual)

Product Units Sales Cost Gross Profit Unit price Amount Unit cost Amount Per unit Amount A 5,112 $15.00 $76,680 $12.00 $61,344 $3.00 $15,338 B 4,208 $12.00 $50,496 $10.00 $42,080 $2.00 $8,416 C 1,105 $10.00 $11,050 $8.75 $9,669 $1.25 $1,381 ------- ------- -------- ------- ------- ------- -------- 10,425 $13.26* $138,226 $10.85* $113,093 $2.41* $25,133 ===== ===== ===== ===== ===== ===== ===== *Weighted average

Statement 3: Income Statement (Actual units at budgeted prices and costs) Product Units Sales Cost Gross Profit Unit price Amount Unit cost Amount Per unit Amount A 5,112 $15.00 $76,680 $12.00 $61,344 $3.00 $15,338 B 4,208 $12.00 $50,496 $10.00 $42,080 $2.00 $8,416 C 1,105 $10.00 $11,050 $8.75 $9,669 $1.25 $1,381 ------- ------- -------- ------- ------- ------- -------- 10,425 $13.26* $138,226 $10.85* $113,093 $2.41* $25,133 ===== ===== ===== ===== ===== ===== ===== *Weighted average

Calculation of sales price variance and sales volume variance:

Using the figures from the statements above, the sales price variance and sales volume variance for the company are calculated as follows:

Actual sales $142,233 Actual sales at budgeted price $138,226

----------- Favorable sales price variance $4,007

======= Actual sales at budgeted price $138,226 Budgeted sales 142,000

------------ Unfavorable sales volume variance $3,774

========

Calculation of Cost Price Variance and Cost Volume Variance:

Using the figures from the statements above, the cost price variance and cost volume variance for the company are calculated as follows:

Cost of goods sold - Actual $122,125 Budgeted cost of actual units sold $113,093

----------- Unfavorable cost price variance $9,032

======= Budgeted cost of actual units sold $113,093 Budgeted cost of budgeted units sold 115,570

------------ Favorable cost volume variance $2,657

========

Calculation of the Sales Mix and Final Sales Volume Variance:

In the above calculation two volume variances appear:

Unfavorable sales volume variance $3,774 Favorable cost volume variance $2,657 -------- Net unfavorable volume variance $1,117 =====

The net volume variance should be further analyzed to determine the sales

mix and final sales volume variance. Actual sales at budgeted prices $138,266.00 Budgeted cost of actual units sold 113,093.00 -------------- Difference $25,133.00 Budgeted gross profit of actual units sold 10,425 actual units × $2.50 budgeted gross profit per unit $26062.50 --------------- Unfavorable sales mix variance $929.50 ======= Budgeted gross profit of actual units sold $26062.50 Budgeted sales $142,000 Budgeted cost of budgeted units sold $115,750 ------------- 26,250.00 --------------- Unfavorable final sales volume variance $187.50 ========

Check:

Unfavorable sales mix variance $929.50 Unfavorable final sales volume variance 187.50 ----------- Net unfavorable volume variance 1,117.00 ======

Recapitulation of Variances:

Gains Losses Gain due to increased sales prices $4,007 Loss due to increased cost $9,032.00 Loss due to shift in sales mix 929.50 Loss due to decrease in units sold 187.50

--------------- Total $10,149.00 Less 4,007.00

--------------- Net decrease in gross profit $6,142.00

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