s2 cma c02 cost-volume-profit analysis

S2 Ch 2. Cost-Volume-Profit Analysis

RustomjeeBusinessSchool

Cost-volume-profit (CVP) analysis

Cost-volume-profit (CVP) analysis examines the behavior of total revenues, total costs, and operating income as changes occur in the units sold, the selling price, the variable cost per unit, or the fixed costs of a product.

Example: Emma Frost is considering selling GMAT Success, a test prep book and software package for the business school admission test, at a college fair in Chicago. Emma knows she can purchase this package from a wholesaler at $120 per package, with the privilege of returning all unsold packages and receiving a full $120 refund per package. She also knows that she must pay $2,000 to the organizers for the booth rental at the fair. She will incur no other costs. She must decide whether she should rent a booth.


Basic Formulae

Sales: Selling price Per Unit * QuantityVariable Costs: Variable Cost Per Unit * Quantity

SalesLess: Variable Costs

Less: Fixed CostsContribution Margin

Operating Income


Basic Formulae

SalesLess: Variable Costs

Contribution MarginLess: Fixed Costs

Operating Income

Contribution margin is the difference between total revenues and total variable costs. This is an indication of the reason operating income changes as the number of units sold changes.

Contribution margin per unit is the difference between selling price and variable cost per unit.

Selling Price Per UnitLess: Variable Costs Per Unit

Contribution Margin Per Unit


3-17 (1 a & b)

Unit Per unit ($) Amt in $

Sales 400000 60 24,000,000

Less: Variable cost 50 20,000,000

Contribution Margin 10

Less: Fixed cost 1,600,000

Operating Income

4,000,000

2,400,000


3-17 (2 & 3)


Sales 400000 60 24,000,000


Contribution Margin


Operating Income

11,200,000

6,400,000

Wilsor should accept case 2 as it would increase contribution margin,

operating income


Contribution Margin PercentageThe contribution margin percentage (also called contribution margin ratio) equals contribution margin per unit divided by the selling price. This is an indication of the percent of each sales dollar that is available to pay fixed costs and return on profit.


Sales 400000 60 24,000,000


Contribution Margin 10 4,000,000


Operating Income 2,400,000

Contribution margin percentage = 4,000,000 =24,000,000

16.67%


3-16

Case RevenuesVariable

CostsContribution

Fixed

CostsTotal Costs

Operating

Income

Contribution

Margin %

a 500 800 1200

b 2000 300 200

c 1000 700 1000

d 1500 300 40%

2000

1500

900

1500

500

300

600

300

300

1800

1200 300

0

75%

25%

30%


Breakeven Point

Contribution Margin 100Less: Fixed Cost 100

Operating Income 0Breakeven PointNo profit No Loss

Quantity of Units sold = Fixed CostContribution Margin Per Unit

Breakeven Point in Units

Breakeven Point (BEP) is that quantity of output sold at which total revenue equal total cost – that is, the quantity of output sold that results in 0 of operating income

Amount of BEP in Revenue = Fixed CostContribution Margin Percentage

Breakeven Point in Revenues


ExampleCalculating Breakeven Point in units & amounts

Given Unit Per unit ($) Amt in $

Sales ???? 60

Variable cost 50

Fixed cost

1,600,000

Breakeven numbers of Units

= Fixed Cost


UnitPer unit

($) Amt in $Sales 160,000 60 9,600,000Less: Variable cost 50 8,000,000Contribution Margin 10 1,600,000Less: Fixed cost 1,600,000Operating Income 0Contribution Margin Percentage 16.67%


= 1,600,000

10


= 160,000

BEP in Revenue =

Fixed CostContribution Margin

Percentage

BEP in Revenue =

1,600,000

16.67%BEP in Revenue = 9,600,000

Target Operating Income

Target Operating Income analysis can help managers determine the level of sales needed to attain a specified dollar amount of operating income. In order to determine TOI, simply treat the desired operating income as a fixed cost in the breakeven calculation.

Quantity of units required to be sold

=

Fixed Costs + Target Operating Income



Target Operating IncomeQuantity of units required to be sold

=




Sales ???? 60

Less: Variable cost 50

Contribution Margin


Operating Income 2,400,000

10

Quantity of units required to be sold =

1,600,000 + 2,400,00010

Quantity of units required to be sold = 400,000

400,000 24,000,000

20,000,000

4,000,000


CVP, changing revenues and costs E.g. 3-18

a Canadian Air charges passengers

b Commission earned by Sunshine on airfare

c Sunshine's revenue/ticket (a*b)

d Variable costs

e Contribution/ticket (c-d)

f Fixed costs

gBreak-even quantity (FC/Contribution per ticket) (f/e)

h Operating Profit required

i Sales in units {(f+h)/e}

Case1

1000

8%

80

35

45

22000

489

10000

711

Case 2

1000

8%

80

29

51

22000

431

10000

627

Case 3

48

48

29

19

22000

1158

10000

1684

Case 4

53

53

29

24

22000

917

10000

1333

CVP Exercises – Delicious Donuts E.g. 3-19

Given Budget

Revenue 12,500,000

(-) Variable cost 10,000,000

Contribution

(-) Fixed cost 2,250,000

Operating Income

Contribution Margin %(Contribution/revenues)

Case1

12,500,000

2,250,000

Case 2

12,500,000

2,250,000

Case 3

12,500,000

10,000,000

2,500,000

Case 4

12,500,000

10,000,000

2,500,000

Case 5

2,250,000

Case 6

2,250,000

Case 7 Case 8

12,500,000

Given Budget

Revenue 12,500,000

(-) Variable cost 10,000,000

Contribution 2,500,000

(-) Fixed cost 2,250,000

Operating Income 250,000

Contribution Margin %(Contribution/revenues)

20.00%

15% incr. in CM 15% decr. in CM 8% incr. in FC 8% decr. in FC

10% incr. in units sold

10% decr. in units sold

15% incr. in FC, 15% incr. in units sold

15% incr. in FC, 8% decr. in VC

2,500,000

250,000

20% 23%

2,875,000 2,125,000

17%

2,430,000

-125,000625,000 70,000

20% 20%

2,070,000430,000

2,750,000 2,250,000 2,875,000 3,300,000

13,750,00011,000,000

11,250,0009,000,000

14,375,00011,500,000

2,587,500

9,200,000

2,430,000500,000 0 287,500 870,000

20% 20% 20% 26.40%

9,625,000 10,375,000

Revenues 5,000,000 0.5 2,500,000 (-) Variable Costs 0.3 1,500,000 Contribution 1,000,000

(-) Fixed Costs 900,000 Operating Income 100,000

Contribution Margin % (=Contribution/ Sales Rev.) 0.40

Contribution Margin per unit (=Contribution/Sales Qty) 0.20

Break-even point in revenues (=Fixed Costs/cm%) 2,250,000

Break-even point in Units (=FC/cm per unit) 4,500,000

Given Units US$/unit Cost (US$)

E.g. 3-20, Pg 112Contribution & Operating IncomeBreak-even point in RevenuesBreak-even point in units

The Doral Company manufactures and sells pens.Sales: 5,000,000 units @ $0.50per unit.Fixed costs $900,000/yrVariable costs are $0.30/yr

The Doral Company 1. Current

Given Units US$/ unit Cost (US$)

Revenues 5,000,000 0.5 2,500,000 (-) Variable Costs 0.3 1,500,000


(-) Fixed Costs 900,000


Contribution Margin % (=Contribution Margin/ Sales Rev.)

0.40

Contribution Margin per unit (=CM/Sales Qty) 0.20



E.g. 3-20, Pg 112 2. $0.04per unit incr in VC

3. 10% incr in FC, 10% incr in units sold

$/ unit Cost (US$)

0.5 2,500,000

0.34 1,700,000

800,000

900,000

-100,000

0.32

0.16

2,812,500

5,625,000

Units $/ Unit Cost

5,500,000 0.5 2,750,000

0.3 1,650,000

1,100,000

990,000

110,000

0.40

0.20

2,475,000

4,950,000

The Doral Company

Given Units US$/unit Cost (US$)

Revenues 5,000,000 0.5 2,500,000

(-) Variable Costs 0.3 1,500,000


(-) Fixed Costs 900,000


Contribution Margin % (=Contribution Margin/ Sales Rev.) 0.40

Contribution Margin per unit (=CM/Sales Qty) 0.20



Units Per Unit Cost

7,000,000 0.4 2,800,000

0.27 1,890,000

0.1 910,000

720,000

190,000

0.33

0.13

2,215,385

5,538,462

4. 20% decr in FC, 10% decr in SP, 10% decr in VC, 40% in Qty Sold

E.g. 3-20, Pg 112

Target Net Income & Income Taxes

Target Operating Income =

Target Net Income1 – Tax Rate

Target Net Income = (Target Operating Income) * (1 - Tax Rate)

Quantity of units required to be sold

=



Replace


Fixed Costs +Target Net Income

1 - tax Rate



Target Net Income & Income TaxesQuantity of units required to be sold =


1 - tax Rate

Contribution Margin Per Unit Unit Per unit ($) Amt in $Sales ???? 60Less: Variable cost 50 Contribution Margin Less: Fixed cost 1,600,000 Operating IncomeLess: Income Taxes @ 30%

Net Income 1,680,000


1,600,000 +1,680,0001 – 30%

10Quantity of units required to be sold = 400,000

10

400,000 24,000,000

20,000,000

4,000,000

2,400,000

720,000


3.21 (1)

Revenues $29,000Variable costPer car $25,000Salespeople commission $600

$25,600Contribution Margin

Fixed CostRent $65,000Salaries $75,000Advertisement $12,000

$152,000

$3,400


= Fixed Cost



= 152,000

3,400


= 45

3.21 (2)




$152,000

$3,400

Given:Target Net Income = $69,000Tax rate = 25%

Target Operating Income =

Target Net Income1 – Tax Rate

Target Operating Income = 69,0001 – 25%

Target Operating Income = $92,000

3.21 (2)




$152,000

$3,400



1 - tax Rate



152,000 +69,0001 – 25%

3400Quantity of units required to be sold = 72 units

Given:Target Net Income = $69,000Tax rate = 25%

Using CVP Analysis for Decision MakingDecision to Advertise

40 Packages sold “NO ADVERTISING” Unit Per unit ($) Amt in $Sales 40 200 8,000Less: Variable cost 120 4,800Contribution Margin 80 3,200Less: Fixed cost 2,000Operating Income 1,200

Advertisement cost is 500. Advertising will increase sales by 10%

44 Packages sold “WITH ADVERTISING” Unit Per unit ($) Amt in $Sales 44 200 8,800Less: Variable cost 120 5,280Contribution Margin 80 3,520Less: Fixed cost 2,500Operating Income 1,020

Using CVP Analysis for Decision MakingDecision to Reduce Selling Price

40 Packages sold “NO ADVERTISING Unit Per unit ($) Amt in $Sales 40 200 8,000Less: Variable cost 120 4,800Contribution Margin 80 3,200Less: Fixed cost 2,000Operating Income 1,200

Having decided not to advertise, now whether to reduce the selling price to 175, due to which quantity sold will be 50 packages

50 Packages sold “WITH REDUCING PRICES Unit Per unit ($) Amt in $Sales 50 175 8,750Less: Variable cost 120 6,000Contribution Margin 55 2,750Less: Fixed cost 2,000Operating Income 750

Thank you


s2 cma c02 cost-volume-profit analysis

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