Acct 201 Chapter 5

Break-Even Analysis

Breakeven point is the unit sales and dollar sales needed to achieve a target profit of zero.

CVP Relationships in Equation Form

Flip the Contribution Income Statement Horizontally Net Income = (Sales - Variable expenses) - Fixed expenses

Operating Leverage

Operating leverage is a measure of how sensitive net operating income is to percentage changes in sales. It is a measure, at any given level of sales, of how a percentage change in sales volume will affect profits. Degree of operating leverage = (Contribution margin/Net operating income)

Contribution Margin (CM)

Sales Revenue - Variable Expenses

Contribution Margin Ratio (CM Ratio)

The contribution margin as a percentage of sales is referred to as the contribution margin ratio (CM ratio). The CM ratio can also be calculated by dividing the contribution margin per unit by the selling price per unit.

The Margin of Safety in Dollars

The margin of safety is the excess of budgeted or actual sales dollars over the break-even volume of sales dollars. The higher the margin of safety, the lower the risk of not breaking even and incurring a loss. Margin of safety in dollars = Total sales - Break-even sales

Applications of CM Ratio - Increase in Sales Volume

The relationship between profit and the CM ratio can be expressed using the following equation: Profit = (CM ratio × Sales) - Fixed expenses

Flipped Contribution Income Statement

It is often useful to shorten the flipped contribution Income statement Unit CM = Selling price per unit - Variable expenses per unit Net Income = (Unit CM × Q) - Fixed expenses

Target Profit Analysis

In target profit analysis, we estimate what sales volume is needed to achieve a specific target profit.

Contribution Income Statement

Is helpful to managers in judging the impact on profits of changes in selling price, cost, or volume. The emphasis is on cost behavior.