Chapter 5 Cost-Volume-Profit-Relationships

The calculation of the contribution margin (CM) ratio

Contribution margin / sales

CM =

Contribution margin and Q = quantity of g

Contribution margin ratio

The contribution margin as a percentage of sales CM ratio = Contribution margin /Sales

CM ratio =

Total CM / Total Sales

At break-even point

Total revenue = total cost Net operating income = 0

Some managers prefer to work with the CM ratio rather than the unit CM. The CM ratio is particularly valuable when trade-offs must be made between more dollar sales of one product and more dollar sales of another

True

contribution margin

amount remaining from sales after variable expenses (VC) have been deducted

Cost-volume-profit (CVP)

analysis that helps managers make many important decisions such as what products and services to offer, what prices to change, what marketing strategy to use, and what cost structure to maintain

A company has reached its break-even point when the contribution margin _____________ fixed expenses

equals

CVP analysis allows companies to easily identify changes in profit due to changes in :

volume selling price costs

What assumptions do managers typically adopt based on the five factors?

1. Selling price is constant The price of a product or service will not change as volume changes. 2. Costs are linear and can be accurately divided into fixed and variable elements. The variable element is the constant cost per unit. The fixed element is constant in total over the entire relevant range. 3. In multi-product companies, the mix of products sold remains constant.

What are the five factors?

1. Selling prices 2. Sales volume 3. Unit variable costs 4. Total Fixed costs 5. Mix of products sold

When making a decision using incremental analysis consider the:

1. The change in cost resulting specifically from the decision 2. Change is sales dollars resulting specifically from the decision

Break-even point

1. Total sales = Total Expenses 2. Total CM = total fixed expenses Note: Sales-variable expenses - fixed expenses = 0

What is the primary purpose of CVP analysis?

Estimate how profits are affected by five factors

How does the contribution margin work?

First to cover fixed expenses and whatever remains goes toward profit

What happens when contribution margin is not sufficient

If the CM is not sufficient to cover fixed expenses then the loss occurs for the period.

How do you estimate the profit at any sales volume above the break-even-point

Multiply the number of units sold in excess X unit contribution margin

CM ratio =

Per unit CM / Per unit sales

CM per unit =

Per unit sales - Per unit variable expenses

CVP

Profit = (Sales-Variable expenses) - Fixed expenses

Contribution margin =

Sales - Variable Expenses

Single product

Sales = Selling price per unit X Quantity Sold = P X Q Variable expenses = Variable expenses per unit X Quantity sold = V X Q Profit = (P X Q - V X Q) - Fixed expenses Example Profit = ($250 X 351 - $150 X 351) - 35,000 (250 -150) X 351 - 35000) 100 X 351 -35000 = 35100 - 35000 = 100

Operating income =

UCM X Q - Fixed expenses

Simple profit equation in terms of the unit contribution margin

Unit CM = Selling price unit - Variable per unit = P - V Profit = (PXQ - VXQ) - Fixed expenses Profit = (P-V ) X Q - Fixed expenses Profit = UCM X Q - Fixed Expenses

Profit =

Unit CM X Q - Fixed Expenses

Variable expense ratio =

Variable expenses/ Sales