COST-VOLUME-PROFIT AND BREAKEVEN POINT BREAKEVEN POINT ANALYSIS

(CVP-BEP) ANALYSIS The breakeven point is a situation wherein there is

no loss or profit. Thus, it is the point where:
Cost-Volume-Profit (CVP) Analysis is the systematic
examination of the relationship between cost, Total Sales = Total Costs
volume and profits and the various changes in the Total Sales = Total Variable Costs + Total Fixed
respective values dependent on the level of activity Costs
or volume of sales. Used as a tool for both planning Total Contribution Margin = Total Fixed Costs
and control, CVP analysis involves the following Unit selling price = Average cost per unit
elements:
A. Sales (both the selling price and sales
volume). METHODS OF DETERMINING BREAK-EVEN POINT
B. Total fixed costs. Generally, in determining the breakeven point, two
C. Variable costs per unit. methods can be used – the equation method,
D. Sales mix. graphical method and the formula approach or the
contribution margin method.
Contribution Margin Income Statement
Our Variable costing income statement may be
Sales – Variable Costs = Contribution Margin expressed in equation form as follows:
Sales – Variable Cost – Fixed Cost = Profit
Traditional Income Statement If variable costs and fixed costs were transposed to
the other side, the equation will appear as follows:
Sales P xxx Sales – Variable Cost – Fixed Cost = Profit
Cost of goods sold (xxx)
Gross profit P xxx Knowing that:
Operating expenses (xxx) Sales = Units x Selling Price/Unit and,
Net income P xxx
Variable Costs = Units x Variable
Cost/Unit
Contribution Margin Income Statement

Per
Graphical Method
Amount Unit Ratio
The breakeven point is represented by the
Sales P xxx P xxx 100%
intersection between the total revenue line and the
Variable cost (xxx) (xxx) (VC/Sales)
total cost line. Area below the breakeven point
Contribution margin P xxx P xxx (CM/Sales)
represents the loss area while the area beyond the
Fixed cost (xxx) break-even point represents the profit area.
Net income P xxx
Break-even Chart
INHERENT ASSUMPTIONS OF CVP ANALYSIS
CVP analysis can only be used under certain
conditions and when certain assumptions hold true.
These assumptions are:
A. All costs are classified as either variable or
fixed, thus, total costs can be separated into
fixed costs and variable costs.
B. Cost and revenue relationships are
predictable and linear over a relevant range
of activity and a specified period of time.
C. Total variable costs change directly with the
cost driver but variable costs per unit are
constant over the relevant range.
D. Total fixed costs are constant over the
The break-even chart clearly shows the relationship
relevant range but fixed costs per unit vary
of cost, revenues and corresponding profits on
inversely with the cost driver or volume.
corresponding levels of volume or production.
E. Sales volume equals production volume,
that is, inventory levels remain constant.
F. Sales mix remains constant over the range of
sales volume being considered.
 The break-even formula may be expanded to
Profit Volume Graph compute for the required sales (in units or in pesos)
to earn a desired amount of profit.

A. Single product

Total fixed costs + Target profit

BEP in units =
Contribution margin per unit

Total fixed costs + Target profit

BEP in pesos =
Contribution margin ratio

Desired Profit expressed in as a Percentage of

Sales
When the desired profit is expressed not as an
amount in pesos but as a certain percentage of sales
The profit and loss at each of various levels is plotted or on a per unit basis, the formulas are revised as
and these points are then connected to form a profit follows:
line. The breakeven point is represented by the
intersection of the profit line with the revenue line. Total fixed costs
The slope of the profit line is the contribution BEP in units= Contribution margin per unit –
margin per unit if the horizontal line is volume or Target profit per unit
contribution margin ratio if the horizontal line is
sales revenue. Total fixed costs
BEP in pesos= Contribution margin ratio –
The profit-volume graph may be preferred to the Target profit ratio
breakeven chart because profit or loss at any point
is shown specifically in the y-axis. However, this Effect of Income Tax
chart does not show how cost varies with volume or
activity. At break-even point, income taxes are irrelevant or
have no effect on the break-even sales because
Formula Method there are no profits at this level of sales. However,
income tax will increase the desired sales volume if
To compute for the break-even point involving a it is included in the computation of the target profit.
single type of product, the following formulas are Thus, before using the formulas above, it is
used: necessary that the “after tax” profit be converted
first to “before tax” profit, that is, divide the “after
Total fixed costs tax” profit by (1 less the tax rate).
BEP in units=
Contribution margin per unit
MARGIN OF SAFETY
Total fixed costs Margin of safety refers to the amount of peso sales
BEP in pesos = Contribution margin ratio or the number of units by which actual or budgeted
sales may be decreased without resulting into a loss.
If the analysis involves multi-products, the The larger the margin of safety, the more likely it is
following formulas are used: that a profit will be made, that is, if sales start to fall
there is more leeway before the organization begins
BEP in units = Total fixed costs to incur losses.
Weighted contribution
margin per unit Margin of safety could also refer to the excess of
sales over breakeven that will bring forth profit.
Total fixed costs Thus, all contribution margin derived from the
BEP in pesos = margin of safety is regarded as profit.
Weighted contribution
margin ratio
Total budgeted or actual sales P xxx
Breakeven sales (xxx)
SALES WITH A DESIRED PROFIT Margin of safety P xxx
The margin of safety should be expressed as a
percentage of projected sales to put it in
perspective. Relevant formulas follow:

Margin of safety
MS Ratio = Actual or budgeted sales

Profit ratio
MS Ratio = Contribution margin ratio

OPERATING LEVERAGE

The degree of operating leverage is used to

measure how sensitive profit before tax is to
percentage change in sales. It serves as a multiplier
effect as it measures, at a given level of sales, how a
percentage change in sales will affect profit.

Total contribution margin

Degree of OL =
Profit before tax

Degree of Percentage change in profit

OL = Percentage change in sales

Graphical Approach versus Formula Approach

Though the formula approach (also known as

algebraic or contribution margin approach) is not
difficult to apply, most analysts resort to the
graphical approach in making breakeven and cost
volume profit analysis because of these advantages:
A. It is easier for most managers to understand
and visualize financial information
presented graphically than those presented
in computational or scheduler formats.
B. With the use of charts, a wider range of
activity can be presented with much more
information without necessarily
experiencing information overload.
C. Complex analyses or cases are made easier
or simpler to solve and understand with the
use of graphs.