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Cost-Volume Profit Analysis

it is related with cost accounting

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DrPreeti Jindal
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25 views30 pages

Cost-Volume Profit Analysis

it is related with cost accounting

Uploaded by

DrPreeti Jindal
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PPTX, PDF, TXT or read online on Scribd
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Cost-Volume

Profit analysis
By: Dr. Preeti Jindal
Meaning of CVP Analysis
• CVP analysis is the analysis of three
variable viz. cost, volume and profit.
Such analysis explores the
relationship existing amongst costs,
revenue, activity level and resulting
profit.

Illustration 18-9
Objective CVP Analysis
• It aims at measuring impact of
changes in costs and volume on a
company’s profits.
Assumption of CVP Analysis
Behavior of both costs and revenues is linear
throughout the relevant range of the activity
index.

Costs can be classified accurately as either


variable or fixed.

Changes in activity are the only factors that


affect costs.

All units produced are sold.

When more than one type of product is sold,


the sales mix will remain constant.
Cost behaviour Analysis

To understand cost-volume-profit
(CVP), you must know how costs
behave.
Cost behaviour Analysis-Continued
Cost Behavior Analysis is:
the study of how specific costs
respond to changes in the level of
business activity.

According to their response to changes in


Cost can be classified

Variable Costs Fixed Costs Semi-Variable


Costs
Variable Cost
Variable costs are costs that vary in total directly
and proportionately with changes in the activity
level.

Example: If the activity level increases 10 percent,


total variable costs will increase 10 percent .
Example: If the activity level decreases by 25 percent,
total variable costs will decrease by 25 percent.

Variable costs remain the same per unit at every


level of activity.
Variable Cost
Examples of Variable Costs:
Direct Materials.
Direct Labor.
Variable Cost
Fixed Cost
Fixed costs are costs that remain the same in
total regardless of changes in the activity level.
Fixed costs per unit cost vary inversely with
activity:
As volume increases, unit cost declines, and
vice versa.

Examples include:,
Property taxes
Insurance, and
Rent.
Fixed Cost
Semi-Variable Cost
Costs that have
both a variable cost element
and a fixed
cost element.

These are called


semivariable cost.

Change in total but not proportionately


with changes in
activity level.

• A manufacturer's electricity cost is an example of a semi-


variable cost. Part of the monthly electricity bill will include 1) a
fixed amount, and 2) a separate amount based on the number
of kilowatt hours of electricity actually used by the company.
Semi-Variable Cost

• Illustration 18-5
Semi-Variable Cost
• For purposes of Cost-Volume-Profit
(CVP) analysis, mixed costs must be
classified into their fixed and variable
elements.
How to Conduct CVP Analysis
• Following are the tools you can use
to do cost-volume-profit analysis:

• Contribution
• P/V Ratio (Profit-Volume Ratio)
• BREAK-EVEN Analysis
• Margin of Safety
• Angle of Incidence
Contribution
Contribution is excess of sales revenue over variable cost.
IT is the amount available to cover fixed costs and to
contribute to income.
• Example – suppose a firm is selling 100 units @ Rs. 20 per
• unit . The variable cost for producing these units is Rs. 5
• per unit and fixed cost incurred by the business is Rs. 1000.
• Contribution = Sales revenue – variable cost
• = (100×20) – (100×5)
• = 2000 – 500 =1500
• Profit = Contribution – fixed cost
• = 1500 - 1000 = 500
Profit Volume Ratio
• When contribution margin is expressed in
percentage of sales is called P/V Ratio .
• P/V Ratio = [Contribution /sales ] × 100
• Example- Sales revenue of X ltd. Is Rs
50000, Variable cost is Rs 35000 and fixed
cost is Rs 10000. Find out P/V ratio.
• P/V ratio = [contribution/sales] × 100
• = [15000/50000] × 100 = 30%
Break-Even Analysis
• Break even point is no profit no loss
point, where total cost is equal to
total sales.
• Formula to calculate B.E.P
• Break Even Sales (in amount)
• =Fixed cost/PV Ratio
• Break Even Sales (in units)
• = Fixed Cost/contribution per unit
Example of B.E.P
• Sales price per unit = Rs 50
• Variable cost per unit = Rs 30
• Fixed cost = Rs 20000
Calculate break even point
Solution:
• contribution = Rs 20 per unit (50-30)
• Fixed cost = Rs 20000

• P/V ratio = contribution/sales × 100


• =20/50 × 100 = 40%

• Break Even Point (in amount) = Fixed cost/PV ratio


• = 20000/40 × 100 = 50000
• Break Even Point (in units)
• = Fixed cost/Contribution per unit
• =20000/ 20 = 1000 units
MARGIN OF SAFETY

• MARGIN OF SAFETY
• It is the difference between actual sales and
break even sales of a business.
• Margin of Safety = Actual sales – Sales at
BEP
(in Units)
• Margin of safety = Profit/PV ratio
(In Rs.)
• It is the level of sales which incurred after
break –even point.
Angle of Incidence
• The angle formed by the sales line and the
total cost line at the break-even point is
known as Angle of Incidence.
• The angle of incidence shows the rate at
which profit are being earned once the
break-even point has been reached.
• A large angle of incidence indicates a high
rate of profit
• A small angle of incidence indicates a low
rate of profit.
Cost volume profit graph
How Is CVP Analysis Used for Sensitivity
Analysis?
• Managers can use CVP
relationships to conduct
sensitivity analysis.
• Sensitivity analysis is a “what
if” technique that estimates
profit or loss results if sales
price, cost, volume change.
Change in sales price
• If the sales price changes from $500
to $475, the number of units needed
to breakeven increases from 54 to 60
Change in Variable Costs
• If one of Smart Touch Learning’s
suppliers raises prices and variable
costs increase from $275 to $285, the
number of units needed to break even
increases from
54 to 56.
Changes in Fixed Costs
• If Smart Touch Learning’s fixed costs
increase from $12,000 to $15,000, the
number of units needed to break even
increases from 54 to 67.
How Is CVP Analysis Used for Sensitivity
Analysis?
Application of CVP Analysis In Decision
Making
• Make or buy decisions,
• Determination of Sales mix
• Exploring foreign markets,
• Accept an order or not,
• Determination of selling price in different conditions,
• Replace one product with some other product,
• Achieving a desired level of profit
• Expand the business or not,
• Diversification,
• Shutdown or continue,

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