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Transcript of Chapter 2
2 - 1©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Chapter 2
Introduction to Cost Behavior
and Cost-Volume Relationships
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Learning Objective 1
Explain how cost drivers
affect cost behavior.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Cost Behavior
It is how costs are related to, and affectedby, the activities of an organization.
What is cost behavior?
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Cost Drivers
Output measures of resources and
activities are called cost drivers.
What are cost drivers?
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Production Example
Example costs:Labor wagesSupervisory salariesMaintenance wagesDepreciation Energy
Example cost drivers:Labor hoursNo. of people supervisedNo. of mechanic hoursNo. of machine hoursKilowatt hours
Cost Drivers
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Cost Drivers
How well the accountant does at identifying
the most appropriate cost drivers determines
how well managers understand cost behavior
and how well costs are controlled.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Learning Objective 2
Show how changes in cost-driver
activity levels affect variable
and fixed costs.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Comparison of Variable and Fixed Costs
A variable cost is a cost that changes in directproportion to changes in the cost driver.
A fixed cost is not immediately affectedby changes in the cost driver.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Rules of Thumb
Total fixed costs remain unchangedregardless of changes in cost-driver activity.
Think of fixed costs as a total.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Rules of Thumb
The per-unit variable cost remainsunchanged regardless of changesin the cost-driver activity.
Think of variable costs on a per-unit basis.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Relevant Range
This rule of thumb holds true only within reasonable limits.
The relevant range is the limit of cost-driver activity within which a specific relationship between costs and the cost driver is valid.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Fix
ed
Cos
ts
Volume in Units
$16,000 –
$12,000 –
$8,000 –
$4,000
0 500 1,000 1,500 2,000 2,500
– – –
Relevant Range
Relevant Range
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Learning Objective 3
Calculate break-even sales
volume in total dollars
and total units.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Cost-Volume-ProfitAnalysis (CVP)
It is the study of the effects of outputvolume on revenue (sales), expenses(costs), and net income (net profit).
What is cost-volume-profit analysis?
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Per Unit PercentageSelling price $5 100Variable cost 4 80Difference $1 20
CVP Scenario
Total monthly fixed expenses = $8,000Rent $2,000Labor $5,500Other $ 500
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Break-Even (BE) Point
The break-even point is the level of sales at which revenue equals expenses and net income is zero.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Margin of Safety
The margin of safety shows how far sales can fall below the planned level before losses occur.
Planned unit sales –
Break-even unit sales=
Margin of safety
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Break-Even Point Techniques
There are two basic techniques for computing break-even point:
1 Contribution margin2 Equation
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Contribution MarginTechnique – to find BE in Units
Per UnitSelling price $5Variable cost 4Contribution margin $1
$8,000 ÷ $1 = 8,000 units
i.e. Fixed Cost ÷ Contribution per unit
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Contribution MarginTechnique - to find BE in $
8,000 units × $5.00 = $40,000
$8,000 ÷ 20% = $40,000
i.e. BE point in units x Selling price per unit
i.e. Fixed Cost ÷ Contribution to Sales ratio
OR
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Equation Technique
Net income equals zero at the break-even point.
Sales
Variable expenses
Fixed expenses
Zero net income (break-even point)=
–
–
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Equation Technique – to find BE in Units
$5N – $4N – $8,000 = 0$1N = $8,000N = $8,000 ÷ $1N = 8,000 Units
Let N = number of units to be sold to break even
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Equation Technique- to find BE in $
S – 0.80S – $8,000 = 0.20S = $8,000S = $8,000 ÷ .20S = $40,000
Let S = sales in dollars needed to break even
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Learning Objective 4
Create a cost-volume-profit
graph and understand the
assumptions behind it.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Cost-Volume-Profit Graph
$0
$10,000
$20,000
$30,000
$40,000
$50,000
0 2 4 6 8 10 12
Units (thousands)
Dol
lars
Break even sales point8,000 units or $40,000
Sales re
venue line
Total expense line
Fixed expense line
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Learning Objective 5
Calculate sales volume in total
dollars and total units to reach
a target profit.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Target Net Profit
Managers can also use CVPanalysis to determine thetotal sales, in units anddollars, needed toreach a targetnet profit.
Managers can also use CVPanalysis to determine thetotal sales, in units anddollars, needed toreach a targetnet profit.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Target Net Profit
Contribution Margin Technique
Target sales volume in units =Fixed expenses + Target net incomeContribution margin per unit
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Target Net Profit
Equation Technique
Target sales– Variable expenses– Fixed expenses= Target net income
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Operating Leverage
The ratio of fixed to variable costs is called operating leverage.
In high leveraged companies, small changes in sales volume result in large changes in net income.
Companies with less leverage are not affected as much by changes in sales volume.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Learning Objective 6
Calculate contribution
margin and gross margin.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Contribution Margin and Gross Margin
Gross margin (which is also called gross profit)is the excess of sales over the cost of goods sold.
Contribution margin is the excess of sales overall variable costs.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Learning Objective 7
Explain the effects of sales
mix on profits.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
Sales mix is the combination of products that a business sells.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
Avisha’s Dresses Example
Selling price: $90Less variable cost: 32Equals contribution margin per dress: $58
Fixed costs = $96,000
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
Assume that Avisha is considering selling blouses.
This will not require any additional fixed costs.
She expects to sell 2 blouses at $30 each for every dress she sells.
The variable cost per blouse is $19. What is the new breakeven point?
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
$58 + (2 × $11) = $58 + $22 = $80
Contribution margin per blouse: $30 – $19 = $11
What is the contribution margin of the mix?
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
$96,000 fixed costs ÷ $80 = 1,200 packages
1,200 × 2 = 2,400 blouses1,200 × 1 = 1,200 dressesTotal units = 3,600
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
What is the breakeven in dollars?
2,400 blouses× $30 = $ 72,0001,200 dresses × $90 = 108,000
$180,000
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
What is the weighted-average budgeted contribution margin?
Dresses: 1 × $58 + Blouses: 2 × $11
= $80 ÷ 3 = $26.67
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
The break even point for the two products is:$96,000 ÷ $26.667 = 3,600 units
3,600 × 1/3 = 1,200 dresses3,600 × 2/3 = 2,400 blouses
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
Sales mix can be stated in sales dollars: Dresses
BlousesSales price $90 $60Variable costs 32 38Contribution margin $58 $22Contribution margin ratio 64.4% 36.6%
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
Assume the sales mix in dollars is 60% dressesand 40% blouses.
Weighted contribution would be:64.4% × 60% = 38.64% dresses36.6% × 40% = 14.64% blouses
53.28%
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Effects of Sales Mixon Income
Break even sales dollars is $96,000 ÷ 53.28%= $180,000 (rounding)
$180,000 × 60% = $108,000 dress sales$180,000 × 40% = $ 72,000 blouse sales
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Learning Objective 8
Compute cost-volume-profit
relationships on an after-tax
basis.
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Target Net Income and Income Taxes
Management of Avisha’s Dresses would like to earn an after-tax income of $35,721.
The tax rate is 30%. What is the target operating income? Target operating income
= Target net income ÷ (1 – tax rate) TOI = $35,721 ÷ (1 – 0.30) TOI = $51,030
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Target Net Income and Income Taxes
How many units must she sell? Revenues – Variable costs – Fixed costs
= Target net income ÷ (1 – tax rate) $90Q – $32Q – $96,000 = $35,721 ÷ 0.70 $58Q = $51,030 + $96,000 Q = $147,030 ÷ $58 Q = 2,535 dresses
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©2002 Prentice Hall Business Publishing, Introduction to Management Accounting 12/e, Horngren/Sundem/Stratton
Target Net Income and Income Taxes
Revenues (2,535 × $90) $228,150Variable costs (2,535 × $32) 81,120Contribution margin: $147,030Fixed costs: 96,000Operating income: $ 51,030Income taxes: ($51,030 × .30) 15,309Net income $ 35,721
THE END