Class 5 Manac II 2014

7/21/2019 Class 5 Manac II 2014

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Manac II

Term II –PGP 18 Batch

Pankaj Baag

Faculty Block 01, Room No 21

Mo! 8"#$%1&2&"

Ph '()! 0#"*+280"121

-t. 121

ma/l! aagankaj//mk.ac./n

mailto:[email protected]

mailto:[email protected]

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ap er

3Cost

Volume

Proft

Analysis

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SYNOPSIS

• This chapter presents the cost-volume-profit (CVP) analysis model and

illustrates how managers use that model to help answer important “what-if”

business uestions!

• CVP analysis also helps management accountants alert managers to the

ris"s and rewards of decisions they are considering by illustrating how the

“bottom-line” is affected by changes in activity levels or "ey pricing or cost

components!

• CVP analysis is based on several assumptions# one of which is that fi$edcosts can be distinguished from variable costs!

• %owever# whether a cost is variable or fi$ed depends on the time period for

the decision and also the range of activity (relevant range) being

considered!

• &e also loo" at a method for applying CVP analysis to companies with

multiple products and to situations where there is more than one cost driver!

• The applicability of CVP to manufacturers# service organi'ations# and

nonprofits is discussed!

• Contribution margin is also defined and distinguished from gross margin

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Process o Management

ec/3/onMak/ng

/rect/ng4ontrol

Plann/ng5trategyFormulat/on

Manager3 nee6 co3t /n7ormat/on toer7orm each o7 the3e 7unct/on3.

-

Management

accountinginormationhelpsmanagers

perormeach otheseunctionsmoreeectively.

Theprocess omanageme

nt involvesormulating strategy,planning,

control,ecisionma!inganirectingoperationalactivities.

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•Calculating the cost of products,services, and other cost objects

•"#taining inormation orplanning $ control, anperormance evaluation

•Analy%ing the relevantinormation or ma!ing ecisions

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&asis o

classifcation '(CA) *+

i+ ature o

e-penses

//) Relat/on tooject +tracea/l/ty

iii+ unctions/activ

itiesiv+ &ehaviour

v+ Managementecisionma!ing

vi+ Prouctionprocess

vii+ Time perio

/rect co3t3 0 can #e convenientlyan economically trace (trac!e+ toa cost o#1ect

In6/rect co3t3 0 cannot #econveniently or economically trace(trac!e+ to a cost o#1ect. Instea o

#eing trace, these costs areallocate to a cost o#1ect in arational an systematic manner2hether a cost is a irect cost or aninirect cost o a epartment oten

epens on hich epartment isuner consieration.

A cost can #e a irect cost o oneepartment or su#unit in the

organi%ation #ut an inirect cost o

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&asis o

classifcation '(CA) *+

i) Nature ofexpenses

ii+ 4elation too#1ect 5tracea#ility

iii+ unctions/activities

/) Beha/our +9-e6, 3em/+ar/ale orar/ale

v+ Managementecision ma!ing

vi+ Prouction

process

vii+ Time perio

2hen management e-amine therelationship o various costs to theactivities perorme.

It is reerre to as cost #ehavior.

Costs are classife into to types o cost#ehavior' varia#le an f-e costs.

A ar/ale co3t changes in total inirect proportion to a change in the levelo activity (or cost river+. It varies

irectly ith the output. )o, these arealso !non as direct costs

A 9-e6 co3t remains unchange in total

as the level o activity (or cost river+varies. Also !non as er/o6 co3t

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Total Varia#le Cost

6our total ca#le pay5per5vie #ill is #ase on homany movies you atch.

Pay5Per5Vie

Movies

T o t a l P

a y 5 P e r 5 V i e 3

& i l l

-*

Varia#le Cost Per 7nit

The cost per movieatche is constant.or e-ample, 89.::

per movie.

P e r M o

v i e C h a r g e

Movies

2atche

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Total i-e Cost 6our monthly ca#le #ill pro#a#ly oes

not change hen you atch movies

on channels that you have electe to#e pai on a monthly #asis (;&"+.

um#er o ;&"

Movies 2atche

M o n t h

l y C h a r g e f o r

;

& " & i l l

-+

i-e Cost Per7nit

The average cost per ;&"

movie ecreases as more;&" movies are

atche.

M o n t h l y ; & " & i l l p e r

M o v i e 2 a t c h e

um#er o ;&"

Movies 2atche

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*:

Introuction

• Till no e allocate allmanuacturing costs to prouctsregarless o hether they are f-e

or varia#le. This approach is !nonas a#sorption costing/ull costing

• ;oever, no, e ill use only

varia#le costs hich are relevant toecision5ma!ing (hy<+. This is!non as marginal costing/varia#le

costing

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• )o, in Marginal costing, The coststhat ary ith a ecision shoul only

#e inclue in ecision analysis.• This is rt short term, so, or many

ecisions that involve relatively smallvariations rom e-isting practicean/or are or relatively limiteperios o time, f-e costs are notrelevant to the ecision.

• This is #ecause either f-e coststen to #e impossi#le to alter in theshort term or managers are reluctantto alter them in the short term.

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• )ince f-e costs are not inclue in prouctcosts, it #ecomes easy to fn out irectly theeect on proft ue to change in volume or

type o output• Also commonly !non as direct costing,

variable costing

• The term 4o3t+:olume+Pro9t '4:P )analy3/3 is also re=uently use in thisconte-t.

• CVP analysis examines the behaviour of

total revenues , total costs and operatingincome as changes occur in the outputlevel , selling price , the variable cost per

unit or the xed cost of a product.

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B ;naly3/3

• "r,

• CVP analysis reers to the stuy o the eects onuture profts o changes in f-e cost, varia#lecost, sales price, =uantity an mi-.

• The analysis provies solutions to various

alternative #usiness plans• Cost5volume proft analysis is also !non as

Breakeven analysis an is use or ecision ma!ing

• Thereore, Breakeen analy3/3 is the stuy o the

relationship #eteen selling prices, sales volumes,f-e costs, varia#le costs an profts at variouslevels o activity

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Theory o Marginal Costing

• ;3 3et out y 4IM; <on6on. In relation to a given volume o output,

aitional output can normally #e o#taine at

less than proportionate cost #ecause ithinlimits, the aggregate o certain items o costill ten to remain f-e an only the aggregateo the remainer ill ten to riseproportionately ith an increase in output.

Conversely, a ecrease in the volume o outputill normally #e accompanie #y less thanproportionate all in the aggregate cost.

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5/mle 5te3 to =n6er3tan6 theaoe theory

• I the volume o output increases, thecost per unit in normal circumstances reuces. Conversely, i an output

reuces, the cost per unit increases.

>g' I a actory prouces *::: units at atotal cost o 4s.3,::: an i #y

increasing the output #y one unit thecost goes up to 4s.3,::?, themarginal cost o aitional output ill

#e 4s.?. (3::?53:::+

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Continue@@.

• I an increase in output is more than one, thetotal increase in cost ivie #y the totalincrease in output ill give the averagemarginal cost per unit.

>g' The output is increase to *:?: units rom*::: units an the total cost to proucethese units is 4s.*,:9, the average marginalcost per unit is 4s.?.?.

(i.e. Aitional cost/AitionalunitsB9/?:B4s.?.?+

; / 7 M / l / 4:P l /

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• ;33umt/on o7 Marg/nal co3t/ng or 4:P analy3/3!

• All costs can #e classife into to categories5 f-e an varia#le.

• i-e costs remain constant at all level o activity

• Prices o varia#le cost actors remain unchange ie. it is constant

per unit, so that varia#le cost are truly varia#le ie. Varia#le costsvary in total

• )emi varia#le/semi f-e cost can #e segregate into varia#lean f-e elements

• "perating eciency ill remain uniorm

• Prouct specifcations an metho o manuacturing an sellingill not change, prouct mi- ill not change, prouct ris!remains unchange

• Pricing policy remains unchange even uner ierent volume,competitions ie. )elling price remains unchange at ierentlevel o activity

• The num#er o unit o sales ill coincie ith the units prouce,so that there is no opening/closing stoc!. Alternatively, thechanges in opening an closing stoc!s are insignifcant an that

they are value at the same prices or at varia#le cost

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• Marg/nal co3t!• It is the aitional cost o proucing an aitional unit

o a prouct.

• Defne as' the amount at any given volume o output#y hich aggregate costs are change i the volume ooutput is increase or ecrease #y one unit. Thus, it ismeasure #y the total varia#le cost attri#uta#le to oneunit

•DE are inclue inmarginal cost on the

assumption that theyare varia#le. I not,they shoul #ee-clue•It has to #eunerstoo that all

varia#le costs aregenerally irect costs#ut all irect costsnee not #e varia#le•In Inia Direct la#our

cost are generallytreate as f-e onl

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*F

Cost

Manuacturing cost on5manuacturing cost

DirectMaterials

DirectEa#our

"verheas

inishe goos Cost o goos sol

Perio cost

Proft an loss account

A#sorption Costing

Cost

Manuacturing cost on5manuacturing cost

DirectMaterials

DirectEa#our

Varia#le"verheas

inishe goos Cost o goos sol

Perio cost

Proft an loss account

Marginal Costing

i-eoverhea

Varia#le G i-e 0ivie into sol $unsol

7nsol isae tostoc!

Varia#le into sol $unsol

7nsolisaetostoc!

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• Thereore, Marginal cost B Prime cost G total varia#le cost

• or total co3t – 9-e6 co3t

• Marg/nal 4o3t/ng! efne as the ascertainment o marginal

cost an o the eect on proft o changes in volume or type ooutput #y ierentiating #eteen f-e costs an varia#lecosts.

• Feature3!

1. Cost classication! The marginal costing techni=ue ma!es a

sharp istinction #eteen varia#le costs an f-e costs.It is the varia#le cost on the #asis o hich prouction an sales

policies are esigne #y a frm olloing the marginal costing

techni=ue.

In other ors, marginal costing is a techni=ue o control orecision ma!ing.

7ner marginal costing the total cost is classife as f-e anvaria#le cost. i-e costs are treate as perio cost ancharge to proft an loss a/c or the perio or hich they are

incurre. The varia#le costs are regare as the costs o theproucts

F t ' t6 )

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Feature3 'cont6>)!

?. "tock#$nventory %aluation ' 7ner marginal costing,inventory/stoc! or proft measurement is value at marginalcost. It is in sharp contrast to the total unit cost uner

a#sorption costing metho.3. Marginal Contribution! Marginal costing techni=ue ma!es use o

marginal contri#ution or mar!ing various ecisions. Marginalcontri#ution is the ierence #eteen sales an marginal cost.It orms the #asis or 1uging the profta#ility o ierent

proucts or epartments.9. Prices are etermine on the #asis o marginal cost

;6antage3 o7 marg/nal co3t/ng!

• )imple, less conusing an less complicate

• )toc! valuation557ner this techni=ue net proft is not eecte#y the changes in prouction level or changes in stoc! volumeHin act proft is irectly relate to sales.

• Meaningul reporting554eports #ase on this techni=ue provie

inormation #ase on sales rather than prouction conveyingreal estate o eciency.

;6 t 7 / l t/ ' t6 )

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• ;6antage3 o7 marg/nal co3t/ng 'cont6>)!• i-ation o selling price

• Proft planning, particularly o short term nature

• Cost control an cost reuction

• Pricing policy an its etermination• Management ecision ma!ing

• Prouction planning

• Ma!e or #uy ecisions

</m/tat/on o7 marg/nal co3t/ng!• Classifcation o cost assumptions• It lays too much emphasis on selling unction, an as such

prouction unction has #een consiere to #e less signifcant.• Valuation o stoc! only at Marginal cost may amount to uner5

valuation rom the fnancial managers vie point an this mayhave or!ing capital pro#lem.• ot suita#le or e-ternal reporting, vi%., or ta- authorities here

marginal income is not consiere to #e ta-a#le proft.• This techni=ue oes not attach ue importance to time actor.• Eac! o long term perspective• ot applica#le in all type o #usiness

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5o>>

?hat /3 Marg/nal co3t @

The cost o proucing one more unit"r the cost hich coul #e avoie #y

not proucing a unit

?hat /3 Marg/nal co3t/ng @

An approach in hich only ar/ale costsare inclue in cost o sales

9-e6 co3t3 are treate6 a3 er/o6 co3t3

an are &ritten o' as incurred

Contri#ution Margin

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Sales revenue

– Variable costs

= Contribution margin – Fixed costs

= Profit

Contri#ution Margin

•Profit (Net Margin) = ross margin – fixed cost•ross margin is also !no"n as t#e contribution

margin•Contribution margin is t#e $ortion of sales revenue

available to cover fixed costs and $rovide a $rofit%

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?

Contri#ution

• Is the ierence #eteen the sales value an themarginal or varia#le cost o sales

• Contri#ution may #e efne as the proft #eore therecovery o f-e costs

• contri#ution goes toar the recovery o f-e cost anproft, an is e=ual to f-e cost plus proft (C B G P+.

• In case a frm neither ma!es proft nor suers loss,

contri#ution ill #e 1ust e=ual to f-e cost (C B +.• This is !non as reak een o/nt.

&rea! >ven Analysis 55is the stuy o the relationship#eteen selling prices, sales volumes, f-e costs, varia#lecosts an profts at various levels o activity

;ere, e also use a &rea! even Chart to o the analysis. The &rea! even chart is a graphical representation o

marginal costing or CVP analysis an helps in proft planning

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Contri#ution Margin Approach

&f a com$uter sells for 's *** "it# 's +** variable costs $er com$uter and 's

,-**** fixed costs $er .ear/ 0#at is t#e total contribution margin on -** com$uters1 0#at is t#e contribution margin $er unit1 0#at is t#e contribution margin ratio1 0#at is t#e total 's% $rofit after one .ear1

2otal Per 3nit 'atio

Sales revenue 's4****** 's*** 4**5

6ess variable costs 7***** +** 7*5

Contribution margin 's 8***** 's4** 8*56ess fixed costs ,-****

Profit 's -****

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2e have alreay seen that@Contri#ution is the ierence #eteen salesAn the marginal (Varia#le+ cost@an@Contri#ution Bsales5

varia#le cost CB )5VContri#ution B i-e CostGProft CB GP

Thereore

)5V B GPI any 3 actors in the e=uationare !non The 9th coul #e oun out

PB)5V5 PBC5 BC5P )BGPGV VB)5C@@@.

)ales B4s *?,:::V CostB4) J,::: CostB4s 9,:::

P4"IT <

CB)5V B*?,:::5J:::B:::PBC5B,:::59:::B4s *,:::

)AE>)< )BCGV B,:::GJ,::: B4s *?,:::

C")T< BC5P

B,:::5*,:::

B4s 9,:::

V Cost<VB)5C

B*?,:::5::: B4s J,:::

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Contribution margin is the difference between total

revenues and total variable costs! This is an indication

of why operating income changes as the number of

units sold changes!

Contribution margin per unit is the difference between

selling price and variable cost per unit, i!e!# contribution

margin per unit is the change in operating income foreach additional unit sold!

Contribution income statement is an income statement

that groups costs into their variable and fi$ed

components! Variable costs are subtracted fromrevenues to highlight contribution margin! i$ed costs

are subtracted from contribution margin to arrive at

operating income!

B k ; l / h th ft #ilit

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Cost5 Volume5 ProftAnalysis

Break en ;naly3/3 0 shos the profta#ility orotherise o an unerta!ing at various levels o activityAn, as a result it inicates the@

A point o no proft no loss

A point here revenue e=uals coIt epicts the olloing inormation atvarious levels o activity

*. Varia#le costs, f-e costs an total costs?. )ales value3. Proft or loss9. &rea! even point 0the point at hich total costs 1ust e=ual or

#rea! even ith sales. This is the activity point at hich neitherproft is mae nor loss is incurre

. Margin o saety

At ierent activity levels, the interaction o volume,selling price, varia#le costs an f-e costs, the relevantvaria#les an their impact upon proft are considered

si(ultaneously .

) Th & ! > P i t

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)o, @.The &rea!5>ven Point

The #rea!5even point is the point in the volume o activity here theorgani%ations revenues an e-penses are e=ual. At this amount o

sales, the organi%ation has no proft or lossH it breaks even.

The statement also shos the total contr/ut/on marg/n, hich istotal sales revenue minus total varia#le e-penses. Total contri#utionmargin is the amount o revenue that is availa#le to contribute tocovering f-e e-penses ater all varia#le e-penses have #een covere.

.-/0

Sales 250,000$

Less: variable expenses 50,000 !ontribution margin 00,000

Less: "ixe# expenses 00,000

Net income $

hat are &>P assumptions •Proft ay

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hat are &>P555assumptions

All costs are f-e orvaria#leVC remains Constant Total C remainsConstant)elling Price ontchange 2ith Volume

)ynchroni%ation o Pro $)ales o Change inProuctivity per or!ers

Methos

>=uationMetho

KraphicMetho

Proft ay@•At the output level hen totalrevenue e=ual to total cost. '5ell/ng r/ce A numer o7un/t3) – 'ar/ale co3t er un/t

- numer o7 un/t3) – 9-e6 co3t oerat/ng ro9t

•At &rea! even level operatingincome is %ero

&rea! even =uantity B i-e

cost / (selling price 0 varia#lecost+

Contri#ution margin ay

• (Contri#ution margin - =uantity+ 0

f-e cost B operating income• &rea! even =uantity B i-e cost /contri#ution margin

>-pressing CVP relationship

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CVP relationships and the calculation of operating income can

be illustrated using three methods1

Equation Method. The equation method is based on the

following formula1

(2elling price 3 4uantity of units sold) 5 (Variable cost per

unit 3 4uantity of units sold) 5 i$ed costs 6 7perating

income

Contribution Margin Method. 8nder this approach fi$ed

costs are divided by the unit contribution margin to give

the brea"even point in units!

Graph Method. The graph method represents total costs and totalrevenues graphically! &hen costs and revenues are netted and

graphed as one line# this is often referred to as a profit-volume or

PV graph

CP * ? 3

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CP *5?53

2hich o the olloing is not a actor in cost5volume5proft analysis<

a. 7nits sol

#. )elling pricec. Total varia#le costs

. i-e costs o a prouct

2hich o the olloing is not an assumption o cost5volume5proft analysis<

a. The time value o money is incorporate in the analysis.#. Costs can #e classife into varia#le an f-e components.

c. The #ehavior o revenues an e-penses is accurately portraye as linearover the relevant range.

. The num#er o output units is the only river.

Contri#ution margin is calculate as

a. total revenue 0 total f-e costs.

#. total revenue 0 total manuacturing costs (CK)+.

c. total revenue 0 total varia#le costs.

. operating income G total varia#le costs.

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>=uation Approach

Sales revenue – Variable expenses – Fixed expenses = Profit

=n/t3ale3r/ce

5ale3olume/n un/t3

C

=n/tar/alee-en3e

5ale3olume/n un/t3

C

'R3*00 C A) 'R3$00 C A)– –R380,000 R30

'R3200A)–R380,000 R30

A #00 un/t3

.-/

The e=uation approachcan #e use to fn the#rea!5even point.

This approach is #ase onthe proft e=uation. That

is ..Income (or proft+ ise=ual to sales revenue

>-penses can #e separate in varia#lean f-e e-penses. At the #rea!5even point, income is 4s:.

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Contri#ution5Margin Approach

or each aitional sur #oarsol, Curl generates 8?:: incontri#ution margin.

Consier the olloing inormation evelope #y theaccountant at Curl, Inc.'

.-/9

Curl, Inc. manuactures sur

#oars. >ach sur #oar sellsor 8:: an has varia#lecosts o 83::.

%otal Per &nit Percent

Sales '500 sur" boar#s( 250,000$ 500$ 00)

Less: variable expenses 50,000 *00 +0)

!ontribution margin 00,000$ 200$ 0)Less: "ixe# expenses -0,000

Net income 20,000$

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i-e e-penses

7nit contri#ution margin

B&rea!5even point

(in units+

D:,:::

D?::B 9:: sur #oars

.-/:

Thereore, the contri#ution marginper unit is 8?::. 2hen enough sur#oars are sol so that the totalcontri#ution margin is 8:,:::, Curl

Inc. ill #rea! even or the perio.

To compute the #rea!5even volumeo sur #oars, ivie the total f-ee-penses #y the unit contri#utionmargin. or Curl, Inc., 8:,::: isivie #y 8?::, hich is 9:: sur#oars. That means that the #rea!5even point is 9:: sur #oars.

%otal Per &nit Percent

Sales '500 sur" boar#s( 250,000$ 500$ 00)


!ontribution margin 00,000$ 200$ 0)Less: "ixe# expenses -0,000

Net income 20,000$

C t i# ti M i A h

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;ere is the prooN

9:: O 8:: B 8?::,::: 9:: O 83:: B 8*?:,:::.-/.

The #rea!5even point o 9:: units can #e proven #y frstcalculating total sales' multiply 8:: - 9:: units or 8?::,:::in total sales. The varia#le e-penses are 83:: per unit - 9::

units hich is 8*?:,:::. Total sales less total varia#lee-penses is total contri#ution margin o 8:,:::. 2hen f-ee-penses : 8:,::: are eucte rom the total contri#utionmargin, that leaves 8: in net income.

%otal Per &nit PercentSales '00 sur" boar#s( 200,000$ 500$ 00)


!ontribution margin -0,000$ 200$ 0)

Less: "ixe# expenses -0,000 Net income $

Contri#ution Margin 4atio

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8:,:::

9:

8?::,::: salesB.-/*

or Curl, Inc., the f-e costs o 8:,::: are

ivie #y the contri#ution margin ratio o 9:to etermine the #rea!5even sales o 8?::,:::.

%otal Per &nit PercentSales '00 sur" boar#s( 200,000$ 500$ 00)


!ontribution margin -0,000$ 200$ 0)

Less: "ixe# expenses -0,000

Net income $

C i# i i i

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2e can also@Calculate the #rea!5even point in sales s.*r + rather than units #y using the contri#ution margin

ratio.

Contri#utionmargin

)ales

B CM

4atio i-e e-pense

CM 4atio&rea!5even point(in sales ollars+

B

.-/+

)ometimes management preers that the #rea!5even point #ee-presse in sales dollars rather than units. This can #eaccomplishe #y using the contri#ution margin ratio. Theormula or the contri#ution margin ratio is contri#ution margin

ivie #y sales. Then ivie f-e e-penses #y the contri#utionmargin ratio to etermine the total sales ollars at the #rea!5even point.

This isalso!non as

theP/Vratio

AD

Thereore@@@

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Cost5 Volume5 ProftAnalysis

>=uationM>T;"D i-e Cost

&>P (7nits+ B 555555555555555 B Contri#ution P7 )5V

i-e Cost&>P (4s + B 55555555555555555 - )ales

Contri#ution

i-e Cost i-e Cost&>P (4s+ B 555555555555555555 B 555555555555555555

P/V 4atio C/)

2hen P/V is calculate using unit contri#ution

an unit selling prices . 2e can rite Total f-e costs&>P B 5555555555555555555555 - 7nit sellingprices 7nit contri#utionAn i P/V is calculate at given level o

activity Total f-e costs

B k P i t (BEP) Th b " i i h i

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Breakeven Point (BEP). The brea"even point is that uantity

of output sold at which total revenues eual total costs!

ollowing is the formula for calculating ;<P in units1

i$ed costs8nit contribution margin

%owever# ;<P# and therefore -0- profit is not what companies

should strive for# managers are concerned with how they can

achieve their goals for operating profit!Target Operating ncome is the level of sales needed to attain

a specified dollar amount of operating income!

=n order to determine T7=# add the desired operating income to

fi$ed cost in the brea"even calculation!

Target et Proft

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Target et Proft

2e can etermine the num#er o sur#oars that Curl

must sell to earn a proft o 8*::,::: using thecontri#ution margin approach.

2e can etermine the num#er o sur#oars that Curl

must sell to earn a proft o 8*::,::: using thecontri#ution margin approach.

/-e6 e-en3e3 E Target ro9t =n/t contr/ut/on marg/n

=n/t3 3ol6 to earnthe target ro9t

D:,::: E 8*::,::: 8?::

D:,::: E 8*::,:::

8?:: B F:: sur #oarsB F:: sur #oars .-

2hen a company has a net proft they are trying to achieve,or a target net ro9t, the contri#ution margin approachcan #e use to etermine the num#er o units that must #esol. This is very similar to fning the #rea!5even point. The numerator is f-e e-penses plus the target proft. Theenominator is the contri#ution margin per unit. The resultis the units that nee to #e sol to earn the target net proft

>=uation Approach

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>=uation Approach

Sales revenue – Variable expenses – Fixed expenses = Profit

'D*00 C A) 'D$00 C A)– –D80,000 D100,00D80,000 D100,00

'D200A) D180,000 D180,000

A "00 3ur7 oar63

.-/

The e=uation approach also can #e use to fn the units o sales re=uireto earn a target net proft. 4ecall that in the proft e=uation, proft is e=ualto revenues minus varia#le an f-e e-penses. 4ecall that proft as set to%ero to etermine the #rea!5even point. 2hen management hasetermine a target net proft greater than %ero, that num#er #ecomesproft varia#le in the e=uation

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!et income is operating income plus nonoperating

revenues (such as interest revenues) minus nonoperating

e$penses (such as interest e$pense) minus income ta$es!

To this point# we have ignored the effect of income ta$es

in our CVP analysis! To ma"e net income evaluations#

however# we must state results in terms of target netincome rather than target operating income!

The T7= calculation can be easily ad>usted to

accommodate this change1• Target ?= 6 T7= 5 (T7= × Ta$ rate) or stated another

way

• Target ?= 6 T7= × (@5 Ta$ rate)

>ect o Income Ta-es

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>ect o Income Ta-es

Target ater5ta- net

income

B&eore5ta-

net

Income ta-es aect a companysCVP relationships. To earn a

particular ater5ta- net income, a

greater #eore5ta- income ill#e re=uire.

.-9

The re=uirement that companies pay income ta-es aects their cost5volume5proft relationships. To earn a particular ater5ta- net income, agreater #eore5ta- income ill #e re=uire. To etermine hat the #eore5ta- net income is, the ater5ta- net income is ivie #y * minus the ta-

rate. The ormulas presente in this chapter can no #e use ith the#eore5ta- net income to provie or the eect o ta-es.

• Tee Times, Inc. prouces an

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Tee Times, Inc. prouces ansells the fnest =uality golclu#s in all o Clay County. Thecompany e-pects the olloing

revenues an costs in ?::9 orits >lite Quality gol clu# sets'

• 4evenues (9:: sets sol R S::per set+ ?9:,:::

• Varia#le costs *S:,:::

• i-e costs :,:::

9.;o many sets o clu#s must #esol or Tee Times, Inc. to reachtheir #rea!even point<

a. 9::

#. ?:

c. ?::

. *:

S. 2hat amount o salesmust Tee Times, Inc.have to earn a target net

income o S3,::: i theyhave a ta- rate o 3:percent<a. 9F,:::#. 9?F,:::

c. 9?:,:::

.;o many sets o clu#smust #e sol to earn atarget operating income

o F:,:::<a. J::#. ::c. 9::

. 3::

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9. Varia#le costs per unit B *S:,:::/9::units sol B 9::

• Contri#ution Margin B S:: 0 9:: B ?::per unit

• &rea!even point B :,:::/?:: B ?:

units

. T"I B :,::: G F:,:::/?:: B J:: units

S. TI B :,::: G S3,:::/(* 0 .3:+/?::

B J:: units O S::

B 9?:,:::

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&rea!5>ven Analysis 5 Kraphical Presentation

CostsABevenu

e

7utputA2ales

=nitially a firm will

incur fi$ed costs#

these do not depend

on output or sales!

C

4@

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&rea!5>ven Analysis

CostsABevenu

e

7utputA2ales

=nitially a firm will incur

fi$ed costs# these do not

depend on output or sales!

C

s output is generated# the firm will

incur variable costs 5 these vary directly

with the amount produced

VC

The total costs therefore

(assuming accurate

forecastsD) is the sum of

CEVC

TC

Total revenue is determined by the price

charged and the uantity sold 5 again this

will be determined by e$pected forecast

sales initially!

TB

The lower the

price# the less

steep the total

revenue curve!

TB

4@

The ;rea"-even point occurs where total revenue euals total costs 5 the firm# in this e$ample would have to

sell 4@ to generate sufficient revenue to cover its costs!

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Break-Even Analysis

CostsABevenue

7utputA2ales

C

VCTCTB

4@

=f the firm chose to set

price higher than Bs

(say Bs/) the TB curve

would be steeper 5 they

would not have to sell as

many units to brea"even

TB

4

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Break-Even Analysis

CostsABevenue

7utputA2ales

C

VCTCTB

4@

=f the firm chose to set

prices lower it would

need to sell more units before covering its

costs

TB)

4/

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Break-Even Analysis

CostsABevenue

7utputA2ales

C

VC

TCTB

4@

Foss

Profit

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Break-Even Analysis

CostsABevenue

7utputA2ales

C

VC

TCTB

4@ 4

ssume

current

sales at 4

Gargin of 2afety

Gargin of safety shows

how far sales can fall

before losses made! =f 4@

6 @000 and 4 6 @*00#

sales could fall by *00units before a loss would

be made

TB

4/

higher price would lower the brea" even point and

the margin of safety would widen

Angle oIncience

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)aety Margin4url, Inc. ha3 a reak+een o/nt o7 D200,000. /7actual 3ale3 are D2*0,000, the 3a7ety marg/n /3D*0,000 or 100 3ur7 oar63.

.-9

pplying &>

The

ierence#eteen#ugetesalesrevenuean#rea!5even

sales

• The

amount #yhichsales

canrop#eorelosses#egin

to #eincurre.

.rea/even

sales

00 units

ctual sales

500 units

Sales 200,000$ 250,000$

Less: variable expenses 20,000 50,000

!ontribution margin -0,000 00,000 Less: "ixe# expenses -0,000 -0,000

Net income $ 20,000$

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CostsABevenue

7utputA2ales

C

VC

TCTB

4@ 4

Gargin of 2afety

TB

4/

;ngle o7Inc/6ence

• ;ngle o7

Inc/6ence! The angle#eteensales antotal costline. This

angle is aninicator oproftearningcapacityover the

• A large angle o incience ith high M) inicates monopolyconitions

• The aim othe

management /ll e tohae largeangle h/ch/ll/n6/cate

earn/ng o7h/gh marg/no7 ro9tonce 9-e6( arecoere6.

• lo angle 555lo rate proft555varia#le costs are high

Class 5 Manac II 2014

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