XMANAC1

COST-VOLUME-PROFIT (CVP) MODEL summarizes the effects of volume changes on an organizations costs, revenue, and income. Users can extend such analysis to include the impact on profit of changes in selling prices, service fees, costs, income-tax rates, and the organizations mix of products or services. FACTORS AFFECTING PROFIT 1. 2. 3. 4. 5. Selling price Unit variable cost Volume Fixed cost Sales mix Formulas: CMper unit = Unit selling price Unit variable cost CM Ratio = CM/Sales CM Ratio = Unit CM/Unit Selling Price

CVP Analysis
Sales Mix the proportion of the quantities of sales of various products that comprise the total sales of the company. Note: Contribution Margin (CM) the difference between sales and variable cost.

Underlying Assumptions 1. 2. We can separate total costs into fixed and variable components. Cost and revenue behavior is linear throughout the relevant range of activity. The assumption implies the following: a. Total fixed costs do not change throughout the relevant range of activity. b. Variable costs per unit remain constant throughout the relevant range of activity. c. Selling price per unit remains constant throughout the relevant range of activity. d. Product mix remains constant throughout the relevant range of activity. Inventory levels did not change during the period Production technology, market conditions, and labor productivity remains constant

Contribution margin ratio contribution amount per peso sales, or the contribution margin divided by sales. Exercise 1: Break-even and target profits Analysis of the operations of Hexplus Company shows the fixed costs to be P200,000 and the variable costs to be P8 per unit. Selling price is P16 per unit. a. Derive the break-even point expressed in units. b. How many units must the firm sell to earn a profit of P280,000? c. What would profits be if revenue from sales were P2,000,000? Exercise 2: Shades Company manufactures three inexpensive models of sunglasses with the following characteristics: Surfer P5 3 100,000 Skier P6 2 150,000 Runner P7 4 250,000

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Commonly used CVP Analysis Models Break-even point (BEP) - the volume of activity that produces equal revenues and costs for the organization. The organization has no profit or loss at this sales level. The formula: BEP in units = Fixed costs/CM per unit BEP in Peso = Fixed costs/CM ratio However, there are instances where the managers would like to determine how many units to sell at a target profit. The formula then is: Units Sales with Target Profit = (Fixed Costs + Target Profit)/CM per unit Peso Sales with Target Return on Sales = Fixed Costs/(CM Ratio Return on Sales)

Price per Unit Variable Cost per Unit Expected Sales (units)

Total fixed costs for the company are P1,240,000. Assume that the product mix at the break-even point would be the same as that for expected sales. Compute the break-even point in: a. Units using the weighted-average method. b. Sales in Peso using the weighted-average method. Exercise 3: PJ Company produces one type of sunglasses with the following costs and revenues for the year: Total Revenues............................................................................. P5,000,000 Total Fixed Costs ........................................................................ 1,000,000 Total Variable Costs ...................................................................... 3,000,000 Total Quantity Produced and Sold................................ 1,000,000 Units

A.Y. 2013 2014

David, C.

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Required: a. What is the selling price per unit? b. What is the variable cost per unit? c. What is the contribution margin per unit? d. What is the break-even point in units? Exercise 4: Whey Company follows a cost-based approach to pricing. Prices are 150 percent of variable manufacturing costs. The annual cost of producing one of its products follows:

CVP Analysis
Margin of safety the excess of projected (or actual) sales units over the break-even unit sales level. The formula for margin of safety is: Margin of Safety (in units) = Sales Units - Break-Even Sales Units The margin of safety can also be measured in sales dollars. Use the same formula, except replace units with peso. Thus, given the preceding information, the margin of safety in sales dollars is: Margin of Safety (in Peso) = Sales Peso - Break-Even Sales Peso

Variable Manufacturing Costs .............................................. P15 per unit Margin of safety ratio = Margin of Safety/Sales Fixed Manufacturing Costs .......................................... P50,000 per year Variable Selling and Administrative Costs ........................ P2 per unit Exercise 6: Fixed Selling and Administrative Costs .................. P75,000 per Year Required: a. Assume that Whey produces and sells 10,000 units. Calculate the selling price per unit. b. Assume that Whey produces and sells 20,000 units. Calculate the selling price per unit. c. Is Whey Company profitable at either 10,000 or 20,000 units? Exercise 5: Quality Cabinet Construction is considering introducing a new cabinet-production seminar with the following price and cost characteristics: Tuition.................................................................................. $200 per student Variable Costs (wood, supplies, etc.)..................... $120 per student Fixed Costs (advertising, instructors salary, insurance, etc.) ..................................... $400,000 per year Required: a. What enrollment enables Quality Cabinet Construction to break even? b. How many students will enable Quality Cabinet Construction to make an operating profit of $200,000 for the year? c. Assume that the projected enrollment for the year is 8,000 students for each of the following situations: 1. What will be the operating profit for 8,000 students? 2. What would be the operating profit if the tuition per student (that is, sales price) decreased by 10 percent? Increased by 20 percent? 3. What would be the operating profit if variable costs per student decreased by 10 percent? Increased by 20 percent? 4. Suppose that fixed costs for the year are 10 percent lower than projected, whereas variable costs per student are 10 percent higher than projected. What would be the operating profit for the year? Using the data provided in Exercise 1, determine the following on the assumption that the sales volume is 32,000 units: 1. 2. 3. Margin of safety (in units) Margin of safety (in Peso) Margin of safety ratio

Indifference point the level of volume at which two options that are being analyzed would yield equal levels/figures for the total costs or profits. Indifferent point formulas: Option As (Unit CM x Q) FC = Option Bs (Unit CM x Q) FC Option As (Unit CM x Q) + FC = Option Bs (Unit CM x Q) + FC Exercise 7: High-low Corporation is deciding on which equipment to use, namely, Low Pro and High Pro. The annual rental for each type are P24,000 and P48,000, respectively, while the other annual fixed costs are P100,000 and P120,000, respectively. Expected unit variable costs are P44 and P35, respectively. Assuming all other factors are unaffected by the choice of equipment type and that the yearly rental agreement will be non-cancellable, which type should be selected for the coming year? Degree of Operating Leverage (DOL) the measure of an organizations cost structures significant effect on the sensitivity of its profit to changes in volume. DOL = Contribution Margin/Earnings Before Tax

A.Y. 2013 2014

David, C.