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Managerial Accounting-Fundamental Concepts and Costing Systems for Cost Analysis Module 4

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with Gary Hecht

Cost-Volume-Profit Analysis

The fundamental concepts of CVP analysis

How to apply CVP analysis, recognizing

the influence of setting characteristics on

method and conclusions

COST-VOLUME-PROFIT

ANALYSIS

Analytic tool useful for:

What-if analysis

fundamental components of

basic accounting equation

representing income

Financial

Managerial

Revenue

- Direct materials

- Direct labor

- Overhead

Revenue

- Direct materials (V)

- Direct labor (V)

- Overhead (V)

- Other expenses (V)

= Gross margin

- Other expenses

= Profit

= Contribution margin

- All fixed expenses (F)

= Profit

FUNDAMENTAL EQUATION

We can use this equation to ask a very basic question:

How many units do we have to sell to break even?

FUNDAMENTAL EQUATION

Step 1: Set operating profit to $0

0 = Revenues Total VC Total FC

FUNDAMENTAL EQUATION

Step 2: Simplify terms into components (where applicable)

0 = (Selling price x Q) (VC per unit x Q) Total FC

FUNDAMENTAL EQUATION

Step 3: Isolate Total FC and factor out Q

Total FC = Q x (SP VC)

FUNDAMENTAL EQUATION

Step 4: Isolate Q

Q = Total FC = Total FC

(SP VC)

CM

EXAMPLE 1

The following information relates to a microchip manufactured by

Kane Corporation:

Current selling price, per unit: $7.55

Direct labor, per unit: $1.00

Direct materials, per unit: $2.00

Variable manufacturing overhead, per unit: $1.35

Other variable costs (mostly selling), per unit: $1.20

Fixed manufacturing overhead for microchip: $2.5 M/year

Other fixed costs for microchip: $1.5 M/year

EXAMPLE 1

point for Kane Company.

Costs can be categorized as fixed or variable

or broken down appropriately

Everything is linear:

Revenue

Variable costs

Fixed costs

end of the period are the same. This implies that the number of

units produced during the period equals the number of units sold.

Efficiency and productivity of

production processes remain

constant

Sales mix remains constant over

the relevant range

Product mix does not change

in response to changes in

production/sales volume

EXAMPLE 2 - TAXES

Taves Donuts sells donuts, coffee, and other related food items.

The following information is available:

Service varies from a single coffee to multiple dozen donuts. The average

revenue earned for each customer is $8.00.

The average cost of food and other variable costs for each customer is $3.00.

Total fixed costs for the year is $450,000.

The income tax rate is 30%.

Target (i.e., desired) net income is $105,000.

EXAMPLE 2

Target income = $105,000; Tax Rate = .30

How many customers are needed to break even?

EXAMPLE 2

Target income = $105,000; Tax Rate = .30

How many customers are needed to reach the desired profit?

EXAMPLE 2

EXAMPLE 2

EXAMPLE 2

IN LESSON 4-1

How to use the contribution margin

approach to facilitate

what-if decisions

CVP analysis simply fixes four of the

five variables in the profit equation

and solves for the fifth

Most commonly, we fix target profit,

selling price, variable unit costs,

and fixed costs, and solve for quantity

Multi-Product Scenarios

and Related Concepts

Apply CVP analysis in more complex

(i.e., multi-product) scenarios

Customize analysis to correspond with

assumptions, uncertainty, and managers

needs

HOSA Company manufactures two products Product

X and Product Y.

Selling price

Variable costs

Fixed costs

Product X

Product Y

$10

$6

$10,000

$15

$12

$12,000

EXAMPLE 3

MULTIPLE PRODUCTS

HOSA Company manufactures two products Product

X and Product Y.

Selling price

Variable costs

Fixed costs

Product X

Product Y

$10

$6

$10,000

$15

$12

$12,000

Product X and 40% Product Y.

EXAMPLE 3

MULTIPLE PRODUCTS

IN LESSON 4-2

Multi-product scenarios

Assumptions determine method and

conclusions

IN MODULE 4

Assumptions

Setting-specific

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