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ASSUMPTIONS UNDERLYING CVP
ANALYSIS
- Contribution-margin ratio
CASH BREAK-EVEN POINT
The point below which the firm will need either to obtain additional
financing or to liquidate some of its assets to meet its fixed costs.
‘many so-called fixed costs vary not with the volume of items
manufactured but with the range of items produced’
Capacity 9000
– Old BEP - 8,000 units
– New BEP - 9,600 units
CVP analysis in such case would not solve this problem, but it
will direct the management ‘s attention to potentially serious
difficulties
FACTS RELATED TO
FIXED COSTS
BEP = FC / WAUCM
CVP ANALYSIS, ACTIVITY-BASED
COSTING (ABC) AND ADVANCED
MANUFACTURING SYSTEM
Increase in fixed cost: BEP will be higher, profit above BEP will be
lower by the amount of the increase in FC; below the BEP losses
increases by the amount of increase in FC.
Decrease in fixed cost: it lowers the BEP. The profits are greater
by the amount of the decrease, and losses are smaller by the
amount of the decrease in FC.
LIMITATIONS OF CVP ANALYSIS
Banking
Hotel
Software
Non-Profit-Organistions
Newspaper Industry
AREAS OF APPLICATION IN INDUSTRY
Bearing Industry
Foundry Industry
Sugar Industry
Manufacturing Industry
CASE STUDY: AMRITA TEA
By Prof. K Balakrishnan (C) 1977 by the Indian Institute of Management, Ahmadabad.
Amrita tea of Darjeeling had always sold its products through a sole
selling agency. The government started devising schemes to eliminate
middlemen and Amrita wanted to respond to the new public policy
towards private distribution.
This year, Amrita had made a net profit before tax (NPBT) of 10
percent on sale of Rs 20 lakhs. It is feared that elimination of the sole
selling agency and selling directly to retailers would result in a 40
percent drop in sales next year. Fixed expenses would increase from
the present figure of Rs 2.0 lakhs to 3.0 lakhs owing to the additional
warehousing, distribution, and other marketing efforts.
CASE STUDY: AMRITA TEA
3. How much the variable costs need to be reduced next year in order to
make the same NPBT (not in terms of percentage, but in absolute
amount), under the new scheme as they made this year.
2. If they are likely to make a NPBT of Rs 1.8 lakhs next year under the
new arrangement, what do you think is happening to their break-
even? Would they have a larger or smaller “margin of safety,” and by
how much?
ANALYSIS OF THE CASE STUDY
Sales = Rs 20,00,000
= 20,00,000 – (2,00,000+2,00,000)
=16,00,000
ANALYSIS OF THE CASE STUDY
Contribution = sales –variable cost
= 20,00,000 - 16,00,000
= 4,00,000
BEP= 3,00,000/.4167
= 7,19,942
M/S = 12,00,000-7,19,942
= 4,80,058
M/S in % = 4,80,058/12,00,000*100
= 40%
ANALYSIS OF THE CASE STUDY
Therefore; 7,00,000+1,80,000+3,00,000
= Rs 11,80,000
Contribution = S – V.C.
= 11,80,000-7,00,000
= 4,80,000