M/A - CVP Analysis Flashcards
What is CVP Analysis
Cost Volume Profit - is a tool to assist managers in understanding the relationship between revenue and cost and the effect of a change in which either these variables on profit
It can be used as:
- Determine a B/E point
- Establishing target profit
- Estimating impact on profit as variable change
What are 3 variables that can affect the CVP analysis
- Price
- Volume
- Fixed cost
- Variable cost
- Number of unit to produce and sell
Provide 4 assumptions and limitations about CVP
- Selling price is constant - Any changes to sales price will impact CVP decision and management should be cognizant of this
- Multi-product companies, the sales mix is constant
- All products are sold
- No discounting is required
How does the contribution margin determine
- It is determined by sales price less variable cost
What is the formula for the contribution margin ratio
CM ratio = CM per unit/selling price per unit
CM = selling price - VC/unit
10-6 = 4 4/10 = 40%
CM format
Selling price - VC = CM - Fixed cost =Operating income
What are the formulas to calculate break even in $ and units
BE (units) = Fixed cost / (CM per unit)
BE ($) = Fixed cost / (CM ratio)
-round the number up to the nearest whole number
- Occurs when revenue equals cost. B/E point allows a company to determine the level of sales needed to cover all cost
If the revenue line is greater than the expenses line, that is when operating profit is earned
Why does a company need to determine it’s sales mix
- The break-even for multiple products, companies have many different products whose selling prices and variable structures are different
Sale mix - the relative proportion of each product within the company’s total sales
- uses the weighted average CM per unit (WACM)
What is the formula to calculate break even for sales mix?
BE unit = Fixed cost / (WACM per unit)
BE ($) = Fixed cost / (WACM ratio)
WACM per unit = total CM for all product. Total units for all products
How and why is target profit calculated
- It is calculated to determine what a company would consider the level of profit it would like to generate based on the amount of units sold
Target profit sales (unit) = (Fixed cost + target profit) / CM per unit
Target profit sales ($) = (Fixed cost + target profit) / CM ratio
Provide the CVP analysis and risk (margin of safety)
- Measures the useful for expressing financial risk as part of sensitivity analysis
The margin of safety in unit - expected units - B/E unit
Margin of safety $ = expected sales - B/E sales
What is the formula for Target profit of CVP equation using taxes
Target profit sales (units) = Fixed cost + (net profit/ (1-tax rate))/ CM per unit
Target profit sales ($) = Fixed cost + (net profit / (1-tax rate))/ CM ratio
Explain what sensitivity analysis is and trend
- IT examines the result of change or if some of the initial assumptions change based on different levels of operation
- “What-If” scenarios
Ex. What happen if sales mix changes, If wages increase, what will our new B/S point be? Increase or decrease in raw material cost
Trend analysis - Certain assumptions must be presented for CVP analysis to be valid, unchanged product mixed, variable do change
Ex. Raw material cost increase due to shortage
A new union contract may increase the cost of DL
Consider how a drought in the prairie province may affect
What is operating leverage
Operating leverage - The effect of fixed costs have on the operating income of an organization
- Lower fixed cost relative to VC, lower operating leverage
- Sales are increasing, high operating leverage can be good, and profit increases rapidly
- Degree of operating leverage = CM/ operating income
- Increase in fixed cost, increase # of units needed to be sold
