Semester 2: Lecture 7: Cost-Volume-Profit Analysis.

Question 1

What is CVP?

Answer 1

Also known as marginal costing/variable costing.

• Used to make decisions by looking at the interrelationships between cost, volume and profit.
• Very useful for business planning.

Question 2

What is contribution?

Answer 2

The excess of sales revenue over the variable costs.

Contribution = sales volume - variable costs.

Once fixed costs have been covered the rest of the contribution is net profit.

Question 3

What is the breakeven point?

Answer 3

The rate at which a firm can run at where they are making neither a profit nor a loss.

Question 4

What is the margin of safety?

Answer 4

The difference between the expected level of sales and the breakeven point.

The larger the margin of safety the more likely it is that profit is made.

Question 5

Weaknesses of Break even analysis:

Answer 5

• Not always possible to resolve costs into fixed or variable costs.
• Variable costs will vary proportionally with volume of output..
• Multi product businesses difficult to apply.
• Volume is the only factor affecting costs.
• Analysis applies to relevant range and only in the short term.