cost volume profit analysis -cvp exmaples
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1 Gross C.M. = Sales - Variable COGM 2 Net C.M. = Sales - Variable COGM - Variable operating expenses
Net C. M. = Gross C.M. - Variable operating expenses
Example No.1: Total Per unit
Sale (400 Speakers) 100,000 250 Less: Variable Cost (60,000) (150)
Contribution Margin 40,000 100 Less: Fixed Cost (35,000) Net Operating Income 5,000
Explaination of change in activity affect Contribution Margin & Net Operating Income:
On Sale of 1 Speaker: Total Per unit
Sale (1 Speaker) 250 250 Less: Variable Cost (150) (150)
Contribution Margin 100 100 Less: Fixed Cost (35,000)
Net Operating Loss (34,900)
On Sale of 2 Speakers: Total Per unit
Sale (2 Speakers) 500 250 Less: Variable Cost (300) (150)
Contribution Margin 200 100 Less: Fixed Cost (35,000)
Net Operating Loss (34,800)
On Sale of 350 Speakers: Total Per unit
Sale (350 Speakers) 87,500 250 Less: Variable Cost (52,500) (150)
Contribution Margin 35,000 100 Less: Fixed Cost (35,000)
Net Operating Income -
On Sale of 351 Speakers: Total Per unit
Sale (351 Speakers) 87,750 250 Less: Variable Cost (52,650) (150)
Contribution Margin 35,100 100 Less: Fixed Cost (35,000)
Net Operating Income 100
Increased in numbers of speakers sold 25 Contribution margin per speaker x $ 100
Increase in Net Operating Income 2,500
CONTRIBUTION MARGIN RATIO:
C. M. Ratio = TotalContribution Margin 40,000 Total Sales 100,000
Or: C. M. Ratio = Contribution Margin Per unit 100 Sales price Per unit 250
Impact on Net Operating Income on changes in Sales, by C.M. ratio: Calculation of changes in net income, with the changes in sales, without I/S
Increase in Sales 30,000 C.M. ratio 40%
Increase in Net operating Income 12,000
Decrease in Sales 40,000
C.M. ratio 40%
Decrease in Net operating Income 16,000
There is a direct relationship or proportion between sales and contribution margin as well as net income
Proof: Present Expected Changes Percentage
Sales 100,000 130,000 30,000 100% Less: Variable Cost (60,000) (78,000) (18,000) 60%
Contribution Margin 40,000 52,000 12,000 40%
Less: Fixed Cost (35,000) (35,000) -
Net Operating Income 5,000 17,000 12,000
Some Applications of CVP Analysis:
Consider the following example:
Selling Price per unit 250 Variable Cost per unit 150 C. M. (in amount) 100 C.M. Ratio 40% Fixed Cost 35,000 per month. Current Sales (in units) 400
Concept No.1: (Change in Fixed Cost and Sales Volume):
Sales manager feels that by increase in $10,000 fixed cost i.e, advertising budget, then the sale will increase by $30,000 to a total 520 units. Should the advertising budget increase,
Expected total contribution margin ($130,000 x 40%) 52,000
Present total contribution margin ($100,000 x 40%) 40,000
Increase in Contribution Margin 12,000 Increase in fixed cost 10,000
Increase in Net Operating Income 2,000
OR Increase in sales 30,000 Contribution Margin ratio 40%
Increase in Contribution Margin 12,000 Increase in fixed cost 10,000
Increase in Net Operating Income 2,000
OR
Proof: Present Expected Changes Percentage
Sales 100,000 130,000 30,000 100% Less: Variable Cost (60,000) (78,000) (18,000) 60%
Contribution Margin 40,000 52,000 12,000 40%
Less: Fixed Cost (35,000) (45,000) (10,000)
Net Operating Income 5,000 7,000 2,000
Concept No.2: (Change in Variable Cost and Sales Volume): Assumption:
Management consider to change the part with more high quality part. This will increase the variable cost by $10 which decrease the contribution margin by $ 10. It increases the sales to 480 speakers. Should this changes incorporated:
Expected total contribution margin (480 Speakers x $ 90) 43,200
Present total contribution margin (400 speakers x $100) 40,000
Increase in Contribution Margin 3,200
OR
Proof: Present Expected Changes
Sales 100,000 120,000 20,000 Less: Variable Cost (60,000) (76,800) (16,800)
Contribution Margin 40,000 43,200 3,200
Less: Fixed Cost (35,000) (35,000)
Net Operating Income 5,000 8,200 3,200
Concept No.3: (Change in Fixed Cost, Sales Price and Sales Volume):
Assumption:
Management consider to cut the selling price by $20 per speaker, increases fixed cost by $15,000 in advertising budget per month, these changes increases the sales by 50% i.e. 600 speakers. Should this changes incorporated:
Expected total contribution margin (600 speakers x $80) 48,000
Present total contribution margin (400 speakers x $ 100) 40,000
Increase in Contribution Margin 8,000 Increase in fixed cost 15,000
Decrease in Net Operating Income (7,000)
OR Proof: Present Expected
Sales 100,000 250 138,000 230 Less: Variable Cost (60,000) (150) (90,000) (150)
Contribution Margin 40,000 100 48,000 80
Less: Fixed Cost (35,000) (50,000)
Net Operating Income 5,000 (2,000)
Concept No.4: (Change in Variable Cost, Fixed Cost and Sales Volume):
Assumption: Management decided to pay $15 per speaker commission to Sales person and stop payment of $6,000 fixed amount of salaries, this change will increase the monthly sales by 15%
i.e. to 400 speakers to 460 speakers per month. Should this changes incorporated:
Expected total contribution margin (460 speakers x $85) 39,100
Present total contribution margin (400 speakers x $100) 40,000
Decrease in Contribution Margin (900) Decrease in fixed cost 6,000
Increase in Net Operating Income 5,100
OR
Proof: Present Expected
Sales 100,000 250 115,000 250 Less: Variable Cost (60,000) (150) (75,900) (165)
Contribution Margin 40,000 100 39,100 85
Less: Fixed Cost (35,000) (29,000)
Net Operating Income 5,000 10,100
Explaination of change in activity affect Contribution Margin & Net Operating Income:
40%
40%
There is a direct relationship or proportion between sales and contribution margin
Percentage
Percentage
Changes
38,000 (30,000)
8,000
(15,000)
(7,000)
Changes
15,000 (15,900)
(900)
6,000
5,100
Break even Analysis:
### Computation of Break even analysis by Equation method:
Break even point (in amount)
Sale = Variable cost + Fixed Cost + Desired Profit
### Computation of Break even analysis by Formula:
Break even point (in amount) = Fixed Cost C.M. Ratio
Break even point (in units) = Fixed Cost C.M. per unit
Target Profit Analysis: It is also done by break even analysis (equation method)
Margin of Safety: Margin of safety is the excess of budgeted (or actual) sales over the break even sales. BEP provided the line below which company suffered loss. Higher the margin of safety, the lower the risk of not breaking even.
a) Margin of Safety = Total Sales (actual) - Break even sales
b) Margin of Safety (in Percentage) = Margin of Safety (in amount) Total budeted (or actual) sales
c) In a single product firm, the margin of safety can also be expressed in terms of number of units.
Margin of Safety (in units) = Margin of Safety (in amount) Sales price per unit
Or Margin of Safety (in units) = Actual units sold - BEP (in units)
Example: ### MOS = $100,000 - $87,500 $ 12,500
### MOS (%) = $ 12,500 12.5% $100,000
### MOS (in units) = $ 12,500 50 units $250
MOS (in units) = 400 speakers - 350 speakers
MOS (in units) = 50 units
Operating Leverage: It is a measure of how sensitive net operating income is to percentage changes in sales. It means that if operating leverage is high then the small percentage change can produce large increasein net income and vice versa.
Example: Farm A Farm B Sales 100,000 100,000 Less: Variable cost (60,000) (30,000)
Contribution Margin 40,000 70,000 Less: Fixed Cost (30,000) (60,000)
Net Operating Income 10,000 10,000
Degree of operating leverage = Contribution Margin Net operating Income
DOL (A)= 40,000 4 times 10,000
DOL (B)= 70,000 7 times 10,000
Consider the impact of change of 10% increase in sales of two companies
Farm A Farm B 10%
Sales 100,000 110,000 100,000 Less: Variable cost (60,000) (66,000) (30,000)
Contribution Margin 40,000 44,000 70,000 Less: Fixed Cost (30,000) (30,000) (60,000)
Net Operating Income 10,000 14,000 10,000
Change in Net Operating Income (in amount) 4,000
Change in Net Operating Income (in times) 4,000 10,000
Changes in Percentage 40
Consider the impact of change of 12% decrease in sales of two companies
Farm A Farm B 12%
Sales 100,000 88,000 100,000 Less: Variable cost (60,000) (52,800) (30,000)
Contribution Margin 40,000 35,200 70,000 Less: Fixed Cost (30,000) (30,000) (60,000)
Net Operating Income 10,000 5,200 10,000
Change in Net Operating Income (in amount) (4,800)
Change in Net Operating Income (in times) (4,800) 10,000
Changes in Percentage (48)
BEP provided the line below which company suffered loss. Higher the margin of safety, the
It is a measure of how sensitive net operating income is to percentage changes in sales. It means that if operating leverage is high then the small percentage change can produce
Farm B 10% 110,000 (33,000)
77,000 (60,000) 17,000
7,000
7,000 10,000
70
Farm B 12% 88,000 (26,400)
61,600 (60,000) 1,600
(8,400)
(8,400) 10,000
(84)
Review Problem Total Per unit Percentage
of Sales Sales 1,200,000 60 100% Less: Variable cost (900,000) (45)
Contribution Margin 300,000 15 Less: Fixed Cost (240,000) Net Operating Income 60,000
Required: 1 Compute Company's C. M ratio and Variable expense ratio.
2 Compute the company's break even point (in units) and (in dollars), by equation method.
3 Assume that sales increase by $400,000 next year. If cost behaviour pattern remain constant, by how much will the company net operating income increase? Use the C.M. ratio to determine your answer.
4 Refer to the original data. Assume that next year management wants the company earn a min. profit of $ 90,000. How much units will have to be sold to meet this target profit figure?
5 Refer, to the original data, Compute the company's margin of safety (in dollar) and (in percentage)
6 a Compute the company degree of operating leverage at the present level of sale
b Assume that through a more intense effort by the sales staff the company sale increase by 8% next year. By what percentage would you expect ner operating income increases? Use the operating leverage concept.
c Verify your answer through Income Statement.
7 In an effort to increase the sales and profit, management is considering the use of a higher quality speaker. The higher quality speaker would increase the variable cost by $3 per unit, but management could eliminate one quality inspector who is paid a salary of #30,000 per year. The sales manager estimate that the higher quality speaker would increase annual sales by atleast 20%.
a) Assuming that chanes are made as described above, prepare projected income statement for next year. Show a data on a total, per unit and percentage basis.
b) Compute the company's new breakeven point in both units and dollar of sales.
Use C.M method.
c) Would you recommend that the change be made?
Compute the company's break even point (in units) and (in dollars), by equation method.
Assume that sales increase by $400,000 next year. If cost behaviour pattern remain constant, by how much will the company net operating income increase? Use the C.M. ratio to
Refer to the original data. Assume that next year management wants the company earn a min. profit of $ 90,000. How much units will have to be sold to meet
Refer, to the original data, Compute the company's margin of safety (in dollar)
Compute the company degree of operating leverage at the present level of sale
Assume that through a more intense effort by the sales staff the company sale increase by 8% next year. By what percentage would you expect ner operating income increases?
In an effort to increase the sales and profit, management is considering the use of a higher quality speaker. The higher quality speaker would increase the variable cost by $3 per unit, but management could eliminate one quality inspector who is paid a salary of #30,000 per year. The sales manager estimate that the higher quality speaker
a) Assuming that chanes are made as described above, prepare projected income statement for next year. Show a data on a total, per unit and percentage basis.
b) Compute the company's new breakeven point in both units and dollar of sales.
Req (I) ContributionMargin Ratio and Variable cost ratio:
CONTRIBUTION MARGIN RATIO:
C. M. Ratio = TotalContribution Margin Total Sales
Or: C. M. Ratio = Contribution Margin Per unit Sales price Per unit
VARIABLE COST RATIO:
Variable Cost ratio = Variable Cost Sales
Req (II) Computation of Break even analysis by Equation method:
Break even point (in amount)
Sale = Variable cost + Fixed Cost + Desired Profit X = 0.75X +240,000 + 0 0.25 X = 240,000 X = 240,000 / 0.25 X = Sales = 960,000
Break even point (in units)
= Amount of BEP (in Amount) Sales price per unit
Req (III) Impact on Net Operating Income on changes in Sales, by C.M. ratio:
Calculation of changes in net income, with the changes in sales, without I/S Increase in Sales 400,000 C.M. ratio 25%
Increase in Net operating Income
Req (IV) Target Profit of $ 90,000
Sale = Variable cost + Fixed Cost + Desired Profit X = 0.75X +240,000 + 90,000 0.25 X = 330,000 X = 330,000 / 0.25 X = Sales = 1,320,000
Nos. of units to be sold to earn $ 90,000:
= Amount of Sales Sales price per unit
Req (V) Margin of Safety (in amount) and (in percentage)
a) Margin of Safety = Total Sales (actual) - Break even sales
Margin of Safety = 1,200,000 - 960,000
Margin of Safety = 240,000
b) Margin of Safety (in Percentage) = Margin of Safety (in amount) Total budeted (or actual) sales
Margin of Safety (in Percentage) = 240,000 1,200,000
Req (VI) a) Degree of Operating Leverage
Degree of operating leverage = Contribution Margin Net operating Income
DOL = 300,000 60,000
DOL = 5
b) Impact on Net Income, When Sales increases 8% by the help of DOL
Increase in Sales 8%
DOL = 5 times
Increase in Net Operating Income = 8% x 5 times
Increase in Net Operating Income = 40%
c) Verify the answer by Income Statement:
Sales 1,200,000 Less: Variable cost (900,000)
Contribution Margin 300,000 Less: Fixed Cost (240,000)
Net Operating Income 60,000
Change in Net Operating Income (in amount)
Change in Net Operating Income (in times)
Changes in Percentage
Req (VII) a) Changes in Variable Cost, Sales and Fixed Cost:
Present Rate Sales 1,200,000 60 Less: Variable cost (900,000) (45)
Contribution Margin 300,000 15 Less: Fixed Cost (240,000) Net Operating Income 60,000
b) Break even Sales (in amount) and (in units) by CM Ratio:
Computation of Break even analysis by Formula:
Break even point (in amount) = Fixed Cost C.M. Ratio
Break even point (in units) = Fixed Cost C.M. per unit
c) Yes, the proposed changes will incorporate because from these changes company earn $18,000 more than Present level.
300,000 25 1,200,000
15 25 60
900,000 75 1,200,000
960,000 16,000 units 60
Impact on Net Operating Income on changes in Sales, by C.M. ratio:
Calculation of changes in net income, with the changes in sales, without I/S
100,000
1,320,000 22,000 units 60
Margin of Safety = Total Sales (actual) - Break even sales
Margin of Safety (in amount) Total budeted (or actual) sales
20
Contribution Margin Net operating Income
times.
Impact on Net Income, When Sales increases 8% by the help of DOL
8% x 5 times
Increase by 8%
1,296,000 (972,000)
324,000 (240,000) 84,000
24,000
24,000 60,000
40
Expected Rate Percent 1,440,000 60 100 (1,152,000) (48) (80)
288,000 12 20 (210,000) 78,000
Break even Sales (in amount) and (in units) by CM Ratio:
210,000 1,050,000 20%
210,000 17,500 12
Yes, the proposed changes will incorporate because from these changes company
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