Cost-Volume-Profit Relationships

Definition of Terms:
Cost-Volume-Profit analysis = is the systematic examination of the relationships among selling prices, sales and production volume, costs, expenses and profits. It provides management with useful information for decision making. Contribution Margin = is the excess of sales revenues over variable costs. Contribution Margin Ratio (Profit volume ratio) indicates the % of each sale peso available to cover the fixed costs and to provide income from operations.

Unit Contribution Margin = is the sales price less the variable cost per unit. Break-Even Point = is the level of operations at which a business revenues and costs are exactly equal. At break even point, a business will have neither an income nor a loss from operations.

160 150 140 130 120 110 100 90 80 70 60 50 40

$000 (per month)

Total revenue from ticket sales Break - even point: 8,000 tickets or $ 128,000 of sales

Profit Area

Total expenses Total expenses for 8,000 tickets, $ 128,000

Total variable expenses for 8,000 ticket (at $10 per ticket)$ 80,000

Total fixed expenses

Loss area Total fixed expenses per month, $48,000

30
20 10 2,000 4,000 6,000 8,000

Volume (ticket sold in 1 month)

10,000

12,000

Effects of Changes in Fixed costs

Fixed Costs

BreakEven

Fixed Costs

BreakEven

Effect of Changes in Unit Variable Cost

Unit Variable Cost

BreakEven

Unit Variable Cost

BreakEven

Effect of changes in unit selling price

Unit Selling Price

BreakEven

Unit Selling Price

BreakEven

Sales Mix Considerations

Example: Product U/SP U/VC U/CM A P 90 P 70 P 20 B 140 95 45 Addl info: - Assume the company sold 8,000 units of Product A and 2,000 units of Product B during the past year. Fixed costs totalled P200,000.

Operating Leverage
The relative mix of a businesss variable costs and fixed costs is measured by the operating leverage. It use to measure the impact of changes in sales on income from operations. It is computed as follows: Contribution Margin Operating Leverage = Income from Operations

- A high operating leverage indicated that a small increase in sales will yield a large percentage increase in income from operations. - A low operating leverage indicates that a large increase in sales is necessary to significantly increase income from operations.

Example:
Jose Co. Sales P400,000 Variable Cost 300,000 Con. Margin 100,000 Fixed costs 80,000 Inc. from Oper 20,000 Operating Lever. 5 Wally Inc. P400,000 300,000 100,000 50,000 50,000 2_____

High Operating Leverage

Low Operating Leverage

Margin of Safety
Def: it is the difference between the current sales revenue and the sales revenue at the break-even point. It indicates the possible decrease in sales that may occur before an operating loss results. (if the margin of safety is low, even a small decline in sales revenue may result in an operating loss).

1. Cutiepie Company has analyzed the costs of producing and selling 5,000 units of its only product to be as follows: Direct materials P60,000 Direct labor 40,000 Variable FOH 20,000 Fixed FOH 30,000 Var. Marketing & Adm. 10,000 Fixed Mark & Adm. 15,000 Required: 1) Compute the number of units to break-even at a unit sales price of P38.50. 2) Determine the number of units that must be sold to produce an P18,000 profit, at a P40 per unit sales price. 3) Determine the price Cutiepie must charge at a 5,000 unit sales level, in order to produce a profit equal to 20% of sales.

2. Data related to the expected sales of lacrose sticks and hockey sticks for Athletics Inc. for the current year, which is typical of recent years, are as follows: Product USP UVC Sales Mix Lacrose P 52.00 P28.00 70% Hockey 64.00 36.00 30% The estimated fixed costs for the current year are P1,857,240.00. 1) Determine the beak-even point. 2) Determine the unit sales of both products. 3) Assume the sales mix was 30% lacrose sticks and 70% hockey sticks. Compute the BEP with that in part (1). Why is it so different?

 BEP = P45,000 + 18,000 40-26 = 4,500 units 4,500 @ 40 = VC 4,500 @ 26 Cont. Margin Fix Cost Incom P 180,000 = 117,000 = 63,000 = 45,000 = 18,000

 S = 26 (S) + 45,000 + .20S = 130,000 + 45,000 + .20S .80 = 175,000 = 175,000/.80 S = 218,750 = 218,750/5,000 VC = 130,000 = 43.75 CM 88,750 FC 45,000 43,750