Cost-Volume-Profit Relationship - Google Docs PDF

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Cost-Volume-Profit Relationship Maximize Profit Cost-Volume-Profit Analysis ● Sales mix: how much of each product to produce and sell The Contribution Format of Income Statement ● Contribution Margin (CM): the amount remaining from sales revenue after variable expenses have been deducted ○ Covers fixed costs and provides for income ○ Contribution margin = sales - variable expenses The Contribution Approach ● Break-even is the level of sales at which profit is 0

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When you increase/decrease sales by x unit, NOI will increase/decrease by our unit contribution margin Unit Contribution Margin = unit price - vc/unit contribution margin = sales - variable expenses Estimating profits at a particular sales volume ○ Multiply # of units sold above break-even by the contribution margin per unit

CVP Relationship in Equation Form 1. Profit = ( sales - variable expense) - Fixed Expenses Quantity Sold Quantity sold x selling price x variable expense per unit per unit = sales (QxP) = variable expenses (QxV) 2. Profit = (PxQ - VxQ) - Fixed Expenses (P-V)Q - FC 3. Profit = Unit CM(Q) - FC 4. Profit = Contribution margin - Fixed Cost Contribution Margin Ratio (CM Ratio) CM

CM Ratio = Sales CM Ratio =

Sales variablecost Sales

CM unit CM Ratio = unitprice

CM Ratio =

unitprice vc /unit unitprice

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5. Profit = CM ratio x Sales - Fixed Costs Target Profit in Units Profit = unit CM x Q - Fixed Expenses P rof it+F ixedExpenses unitCM

Q=

Unit Sales =

how many units you need to sell to reach target profit

P rof it+F ixedExpenses unitCM

Dollar Sales =

P rof it+F ixedExpenses CM Ratio

Break-Even Analysis in Units ● To determine unit sales and dollar sales needed to achieve a target profit of 0 ○

Break Even (Unit Sales) =

○ Break Even ($ Sales) =

F ixedExpenses unitCM

F ixedExpenses CM Ratio

Margin of Safety ($, units, %) Margin of safety ($) = Total Budgeted (actual) sales - break-even sales Margin of safety (units) = Total # of units - break even units Marginof saf etyin$

Margin of safety (%) = Actual budgetedsales / Ex: if margin of safety was 20%, it means you can have a 20% decrease in sales and still be able to break-even Operating Leverage ● Measure of how sensitive net operating income is to percentage changes in sales ● Measure at any given level of sales of how a percentage change in sales volume will affect profits

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ContributionMargin

Degree of Operating Leverage = NetOperatingIncome So if D.O.L is 2, if sales increase by 10%, NOI will increase by 20%

Sales Mix ● Relative percentage in which company sell its products ● Sales mix is important because different products often have very different contribution margins ○ Sell more of the more profitable product

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Sales mix is a calculation that determines the proportion of each product a business sells relative to total sales ○ Significant because some products or services may be more profitable than others, and if a company’s sales mix changes, its profit also changes ○ Look at contribution ratio of each individual product

Company CM Ratio =

CompanyCM (CompanyT otalSales T otalV ariableExpenses) CompanyT otalSales

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