3 Cost Volume Profit Analysis

Question 1

What is the break even analysis also known as?

Answer 1

Cost-volume-profiit analysis (CVP analysis)

Question 2

What is break even analysis?

Answer 2

Study of the effects on future profit of changes in fixed cost, variable cost, sales price, quantity and mix.

Question 3

What does break even analysis do?

Answer 3

Considers the impact on the budgeted profit of changes in these various factors.

Question 4

What is the break even point?

Answer 4

Level of activity at which there is neither profit, nor loss.

Question 5

What is the formula for working out break even points in units?

Answer 5

Fixed costs/contribution per unit

Question 6

How do you work out the level of activity for a required profit?

Answer 6

Required profit + fixed costs / contribution per unit

Question 7

What is the margin of safety?

Answer 7

The margin of safety is the difference between the budgeted level of activity and the break-even level of activity. It may be expressed in terms of units, sales value or as a percentage of the original budget.

Question 8

What does the contribution sales ratio reveal?

Answer 8

The C/S ratio reveals the amount of contribution that is earned for every £1 worth of sales revenue.

Question 9

How is the C/S ratio normally shown?

Answer 9

As a percentage

Question 10

What is the C/S ratio?

Answer 10

Contribution/sales

Question 11

How do you work out the break even point in terms of sales revenue?

Answer 11

Fixed costs/C/S ratio

Question 12

How do you work out the sales revenue to earn a required profit?

Answer 12

Required profit + fixed costs / C/S ratio

Question 13

How do you work out the margin of safety as a percentage?

Answer 13

Budgeted sales - breakeven sales / budgeted sales

Question 14

What is the main advantage of profit-volume chart?

Answer 14

It is capable of depicting clearly the effect on profit and breakeven point of any changes in the variables.

Question 15

What does CVP assume if a range of products is sold?

Answer 15

Sales will be in accordance with a pre-determined sales mix.

Question 16

What is the assumption of relative proportion of each products sales to total sales?

Answer 16

The assumption has to be made that the sales mix remains constant.

Question 17

How can the relative proportion of each product’s sale to total sales be expressed?

Answer 17

As a ratio or a percentage

Question 18

What is the weighted average c/s ratio?

Answer 18

Total contribution/Total revenue

Question 19

When is the weighted average c/s ratio used?

Answer 19

In multi-product situations

Question 20

How do you work out the break even in sales revenue?

Answer 20

Fixed costs/Weighted average C/S ratio

Question 21

How do you work out the target profit for multiple products?

Answer 21

Fixed costs + required profit /Weighted average C/S ratio

Question 22

What two lines must be shown on the multi-product profit-volume graph?

Answer 22

1. One straight line where a constant mix between the products is assumed
2. One bow shaped line, to see how the individual products contribute to profit rather than as a constant mix.

Question 23

With a multi-product profit-volume graph, what is is assumed for the bow shaped line?

Answer 23

It is assumed that the company sells its most profitable product first and then its next most profitable product, and so on.

Question 24

What are some underlying assumptions that will he precision and reliability of a given cost-volume-profit analysis. (11)

Answer 24

1. The behaviour of total cost and total revenue has been reliably determined and is linear over the relevant range.
2. All costs can be divided into fixed and variable elements.
3. Total fixed costs remain constant over the relevant volume range of the CVP analysis.
4. Total variable costs are directly proportional to volume over the relevant range.
5. Selling prices are to be unchanged.
6. Prices of the factors of production are to be unchanged (for example, material, prices, wage rates).
7. Efficiency and productivity are to be unchanged.
8. The analysis either covers a single product or assumes that a given sales mix will be maintained as total volume changes.
9. Revenue and costs are being compared on a single activity basis (for example, units produced and sold or sales value of production).
10. Perhaps the most basic assumption of all is that volume is the only relevant factor affecting cost. Of course, other factors also affect costs and sales. Ordinary cost-volume-profit analysis is a crude oversimplification when these factors are unjustifiably ignored.
11. The volume of production equals the volume of sales, or changes in beginning and ending inventory levels are insignificant in amount