Break even analysis

Question 1

What is unit contribution formula?

Answer 1

sale Price- variable cost per unit

Question 2

What are the 2 formulas for total contribution?

Answer 2

Contribution X number of units
Sales revenue – total variable costs

Question 3

What is contribution used for?

Answer 3

Prioritise output and make decisions
Calculating profit

Question 4

How can contribution prioritise output and help make decisions?

Answer 4

Useful for a business that sells multiple products or services to see which contribute more to overall business

Question 5

What is the formula for calculating profit from contribution?

Answer 5

Profit= total contribution–Total fixed costs

Question 6

What would the contribution be if selling price was 35 and variable cost per unit was 37?

Answer 6

(2)

Question 7

What would total contribution be if contribution per unit was 7 and # of unit sold is 100?

Answer 7

700

Question 8

What would the profit of a business be if output is 500 units, contribution per unit is 5 and fixed costs are 1200?

Answer 8

1300

Question 9

What is the break even point?

Answer 9

level of sales/ output where total costs are equal to total revenue

Question 10

If the business making a profit or loss when at break even point?

Answer 10

neither

Question 11

What does it mean if output is below break even point?

Answer 11

a loss will be made

Question 12

What does it mean if output is above break even point?

Answer 12

profit is made

Question 13

Why do firms use break even analysis?

Answer 13

Calculate in advance sales needed to break even
See how changes in sale/output affect profit
Changes in cost price affect breakeven and profit
Level of output/sale needed to reach target profit

Question 14

What is the formula for breakeven point?

Answer 14

Total fixed costs/Unit contribution (selling price- variable cost)= Units

Question 15

What is the breakeven point if fixed costs are £60,000and contribution is £60?

Answer 15

1,000 units

Question 16

What is the break even safety margin?

Answer 16

the margin of safety is the amount by which sales exceed the break-even point

Question 17

What is the margin for safety if the breakeven point is 300 and current production is 400?

Answer 17

100
33.33% (production above break even point/ unit to break even x100)

Question 18

What would profit be if total safety margin is 8 and contribution per unit is 126.5?

Answer 18

1012

Question 19

What 3 considerations must a business bear in mind when establishing pricing policy?

Answer 19

Establishing an acceptable return on capital
Understanding the relationship between fixed and variable costs
Knowing the price that the market will bear

Question 20

What must you do when using the considerations for pricing policy?

Answer 20

Cannot be considered independently must all be taken into account

Question 21

What must be considered when deciding an acceptable return on capital for pricing policy?

Answer 21

Business objective of giving suitable return to investors
Investors will withdraw their funds if better opportunities elsewhere
Sufficiently high selling price should be established to provide adequate return

Question 22

How should special orders be priced?

Answer 22

less than absorption cost but above marginal cost

Question 23

What does a business need to do to make a profit? (break even)

Answer 23

selling price needs to be set so that fixed costs are more than covered by the contribution from sales any surplus after fixed cost is profit

Question 24

Example of why relationship between fixed and variable costs must be understood?

Answer 24

Possible to carry out manufacturing process in 2 different ways 1.labour intensive (few inexpensive machines) 2.costly machines but few operators
First method- variable cost high but fixed costs are low
Second method- variable costs low but fixed costs are high

Question 25

What will affect how fixed are variable costs are treated?

Answer 25

depends on costs involved and the likely demand and selling price of the product

Question 26

How are goods sold by a business usually valued?

Answer 26

set at a price in comparison with other manufacturers of the same or similar products (unless they produce a unique good with sole manufacturing rights)

Question 27

What will happen in a free economy with buyers? (price market will bear)

Answer 27

Will purchase form the supplier that can produce the product at least cost

Question 28

What would happen to inefficient producers in an ideal world?

Answer 28

will be forced out of the market and in order to re-establish themselves will have to look closely at their costings and/or production techniques.

Question 29

What is the problem with breakeven analysis?

Answer 29

assumes that the relationship between sales revenue, variable costs and fixed costs remains the same at all levels of production (simplistic view)

Question 30

What ae the limitations of break even graphs (and break even calculations)?

Answer 30

All cost and revenue expressed as straight lines
Fixed costs do not remain fixed at all levels of production
Not possible to extrapolate the graph
Profit or loss shown by the graph or calculations is probably only true for figures close to current production levels
Concentrates too much attention on break-even point
Difficult to use in a multi product firm
Based on estimates not always accurate
Only takes into account financial factors

Question 31

Why is all cost and revenue being expressed in terms of straight lines a limitation of break-even analysis?

Answer 31

Not always the case
Selling price may vary at different quantities
variable costs alter at different levels as a business takes of lower prices gained from bulk buying or more efficient production methods

Question 32

What is an example of fixed costs not remaining at all levels of production? (limitation of break even analysis)

Answer 32

a decision to double production is likely to increase the fixed costs

Question 33

What does it mean when you say the break even graph can’t be extrapolated?

Answer 33

Means that the lines on the graph can’t be extended beyond the beyond limit of activity the graph is based on

Question 34

Why is the time relation of the break even graph a limitation?

Answer 34

As the further away from current figures you go the less accurate the profit or loss shown will be

Question 35

Why is sensitivity analysis used?

Answer 35

To evaluate the effects and changes in sales volume, selling price and costs on the break even point and profits

Question 36

What is needed for sensitivity analysis?

Answer 36

Variable and fixed production costs must be known

Question 37

What can sensitivity analysis be used to consider?

Answer 37

A fall in sales
A fall in price
A rise is variable cost
A rise in fixed costs

Question 38

How can sensitivity analyse a fall in sales?

Answer 38

How much sales would have to fall to break even
Expressed as a % (usual % change calculation)

Question 39

How can sensitivity analysis consider a fall in price?

Answer 39

How much price would need to fall for business to break even
Work out contribution per unit at breakeven differnce between (selling price - variable cost) and breakeven contribution is the fall
Can be presented as %

Question 40

How does sensitivity analysis consider a rise in variable cost?

Answer 40

How much the variable costs have to rise for business to breakeven
Opposite of selling price to meet contribution for breakeven you increase the variable cost
Shown as % increase

Question 41

How can sensitivity analysis consider a rise in fixed cost?

Answer 41

How much fixed costs would have to rise to breakeven
Would increase fixed cost by however mush profit there is
Can be shown as %

Question 42

What are uses of break even graphs?

Answer 42

Easy to understand and read
Good way to present information to non-financial people
Good way to see how different changes impact the business
Predict profit/loss at different output levels
Business start-up can see if business if worth setting up