Ch. 9 - Cost-Volume-Profit Analysis

Question 1

cost-volume-profit (CVP) analysis

Answer 1

A method for analyzing how various operating and marketing decisions affect short-term profit based on an understanding of the relationship between variable costs, fixed costs, unit selling price, and the output level (ie volume).

Question 2

What are some of the applications (uses) of CVP analysis?

Answer 2

-Setting prices for products and services
-Determining the short-term cost or profit implications of many decisions
-Deciding whether to introduce a new product or service
-Determining the desirability of replacing a piece of equipment (or other asset)
-Determining the breakeven point
-Deciding whether to make or buy a given product or service
-Determining the best product mix
-Performing strategic “what if” analyses.

Question 3

CVP is based on an explicit model of the relationship among the five factors that combine to determine the amount of short-term operating profit. What are those factors?

Answer 3

-Variable cost per unit
-Total fixed costs
-Sales volume
-Selling price per unit
-Sales mix

Question 4

What is the formula for the CVP model?

Answer 4

Operating profit = sales – total costs

(where operating profit is profit exclusive of unusual or nonrecurring items and is before tax)

Question 5

When there is no unusual or nonreoccuring items, operating profit is simply

Answer 5

before-tax income

Question 6

What is a more indepth brakedown of the CVP model formula?

Answer 6

operating profit = (units sold x selling price per unit) – (units sold x variable price per unit) – fixed costs

Question 7

Contribution margin per unit

Answer 7

The difference between the selling price per unit (p) and the variable cost per unit (v); a measure of the change in operating profit for each unit change in sales:

p-v = contribution margin per unit

It measures the change in operating profit for each unit change in sales

Question 8

total contribution margin

Answer 8

The contribution margin per unit, (p − v), multiplied by the number of units sold, Q.

Question 9

contribution margin ratio

Answer 9

Divide contribution margin by sales revenue.

For example, let’s say your revenue is $200,000 and your contribution margin is $80,000. $80,000/$200,000 is 60%, which is saying that .60 for every dollar of sales is going to variable costs, and .40 for every dollar of is going towards fixed costs and profit.

Aka The ratio of the contribution margin per unit to the selling price per unit, (p − v) ÷ p.
It identifies the projected increase or decrease in operating profit caused by a given increase or decrease in sales dollars

Question 10

contribution income statement

Answer 10

Organizes costs by the way they behave–whether they are variable or fixed

Aka In a contribution income statement, variable costs are subtracted from sales to get total contribution margin, from which fixed costs are subtracted, to yield the amount of operating profit for the period.

therefore, it puts the focus on cost behavior because it separates fixed costs and variable costs. In contrast, the conventional income statement puts the focus on costs type–product cost and non-product cost.

Question 11

CVP analysis can help a firm execute its strategy by __________

Answer 11

providing an understanding of how changes in its volume of sales affects costs and profits.

Question 12

The role of CVP analysis during the manufacturing stage of the cost cycle is to _________

Answer 12

identify the most cost-effective manufacturing methods, including automation, outsourcing, and total quality management.

Question 13

What are some strategic questions that can be addressed with CVP analysis?

Answer 13

1. What is the expected profit from a given change in sales volume for existing products, and is that change in sales volume sufficient to support strategic objectives?
2. Is the decision to add a new customer or product profitable, and is it consistent with the organization’s competitive strategy?
3. Given the organization’s strategy and future expectations for sales volume, is it best for the company to manufacture a certain part in-house or to purchase the part from another vendor?
4. Given the organization’s strategy and future expectations for sales volume, should the organization invest in future expansion?

Question 14

breakeven point

Answer 14

The point at which total revenues equal total costs so that operating profit is zero.

Question 15

What is the formulas for the breakeven point?

Answer 15

to find how many units you need to break even: Fixed costs divided by the contribution margin per unit

To find how many sales you need to break even: Fixed costs divided by the contribution margin ratio

Question 16

Contribution margin:

Answer 16

Revenue – variable costs

Ex: a company makes bicycles. They sell them for $300 a piece, but parts cost $125 per bike. So, you subtract the $125 (parts) from $300 (revenue) to arrive at a contribution margin of $ 175, which hasn’t yet accounted for fixed costs (warehouse rent, etc)

Question 17

Operating profit

Answer 17

contribution margin – fixed costs

Question 18

Degree of operating leverage

Answer 18

Contribution margin/operating profit

Question 19

What is the target profit formulas (by units & by sales)?

Answer 19

To find how many units you need to sell to make your desired profit: fixed costs + target net income amount/contribution margin per unit

To find how much you need to do in sales: fixed costs + target net income amount/contribution margin ratio

Question 20

What is the formula to figure out the number of units you need to sell to meet your desired profit after tax?

Answer 20

Number of units: total fixed costs + (desired after tax profit/1 – tax rate)/unit contribution margin

Question 21

What is the formula to figure out how much in sales you need to do to meet your desired profit after tax?

Answer 21

Number of units: total fixed costs + (desired after tax profit/1 – tax rate)/unit contribution margin ratio

Question 22

What is the margin of safety?

Answer 22

How much sales can drop before you start incurring losses.

To calculate using units: expected sales – breakeven point/breakeven point

To calculate using sales: expected sales (in dollars) – breakeven point (in sales dollars)/ expected sales (in dollars)

Question 23

What is the margin of safety percentage calculation, and what does it mean?

Answer 23

Margin of safety/sales (actual or budgeted).

(let’s say your answer is 20%). It says that sales can fall 20% before you would actually start losing money

Question 24

How do you find the degree of operating leverage (DOL)?

Answer 24

Contribution margin/net operating income

The answer gives you a number which allows you to find how much (by percentage) the company’s net operating income would increase if there was an increase in sales of x percent you multiply the percent of increased sales x the DOL number

Question 25

The level of short-term profitability of an organization is a function of ________________

Answer 25

-sales volume
-selling price per unit
-variable cost per unit
-total fixed costs
-sales mix

Question 26

Cost-volume-profit analysis is best described as __________

Answer 26

a short-term profit-planning tool

Question 27

The amount by which operating profit changes for each unit change in sales is the ___________

Answer 27

contribution margin per unit!

Question 28

what is the formula to find the necessary sales volume IN UNITS needed to generate your desired pre-tax profit?

Answer 28

fixed costs + desired operating profit/revenue-variable costs

Question 29

What is the amount of pretax profit that is equivalent of an after-tax profit of $100 if the tax rate is 20%?

Answer 29

$125

$125=$100/(1-.20)