Chapter 4: Cost and Profitability Flashcards
Explore how businesses calculate costs and measure profitability. Topics include fixed and variable costs, gross profit, net profit, and break-even analysis.
- What is cost accounting?
Cost accounting tracks, analyzes, and reports costs associated with producing goods or services. It helps businesses identify ways to reduce expenses and improve profitability. For example, a bakery might use cost accounting to calculate the cost of ingredients for each loaf of bread.
- What is gross profit?
Gross profit is the difference between revenue and the cost of goods sold (COGS). It shows how much money a business makes after covering direct costs. For example, if a company sells a product for $100 and the COGS is $60, the gross profit is $40.
- What is net profit?
Net profit is the amount of money left after subtracting all expenses (including operating costs, taxes, and interest) from revenue. For instance, if a business earns $100,000 in revenue and has $80,000 in total expenses, the net profit is $20,000.
- What is operating margin?
Operating margin measures the percentage of revenue left after covering operating expenses. It’s calculated as:
Operating Margin=(Operating Income/Revenue)×100
For example, if a company has $50,000 in revenue and $10,000 in operating income, the operating margin is 20%.
- What is a fixed cost?
Fixed costs remain constant regardless of production levels. Examples include rent, insurance, and salaries. For instance, a company pays $1,000 monthly rent whether it produces 1 unit or 1,000 units.
- What is a variable cost?
Variable costs change based on production levels. Examples include raw materials and shipping fees. For example, the cost of flour for a bakery increases as more bread is produced.
- What is the difference between fixed and variable costs?
Fixed costs stay the same regardless of production, while variable costs change with production levels. For instance, rent is a fixed cost, while the cost of ingredients is variable.
- What is the break-even point?
The break-even point is when a business’s revenue equals its total costs (fixed and variable), meaning no profit or loss. It’s calculated as:
Break-EvenPoint(Units)=FixedCosts/(PriceperUnit−VariableCostperUnit)
- What is contribution margin?
Contribution margin is the amount each unit contributes to covering fixed costs and generating profit. It’s calculated as:
Contribution Margin=Price per Unit−Variable Cost per Unit
For example, if a product sells for $10 and the variable cost is $6, the contribution margin is $4.
- Why is understanding cost and profitability important?
Knowing costs and profitability helps businesses set prices, control expenses, and make strategic decisions. For instance, a company can adjust prices or reduce variable costs to improve profit margins and remain competitive.
