Chapter 5: Cost volume profit analysis

Question 1

What is breakeven (Cost volume profit CVP) analysis?

Answer 1

Study of future profits of changes in fixed & variable costs, sales price, quantity & mix

What if analysis
Considers the impact on the budgeted profit of changes in various factors

Question 2

What is the breakeven point

Answer 2

level of activity where there is neither profit or loss

Question 3

What is the calculation for break even points in units?

Answer 3

Fixed cost/ Contribution per unit

Question 4

What is the calculation for level of activity to earn a required profit

Answer 4

Required profit+ fixed costs/ contribution per unit

Question 5

What is the calculation for margin of safety (%)?

Answer 5

((Budgeted sales- breakeven sales)/ budgeted sales)*100

Question 6

What is the calculation for contribution / sales (C/S) ratio?

Answer 6

Contribution/ sales

Question 7

What is the calculation for breakeven point in sales revenue?

Answer 7

Fixed costs/ C/S ratio

Question 8

What is the calculation for sales revenue to earn a target profit?

Answer 8

Required profit + fixed costs / C/S ratio

Question 9

aspects of a breakeven chart

Answer 9

X axis: level of activity e.g no of units
Y axis: costs & revenue
2 lines drawn on chart : Total cost & sales revenue
Margin of safety - X axis between BE point & forecast sales level
Variable cost - Y axis between total cost & Fixed cost
Fixed cost line on the y axis
Above BE diff between Sales rev & total cost = profit and below = loss

can fall under margin of safety without making a loss

Question 10

Steps to draw a breakeven chart

Answer 10

Step 1: Select scales of axis. X = largest no of units forecast. Y= monthly sales revenue max

Step 2: Draw & label fixed cost line

Step 3: Draw& label total cost line (Variable costs total + fixed for forecasted volumes)

Step 4: Draw & label sales revenue line (starts at 0 to max)

Step 5: Marked required info on chart. Check BE point is correct using breakeven point in units formula
Calculate Margin of safety %

Question 11

Problem with normal BE chart

Answer 11

Can’t read contribution directly

Question 12

What is the difference between a normal BE chart & contribution BE chart

Answer 12

Contribution BE chart has a line for variable costs
Calculate contribution diff in sales revenue for forecast vols & variable cost

Fixed cost= Total cost for forecast vols - variable cost

Question 13

What’s a profit- volume chart

Answer 13

The BE cross the X across
Plot the profit/loss line for each level of activity

AKA profit- volume graph or a contribution - volume graph

Question 14

What is the advantage of a profit-volume chart

Answer 14

depict the effect on profit & BE point in changes to the variables

Question 15

What does CVP analysis assume if it sells a range of products

Answer 15

Sales in accordance to a pre-determined sales mix (average revs & variable costs assuming the mix remains constant)

Question 16

Calculation for BE point in a multi- product firm

Answer 16

Fixed costs/ weighted average contribution to sales ratio

weighted average contribution to sales ratio= Total contribution/ total sales

Question 17

Calculation for sales revenue required to a target profit

Answer 17

(Fixed costs + required profit)/ weighted average C/S ratio

Not always achievable
Market dynamic influences the selling price not the seller

Question 18

Steps to draw the multi-product profit- volume graph

Answer 18

Step 1: Calc C/S ratio of each product sold, rank in order of profitability (hgihest c/s ratio ranked first)

Step 2: Draw graph. X axis= cum sales. Y= profit earned. V on x axis = total sales. K= at 0 output how much fixed costs are

Step 3: Draw a line from K to M where M is the largest profit product. Slope of the line is the contribution per unit on sales of that product

Step 4: Draw line M to N where N is the profit earned by 2nd product , lower contribution than 1st product and N to J - profit earned from smallest profitable product

Step 5: Draw a line joining K and J (average profitability of 3 products) assumed to be sold in the same product mix

Question 19

What 2 lines are on the multi-product profit- volume graph

Answer 19

1 straight line = constant mix between products assumed

1 bow shaped line = how individual products contribute

Question 20

What are the benefits of of plotting product individually in decision making process

Answer 20

1) Improve overall profitability = increase in sales of product with highest C/S ratio
2) helps decide what products are continued/abandoned
3) helps management focus on the price of products and whether some prices should be raised to improve individuals product’s C/S ratio
4) clarifies what changes in selling prices & sales volumes have on BE points and profits

Question 21

What are the top 5 limitations to BE analysis

Answer 21

1) behaviour of total cost & revenue is reliably determined & linear over relevant range

2)all costs divided into fixed& variable

3) total fixed costs are constant over volume range of CVP analysis

4) Variable costs directly proportionate to volume over relevant range

5) selling prices are unchanged

Question 22

What are the further 6 limitations to BE analysis

Answer 22

6) prices of production unchanged (e.g material/labour)
7) Efficiency & productivity= unchanged
8) 1 product or mix is maintained
9) Rev & costs compared on a single activity basis
10) volume only relevant factor affecting cost-not realistic assumption
11) volume of production= volume of sales - it’s market dependent . What’s produced isn’t always sold