CVP Flashcards
Describe how break-even analysis can assist a business in the decision-making process.
allows managers to ascertain at what volume of production it will cover all of its
fixed and variable costs
can assist managers to make informed decisions when evaluating short-term
alternatives and plans.
Outline how the business will determine which of two products will have
its production levels reduced.
The business will need to compare the contribution margin of each
product per limited resource (e.g. machine hours). The product with
the lowest result is that which should have its production reduced.
Explain how management might use cost-volume-profit analysis for decision making purposes.
Cost-volume-profit (CVP) analysis enables decision-makers to assess how
changes in selling prices, costs and volume impact upon the performance of a
business.
Explain what is meant by the term ‘margin of safety’.
The margin of safety is the excess sales (measured in terms of units sold,
sales revenue dollars or percentage), that the budgeted sales exceed breakeven sales.
Fixed cost
In total, within a relevant range, do not change with the number of products manufactured.
Variable cost
In total, within a relevant range, change in proportion with the products manufactured.
Cost volume profit analysis
Explores the relationship that exists between the revenue, expenses and the profit of a business.
Break even analysis limitations
- Fixed expenses are fixed for only a limited period of time. Increase in long term.
- Variable expenses per unit may decrease as a manufacturing business expands.
- Business may get a discount which decreases variable cost if buying bulk.
Quantitative and qualitative factors for closing product lines
Quantitative: complementary products may be affected by a product line closure.
Qualitative: customer impact (lose loyalty), real estate (if closed product line property not being used = expense), employee morale (layoffs)
Pros and cons to outsourcing
PROS
No capital investment needed, variable cost is stable/fixed, takes advantage of economies of scale = more cost efficient.
CONS
Cannot easily change purchase volume
Delay in delivery of products
Production cannot be easily customisable
Pros and cons to in-house production
PROS
Greater quality control of the production process
Greater volume control
CONS
Requires Capital Investment
Changing Variable Cost
How is the contribution margin useful to management?
The contribution margin represents the amount of sales revenue available to cover the fixed costs and contribute towards profit.
How will the break-even point be affected if they invest in new machinery resulting in fewer workers being employed?
Fewer workers will lower variable costs, and thus the contribution margin will be higher. Breakeven point will be less, and thus need to make less items to cover costs.
