CVP and ABC Flashcards
what is the purpose of CVP analysis?
analyzes the relationship between changes in activity (output volume) and changes in total sales revenue, cost and profit. allows for the prediction of the financial impact when volume changes.
assumptions of CVP analysis
- sales price and variable cost do not change with volume
- sales mix remains constant
- linear relationship between total revenue and total variable costs within a relevant product range
- profits are calculated on a variable costing basis
- costs can be accurately divided into fixed and variable
- CVP only appropriate for decisions taken within a relevant range
- CVP only applies to short-term
what is the contribution margin?
the amount of selling price less var costs that contributes to covering fixed costs (but can also contribute to profit)
contribution margin ratio
CM / revenue or sales x 100
% of rand sales value that is available to cover fixed costs and profit
what is the breakeven point?
the point at which you make neither a profit nor a loss. sales only covers total costs.
breakeven sales formula
fixed costs / CM ratio
how much sales value is necessary to cover fixed costs
why is the breakeven point important?
allows us to assess how close a business is to making a loss. the closer your demand is to your breakeven, the riskier it is that you may not sell enough to cover your costs
margin of safety formula
= current sales - breakeven sales
= budgeted sales - breakeven sales / budgeted sales
what is the margin of safety
looks at how close to the breakeven you are
target units formula
(fixed costs + target profit) / CM per unit
breakeven units formula
fixed costs / CM per unit
what is the sales mix?
the relevant proportions in which a company’s products are sold
what is the operating leverage?
CM / net profit
the extent to which orgs use fixed costs in the cost structure
degree of operating leverage formula
= % change in op inc / % change in sales
= CM ratio / operating margin
= total contribution / net op inc
what can operating leverage help us determine?
- how well you use fixed costs
- relationships between profits and costs
what is the degree of operating leverage?
the multiple by which operating income of a bus changes in response to a given % change in sales (extent of operating leverage)
what does high OL mean?
more sensitive to changes in sales. high op profit margin.
why is it necessary to allocate overheads?
for decision making
what is an indirect cost?
a cost which cannot be specifically/exclusively identified with a given cost object
PDOHR formula
budg OH costs / budg activity level
what are the consequences of arbitrary allocation as used in traditional costing?
undercosting and overcosting, meaning products will be priced incorrectly
what is the purpose of ABC?
assigns indirect costs accurately to cost objects based on cost driver
how ABC assigns costs
assigns costs based on the most appropriate cost driver for an activity – can volume or non-volume based
steps to implement ABC
- id and define activities of an org
- assign costs to cost activities
- identify cost drivers for each activities
- calculate activity rates for cost drivers
- assign costs to cost objects
p/s sustaining activities in ABC
performed to enable the production of individual p/s
facility-sustaining activities in ABC
performed to support the org as a whole. will not be allocated for ABC.
why do we not allocate rent in ABC?
it is not alterable in production unless a facility is shut down. can use floor space to allocate if necessary.
why do we allocate depreciation in ABC?
increased production = inc machine hours = more wear and tear on the machine = inc future capex
what is capital expenditure in ABC?
the once-off/upfront cost of purchasing equipment
capacities to use in ABC
practical for fixed OH
actual for variable OH
disadvantages of ABC
- substantial resources and inv required to implement
- costs can > benefits as ABC isn’t applicable to all businesses
- mgmt may oppose as ABC exposes wages
advantages of ABC
- data is reliable – gives more accurate costs as it reflects real utilization of services
- charges divisions based on consumption rather than revenue can encourage divisions to be more efficient and reduce costs/wastage
