CVP Relationships Flashcards
What is CVP analysis?
It helps managers understand the interrelationship between cost, volume and profit in an organisation
What does CVP analysis focus on?
Prices of products, volume or level of activity, per unit variable costs, total fixed costs and mix of products sold
What is contribution margin?
It is the amount remaining from sales after variable expenses have been deducted
Where is the contribution approach used?
It is used primarily by management
What is the contribution margin ratio?
Contribution margin / sales
How do we calculate break-even analysis using the equation method?
Sales = Variable expenses + Fixed expenses + Profits
What is the break-even point?
When profits equal zero
How do we calculate break-even point in units sold?
Fixed expenses / Unit contribution margin
How do we calculate break-even point in total sales?
Fixed expenses / CM ratio
What is the margin of safety?
The excess of budgeted (or actual) sales over the break-even volume of sales. The amount of which sales can drop before losses begin to be incurred
How do we calculate the margin of safety?
Total sales - Break-even sales
What is operating leverage?
A measure of how sensitive profit is to percentage changes in sales
What happens if there is a high operating leverage?
A small percentage increase in sales can produce a much larger percentage increase in profit
How do we calculate the degree of operating leverage?
Contribution margin / profit
What is sales mix?
The relative proportions in which a company’s products are sold
What can changes in the sales mix cause?
It can cause interesting (and sometimes confusing) variations in a company’s profits
What happens if the sales mix changes?
The break-even point will also change
What are the assumptions of CVP analysis?
Selling price is constant throughout the entire relevant range, costs are linear throughout the entire relevant range, in multi-product companies, the sales mix is constant and in manufacturing companies, inventories do not change
