Lesson 2

Question 1

Since the future is uncertain and circumstances are likely to change, why should a business bother to plan?

Answer 1

A business plan serves the following needs:

1. As a benchmark against which performance can be evaluated
2. Information for CVP analysis (Cost Volume Profit)

Question 2

What should a business include in its business plan?

Answer 2

1. Description of the business
2. Marketing plan
3. Description of the operations of the business
4. Environmental management plan
5. Financial plan

Question 3

How does accounting information contribute to the planning process?

Answer 3

1. Accountants determine how revenue, variable costs and fixed costs affect profits.
2. Observing cost behaviour patterns lets accountants determine if the costs are fixed or variable
3. This information can be used to predict costs.
4. Accounting information can help decision makers evaluate alternative plans using CVP
5. CVP analysis is a tool that helps managers think critically about different aspects of each plan.

Question 4

What is CVP analysis? (Cost Volume Profit analysis)

Answer 4

Break-even analysis.

Question 5

What is a line of credit?

Answer 5

An amount of money a business is allowed to borrow with a prearranged agreed-upon interest rate and a specific payback period.

Question 6

What is Long-term capital?

Answer 6

Capital that will be repaid to creditors or returned to investors after more than one year.

Question 7

What are the steps in projecting financial performance?

Answer 7

1. The data you use should be as reliable as possible.
2. Consider several scenarios because predicting a business’s financial performance is uncertain.
3. Revise your projections as more facts become available.
4. Ensure that the financial plan is consistent with the information in the other sections of the business plan.

Question 8

What does CVP analysis tell you?

Answer 8

Cost-Volume-Profit analysis shows how profit is affected by changes in sales volume, selling prices of products and the various costs of a business.

Question 9

What is a fixed cost?

Answer 9

A fixed cost is a cost that is constant in total and not affected by sales volume.

Question 10

What is a Variable cost?

Answer 10

A variable cost is a cost that is constant per unit and that changes in total in direct proportion to changes in volume.

Question 11

What are total costs?

Answer 11

The total costs are the sum of the fixed costs and variable costs at a given volume.

Question 12

What is the equation for total cost?

Answer 12

Total cost = f + vX

f = Total fixed costs
v = Variable cost per unit sold
X = Sales volume

Question 13

What is total contribution margin?

Answer 13

The difference between the total sales revenue and the total variable cost.

Question 14

What is contribution margin per unit?

Answer 14

The difference between the sales revenue per unit and the variable costs per unit.

Question 15

Why is CVP analysis useful in planning?

Answer 15

Because it shows the impact of alternative plans on profit.

Question 16

What is the break-even equation?

Answer 16

Unit sales volume (to earn zero profit) = Total fixed costs / Contribution margin per unit.

Question 17

How does accounting information contribute to the planning process?

Answer 17

By observing cost behaviour patterns accountants are able to classify the costs as either fixed or variable and then to use this classification to predict the amounts of the costs at different activity levels.

Question 18

What must decision-makers be able to predict in order to estimate profit at a given sales volume?

Answer 18

Decision-makers must be able to predict the products selling price the costs that the business will incur and the behavior of those costs (whether they are fixed or variable)

Question 19

How can decision-makers predict the sales volume necessary for estimated revenues to cover estimated costs?

Answer 19

To predict the sales volume necessary for estimated revenues to cover estimated costs, decision-makers must rearrange the profit equation into the break-even equation.

Question 20

How can decision-makers predict the sales volume necessary to achieve a target profit?

Answer 20

Decision-makers must modify the break-even equation by adding the desired profit to the estimated fixed costs.

Question 21

How can decision-makers use accounting information to evaluate alternative plans?

Answer 21

Based on accounting information alone, the alternative that leads to the highest profit will be the best solution.