A study on Cost-Volume Profit analysis .pptx

it is a presentation on cost-volume profit analysis. It explains various tools and techniques to study impact of cost on profit.

1. Cost-Volume P rofit analysis By: Dr. Preeti Jindal

2. Meaning of CVP Analysis CVP analysis is the analysis of three variable viz. cost, volume and profit. Such analysis explores the relationship existing amongst costs, revenue, activity level and resulting profit. Illustration 18-9

3. Objective CVP Analysis It aims at measuring impact of changes in costs and volume on a company’s profits.

4. Assumption of CVP Analysis Behavior of both costs and revenues is linear throughout the relevant range of the activity index. Costs can be classified accurately as either variable or fixed. Changes in activity are the only factors that affect costs. All units produced are sold. When more than one type of product is sold, the sales mix will remain constant.

5. Cost behaviour Analysis To understand cost-volume-profit (CVP), you must know how costs behave.

6. Cost behaviour Analysis-Continued Cost Behavior Analysis is: the study of how specific costs respond to changes in the level of business activity . A ccording to their response to changes in Cost can be classified Variable Costs Fixed Costs Semi-Variable Costs

7. Variable Cost Variable costs are costs that vary in total directly and proportionately with changes in the activity level. Example: If the activity level increases 10 percent, total variable costs will increase 10 percent . Example: If the activity level decreases by 25 percent, total variable costs will decrease by 25 percent. Variable costs remain the same per unit at every level of activity.

8. Variable Cost Examples of Variable Costs: Direct Materials. Direct Labor.

9. Variable Cost

10. Fixed Cost Fixed costs are costs that remain the same in total regardless of changes in the activity level. Fixed costs per unit cost vary inversely with activity: As volume increases, unit cost declines, and vice versa. Examples include : , Property taxes Insurance, and Rent.

11. Fixed Cost

12. Semi-Variable Cost Costs that have both a variable cost element and a fixed cost element. These are called semivariable cost . Change in total but not proportionately with changes in activity level . A manufacturer's electricity cost is an example of a semi- variable cost. Part of the monthly electricity bill will include 1) a fixed amount, and 2) a separate amount based on the number of kilowatt hours of electricity actually used by the company.

13. Semi-Variable Cost Illustration 18-5

14. Semi-Variable Cost For purposes of Cost-Volume-Profit (CVP) analysis, mixed costs must be classified into their fixed and variable elements.

15. How to Conduct CVP Analysis Following are the tools you can use to do cost-volume-profit analysis: Contribution P/V Ratio (Profit-Volume Ratio) BREAK-EVEN Analysis Margin of Safety Angle of Incidence

16. Contribution Contribution is excess of sales revenue over variable cost. IT is the amount available to cover fixed costs and to contribute to income. Example – suppose a firm is selling 100 units @ Rs. 20 per unit . The variable cost for producing these units is Rs. 5 per unit and fixed cost incurred by the business is Rs. 1000. Contribution = Sales revenue – variable cost = (100×20) – (100×5) = 2000 – 500 =1500 Profit = Contribution – fixed cost = 1500 - 1000 = 500

17. Profit Volume Ratio When contribution margin is expressed in percentage of sales is called P/V Ratio . P/V Ratio = [Contribution /sales ] × 100 Example- Sales revenue of X ltd. Is Rs 50000, Variable cost is Rs 35000 and fixed cost is Rs 10000. Find out P/V ratio. P/V ratio = [contribution/sales] × 100 = [15000/50000] × 100 = 30%

18. Break-Even Analysis Break even point is no profit no loss point, where total cost is equal to total sales . Formula to calculate B.E.P Break Even Sales (in amount) =Fixed cost/PV Ratio Break Even Sales (in units) = Fixed Cost/contribution per unit

19. Example of B.E.P Sales price per unit = Rs 50 Variable cost per unit = Rs 30 Fixed cost = Rs 20000 Calculate break even point Solution: contribution = Rs 20 per unit (50-30) Fixed cost = Rs 20000 P/V ratio = contribution/sales × 100 =20/50 × 100 = 40 % Break Even Point (in amount) = Fixed cost/PV ratio = 20000/40 × 100 = 50000 Break Even Point (in units ) = Fixed cost/Contribution per unit =20000/ 20 = 1000 units

20. MARGIN OF SAFETY MARGIN OF SAFETY It is the difference between actual sales and break even sales of a business. Margin of Safety = Actual sales – Sales at BEP (in Units) Margin of safety = Profit/PV ratio (In Rs.) It is the level of sales which incurred after break –even point.

21. Angle of Incidence The angle formed by the sales line and the total cost line at the break-even point is known as Angle of Incidence. The angle of incidence shows the rate at which profit are being earned once the break-even point has been reached. A large angle of incidence indicates a high rate of profit A small angle of incidence indicates a low rate of profit.

22. Cost volume profit graph

23. How Is CVP Analysis Used for Sensitivity Analysis? Managers can use CVP relationships to conduct sensitivity analysis. Sensitivity analysis is a “what if” technique that estimates profit or loss results if sales price, cost, volume change.

24. Change in sales price If the sales price changes from $500 to $475, the number of units needed to breakeven increases from 54 to 60

25. Change in Variable Costs If one of Smart Touch Learning’ s suppliers raises prices and variable costs increase from $275 to $285, the number of units needed to break even increases from 54 to 56.

26. Changes in Fixed Costs If Smart Touch Learning ’ s fixed costs increase from $12,000 to $15,000, the number of units needed to break even increases from 54 to 67.

27. How Is CVP Analysis Used for Sensitivity Analysis?

28. Application of CVP Analysis In Decision Making Make or buy decisions, Determination of Sales mix Exploring foreign markets, Accept an order or not, Determination of selling price in different conditions, Replace one product with some other product, Achieving a desired level of profit Expand the business or not, Diversification, Shutdown or continue,