Cost-Volume-Profit Analysis

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Basics

Terms to know

Contribution Margin:

(total revenues) - (total variable cost)

Contribution Margin Per Unit:

(​​​​​​​selling price) - (variable cost per unit)

Contribution Margin Ratio:

​​​​​​​(contribution margin) / (revenue)

Formulas we already know

Revenue:

​​​​​​​(selling price) x (quantity)

Variable Cost:

​​​​​​​(variable cost per unit) x (quantity)

Operating Income:

​​​​​​​(contribution margin) - (fixed cost)

(selling price x quantity) - (fixed or variable cost)

Assumptions in CVP analysis

changes in production/sales volume are the sole cause for the cost and revenue changes

making less or more units

total costs consist of fixed costs and variable costs

has to fit in one of these buckets

revenue and costs behave and can be graphed as a linear function (straight line)

selling price, variable cost per unit, and fixed costs are all known and constant

the time value of money (interest) is ignored

shortcoming of CVP

simple

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More Formulas

Break Even Point

Where total revenue = total costs

operating income = 0

BEP = (fixed costs) / (contribution margin per unit)

solve for quantity in units

Target Operating Income

BEP = (fixed costs + target income) / (contribution margin per unit)

Profit

profit = (revenue) - (variable cost) - (fixed cost)

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CVP in Decision Making

How CVP is used in decision making

decision to advertise

decision to change selling price

How CVP helps in cost planning

calculate outcome if something changes or predicted data is not achieved

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Fixed vs Variable Costs

Fixed

doesn't change

still needed to make product

does not vary with quantity

Variable

changes with number of products made

varies with quantity

(variable cost per unit) x (quantity) = variable cost