Managerial Accounting by James Jiambalvo Chapter 4: Cost-Volume-Profit- Analysis Slides Prepared by: Scott Peterson Northern State University.

Managerial Accountingby James Jiambalvo

Chapter 4:

Cost-Volume-Profit-Analysis

Slides Prepared by:

Scott Peterson

Northern State University

Objectives

1. Identify common cost behavior patterns.

2. Estimate the relation between cost and activity using account analysis and the high-low method.

3. Perform cost-volume-profit-analysis for single products.

4. Perform cost-volume-profit-analysis for multiple products.

Objectives (continued)

5. Discuss the effect of operating leverage.

6. Use the contribution margin per unit of the constraint to analyze situations involving a resource constraint.

Common Cost Behavior Patterns

1. Cost-Volume-Profit-Analysis (C-V-P)2. Variable Costs3. Fixed Costs

a. Discretionary Fixed Costsb. Committed Fixed Costs

4. Mixed Costs5. Step Costs

Variable Costs

Fixed Costs

Mixed Costs

Cost Estimation Methods

Cost Estimation Methods are frequently required to separate the fixed and variable components of a total cost pool. Methods include:

1. Account Analysis

2. Scattergraph

3. High-Low Method

4. Regression

5. Relevant Range

Scattergraph

High-Low Method

Example: Let total costs at 500 units of output be $150,000 and at 3,000 units of output be $400,000. Calculate variable and fixed costs, respectively.

High-Low Method

Solution: High Low Change

Costs: $400,000 $150,000 $250,000

Units: 3,000 500 2,500

Calculate Variable Cost Per Unit:

$250,000/2,500 = $100

Calculate Total Fixed Costs:

$400,000 – (3,000 x 100) = $100,000

High-Low Method

Regression Analysis

Relevant Range

Cost-Volume-Profit Analysis

1. The Profit Equation

2. Breakeven Point

3. Margin of Safety

4. Contribution Margin

5. Contribution Margin Ratio

6. What-if Analysis

The Profit Equation

Profit = SP(x) –VC(x) – TFC

X = Quantity of units produced and sold

SP = Selling price per unit

VC = Variable cost per unit

TFC = Total fixed cost

Break-Even Point

TFC/CM(per unit) = Break-Even (units)

X = Quantity of units produced and sold

SP = Selling price per unit

VC = Variable cost per unit

CM = Contribution margin

TFC = Total fixed cost

Break-Even Point

Contribution Margin

SP(u) – VC(u) = CM (u)

SP = Selling price per unit

VC = Variable cost per unit

CM = Contribution margin

u = per unit

Contribution Margin Ratio

(SP – VC) / SP = CM%

SP = Selling Price per unit

VC = Variable Cost per unit

CM = Contribution Margin

“What If” Analysis

Examples include analyzing changes in:

1. Selling price per unit

2. Variable cost per unit

3. Total fixed cost

Multiproduct Analysis

C-V-P applied to multiple products.

1. Contribution Margin Approach (used for similar products).

2. Contribution Margin Ratio Approach (used for substantially different products).

Contribution Margin Approach

Example: the contribution margin of product A is $8 and B is $5. Two units of B are sold for each unit of A. The Weighted Average Contribution Margin is $6.00.

Contribution Margin Ratio Approach

Example: the contribution margin ratio of product A is 20% and B is 50%. Two units of B are sold for each unit of A. The Weighted Average Contribution Margin Ratio is 40%.

Assumptions in C-V-P Analysis

1. Costs can be accurately separated into variable and fixed components.

2. Fixed costs remain fixed.

3. Variable costs per unit do not change over the relevant range.

Operating Leverage

Example of Operating Leverage:

Firm 1 Firm 2

Sales $10,000,000 $10,000,000

VC 5,000,000 7,000,000

CM 5,000,000 3,000,000

FC 3,000,000 1,000,000

Profit $2,000,000 $2,000,000

Which firm has more?

Constraints

1. A reference to scarce resources.

2. Examples of constraints include manufacturing space, labor, parts and materials etc..

3. The focus shifts away from Contribution Margin and to the scarce resource or constraint.

Quick Review Question #1

1. At Winford Corp., the selling price per unit for lawn mowers is $120, variable cost per unit is $55. Fixed costs are $130,000. Contribution Margin per unit is?a. $65b. $75c. $175d. $30

Quick Review Answer #1

1. At Winford Corp., the selling price per unit for lawn mowers is $120, variable cost per unit is $55. Fixed costs are $130,000. Contribution margin per unit is?a. $65b. $75c. $175d. $30

Quick Review Question #2

2. At Winford Corp., the selling price per unit for lawn mowers is $120, variable cost per unit is $55. Fixed costs are $130,000. Break-Even Point is?

a. 1,000 units

b. 1,083 units

c. 2,000 units

d. None of these

Quick Review Answer #2

2. At Winford Corp., the selling price per unit for lawn mowers is $120, variable cost per unit is $55. Fixed costs are $130,000. Break-Even Point is?

a. 1,000 units

b. 1,083 units

c. 2,000 units

d. None of these

Quick Review Question #3

3. At Winford Corp., the selling price per unit for lawn mowers is $120, variable cost per unit is $55. Fixed costs are $130,000. Expected sales are 4,200 units. The Margin of Safety is?a. $264,000b. $384,000c. $143,000d. $121,000

Quick Review Answer #3

3. At Winford Corp., the selling price per unit for lawn mowers is $120, variable cost per unit is $55. Fixed costs are $130,000. Expected sales are 4,200 units. The Margin of Safety is?a. $264,000b. $384,000c. $143,000d. $121,000

Quick Review Question #4

4. At Winford Corp., the selling price per unit for lawn mowers is $120, variable cost per unit is $55. Fixed costs are $130,000. Expected sales are 4,200 units. What is profit expected to be?

Answer here: _________________

Quick Review Answer #4

4. At Winford Corp., the selling price per unit for lawn mowers is $120, variable cost per unit is $55. Fixed costs are $130,000. Expected sales are 4,200 units. What is profit expected to be?

Answer here: $143,000

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