Session 14 - Accounting 102 Session 14 Cost-Volume-Profit...

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Session 14Accounting 102
Cost-Volume-Profit AnalysisA Tool for Decision Making
The Basis for Cost-Volume-Profit AnalysisThe Cost-Volume-Profit (CVP) ModelOperating Profit (π) = Total Revenue (TR) - Total Cost (TC)Assuming that:1)Q represents units both produced and sold (ignoring inventory considerations);2)the cost function is linear,of the form TC = F + VxQ (where F denotes the fixed costs and V the variable costs per unit);3)the revenue function is linear, of the form TR = PxQ (where P is the price/unit for any quantity sold).Then, the operating profit can be written asπ= PxQ - (F + VxQ)And, cost-volume-profit analysis, is the analysis of how total revenues, total costs, and profit change in response to changes in the quantity sold, Q, the price, P, and the firm’s cost structure, V and F.
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Example: A firm is trying to decide whether to introduce a new product to the market. Production and marketing costs are expected to be: $6/unit, variable, and $200, fixed. It believes that a reasonable selling price would be $10/unit. What is the breakeven sales volume (in units)?
Example:(Analyzing the trade-off between fixed and variable costs.)For a fixed annual fee, an outside supplier has offered to provide certain services to the firm that, currently, are being provided “in-house”. If the firm accepts the offer, its variable costs would be reduced to $5/unit. What is the maximum fee that the firm would be willing to pay for the services if its objective is to maintain its breakeven point at 50 units?

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