BUS 254 chapter 7 notes

BUS 254 chapter 7 notes - Cost-Volume-Profit(CVP analysis...

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Cost-Volume-Profit (CVP) analysis focuses on: Prices of products Volume or level of activity Per unit variable costs Total fixed costs Mix of products sold The focus on per unit figures are very important in CVP analysis Contribution Margin Sales – Variable Expenses If CM > fixed expense Operating income If CM < fixed expense Operating Loss If CM = fixed expense Break even! Break-even point = level at which profits is 0, or total sales equal total expenses, or CM equals total fixed expenses INCREASE IN CM = PROPORTIONAL INCREASE IN OPERATING INCOME So increased # of units sold X CM = expected increase in income Cost-volume-profit graph Horizontal axis = unit volume Vertical axis = dollars 1) Draw horizontal line representing fixed expense 2) Pick any unit volume and calculate total expense (fixed + variable) 3) Use the point in 2) and draw a line from that point to where fixed expense intersects vertical axis 4) Pick any unit volume and calculate total sales (sales per unit X unit volume) 5) Use the point in 4) and draw a line from that point to the origin Intersecting point = break even point! Contribution Margin (CM) Ratio CM ratio = Contribution Margin / Sales Either do it by total cost or per unit cost Tells us that for each dollar increase in sales, the CM will increase by how much This increase in CM will lead to increase in profit (fixed cost constant) Application: Suppose sales is originally $100,000, variable expense is $60,000, and fixed expense is $35,000 Contribution margin is $40,000 and CM ratio = 40% Now if increase in advertising by $10,000 will increase sales by $30,000, should company do it?
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