The decisions they lo 1 make are about volume pricing

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Unformatted text preview: isions on profit. The decisions they L.O. 1 make are about volume, pricing, or incurring a cost. Therefore, managers require an un2 Approaching College Reading and Use cost-volumederstanding of the relations among revenues, costs, volume, and profit. The cost accountDeveloping a College-Levelprofit (CVP) analysis Vocabulary ing department supplies the data and analysis, called cost-volume-profit (CVP) analysis, to analyze decisions. that support these managers. 3 Approaching College Assignments: Reading Textbooks and Following Directions Cost-Volume-Profit Analysis and Airline Pricing Cost-volume-profit analysis helps managers evaluate the impact of alternative product pricing strategies on profits. It can also be useful for evaluating competitors’ pricing strategies and efforts to grow market share, as in the following examples: Aloha Airlines CEO David Banmiller and C. Thomas Nulty, senior vice president for marketing and sales, explain that their airline must charge $50 per seat to break even when planes are 62 percent full. Hawaiian Airlines, Aloha Airlines and go! are each losing money when they sell interisland tickets below $50, according to a study commissioned by Aloha Airlines. “Why would somebody come in and charge $19, and $29, and $39 when their costs were substantially higher? Why would somebody do it?” said Banmiller. cor50782_ch01_001-072.indd 1 In Action The Sabre study showed that when planes are 62 percent full, Aloha’s costs are $50 per seat, Hawaiian’s are $55, and go!’s are $67. ✓ R go! Resources However, managers at the parent company ofelated(Mesa See pages 000 their Airlines) disputed the estimates with a CVP analysis of to 000 of the Annotated Instructor’s own: Edition for general suggesJonathan Ornstein, Mesa’s chief executive officer, to the chapters tions related said yesterday that Aloha’s cost estimates are wayOne. when off in Part it comes to his airline. He said go!’s expenses per passenger are about $40 when the planes are 80 percent full. 1 Note: Aloha Airlines is no longer in business. Source: Rick Daysog, “Below-Cost Fares Puzzle Aloha Airlines CEO,” Honolulu Advertiser, December 21, 2006. 10/5/09 11:09:29 PM 81 lan27114_ch03_080-109.indd 81 10/22/09 10:33:50 PM REVISED PAGES Part II 82 Cost Analysis and Estimation Profit Equation profit equation Operating profit equals total revenue less total costs. PART 1 The key relation for CVP analysis is the profit equation. Every organization’s financial operations can be stated as a simple relation among total revenues (TR), total costs (TC), and operating profit: Operating profit Total revenues Total costs TR TC Orientation go by different names (For not-for-profit and government organizations, the “profit” may Profit such as “surplus” or “contribution to fund,” but the analysis is the same.) Both total revenues and total costs are likely to be affected by changes in the amount of output.1 We rewrite the profi...
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