Cost, Volume, and Profit
Cost-Volume-Profit (CVP) analysis is a managerial accounting tool that expresses the simplified relationship between cost, volume, and profit (or loss). CVP analysis is based on several factors and assumptions and uses a formula to express the relationship by equation or graphically and can be used with great effect by managers who understand the limitations of the analysis. Cost-Volume-Profit (CVP) analysis is a managerial accounting tool that expresses the simplified relationship between cost, volume, and profit (or loss). CVP analysis focuses on how profits are affected by the following five factors: selling prices, sales volume, unit variable costs, total fixed costs, and mix of products sold. (Brewer, 2010, p. 258) Additionally, CVP analysis is based on several assumptions including, (a) selling price is constant and a change in sales volume is the only factor that affects costs, (b) costs and revenues are linear throughout relevant range, (c) costs can be divided into fixed and variable components throughout relevant range, (d) sales mix doesn’t change, and (e) inventory levels don’t change (units sold equals units produced). CVP analysis is performed to calculate the break-even point. The break-even point is where profits equal zero or total expenses equal total revenues. In graphic form, Brewer states, “the break-even point is where the total revenue and total expense lines cross”. (Brewer, 2010, p. 263) Once the break-even point has been determined, it can be determined whether there will be a profit or loss. On the graph, anything to the right of the break-even point will be profit and anything to the left will be loss. In equation form, CVP relationships can be expressed as follows: (contribution format income statement) Profit = (Sales – Variable expenses) – Fixed expenses or (unit contribution margin) Profit = Unit CM x Q – Fixed expenses, where Unit CM is Net operating income = Sales – Variable expenses. Because many...
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