Cost-volume-profit analysis (CVP analysis) deals with how profit and costs change with a change in volume. By studying the relationships between these items, management has better control over its planning and decision-making functions.
CVP analysis, despite its usefulness, is subject to several limitations. These assumptions must be kept in mind when using and applying CVP analysis concepts. The first lesson takes you through these assumptions.
By analyzing the effect of change in volume to costs and profits, one can determine the break-even point, sales required to achieve a target income, the margin of safety, and degree of operating leverage. These topics are presented throughout this unit. Finally, the difference between variable costing and absorption costing is thoroughly discussed.
Cost-volume-profit analysis (CVP analysis) helps a business in planning and decision-making. The CVP analysis is subject to the certain limiting assumptions. Learn about them here. Read more..
The concept of contribution margin is fundamental in CVP analysis and other management accounting topics. Contribution margin refers to sales revenue minus total variable costs. It is the amount available to cover fixed costs to be able to generate profits. Read more..
The determination of the break-even point is one of the applications of cost-volume-profit (CVP) analysis. Break-even point refers to the level of activity or sales that will yield to zero profit. Read more..
By tweaking the break-even formula and incorporating a desired profit, we can determine the number of units to sell to come up with the income desired. Read more..
The margin of safety is a measure of the difference between the actual (or budgeted sales) and the break-even sales. It determines the level by which sales can drop before a business incurs in losses. Read more..
The degree of operating leverage (DOL) is used to measure the extent of the change in operating income resulting from change in sales. It basically answers the question: "By how many times will operating profit increase or decrease in relation to the increase or decrease in sales?". Read more..
The determination of the break-even point in CVP analysis is easy once the variable and fixed components of costs have been determined. A problem arises when the company sells more than one type of product. Read more..
Absorption costing (or full costing) is the acceptable method for tax and external reporting. Variable costing (or direct costing) is not permitted but offers valuable use internally. Learn about the difference between variable and absorption costing. Read more..