1. Discuss five assumptions that underlie breakeven and cost-volume-profit
analysis. (5 marks)
a. The company is operating within the relevant range of activity specified in
determining the revenue and cost information.
b. All variable cost and revenue behaviour patterns are constant per unit and
linear within the relevant range.
c. Total fixed cost is a constant amount within the relevant range.
d. Mixed costs can be accurately separated into their fixed and variable
e. Sales and production are equal; thus, there are no material fluctuations in
f. In a multi-product firm, the sales mix will remain constant.
g. There is no inflation.
h. Labour productivity, production technology, and market conditions will not
change during the period under consideration.
2. What is the importance of the contribution margin in relationship to CVP
Give two (2) examples/combination of factors of how profits can be improved as
discussed in class. (5 marks)
CVP analysis seeks the most profitable combination of VC, FC, SP, and sales
volume. Profits can sometimes be improved by reducing the CM if fixed costs
can be reduced by a greater amount. The way to improve profits is to increase
the total CM. Sometimes this can be done by reducing the SP and thereby
increasing volume; sometimes it can be done by increasing the FC (such as
advertising) and thereby increasing volume; sometimes it can be done by trading
off VC and FC with appropriate changes in volume.
Many other combinations of factors are possible.
3. The audited financial statements are prepared using Absorption costing (which is
still GAAP). However, for evaluation of performance Variable (Direct) Costing is
a better measure. Absorption costing motivates overproduction because this will
increase profits. The reason this occurs is that manufacturing fixed costs are
treated as a product cost. Therefore, when production is greater than sales,
profit under absorption costing is greater because part of the manufacturing fixed
costs remain in inventory. When variable costing is used, all manufacturing (and
selling & admin) fixed costs are expensed in the period in which they are
incurred. Under variable costing, profits are a function of sales only. Under
absorption costing, profits are a function of production and sales. 4. Standards can be either ideal or practical. Theoretically either can be used
as the framework for the budgeting process. What is the major distinction,
if any, between a standard amount and a budgeted amount? Which
standard, ideal or practical, provides the better benchmark for evaluating
subsequent performance in a budgeting system? Explain.
One major distinction between a standard amount and a budgeted amount is the
unit of measurement. A standard is a unit concept. It is often quoted on per unit
basis, for example, standard quantity of input for a unit of output, standard cost
per unit of input or standard cost per unit of output. A budgeted amount is a total
concept. For example, when businesses talk of budgeted labour costs, they often
mean the total budgeted labour costs, not budgeted labour cost per unit of
Practical standards should normally provide better benchmarks for evaluating
subsequent performance because they are attainable through reasonable
(although highly efficient) efforts by the average worker. Such standards
generally will elicit positive motivation from workers. Ideal standards, on the other
hand, tend to discourage even the most diligent workers and as such may have
no motivational value
5. Advantages of Budgeting:
Define goals and objectives
Think about and plan for the future
Means of allocating resources
Uncover potential bottlenecks
6. Advantages of Participatory or Self Imposed Budget:
Individuals at all levels are recognized as members of the team whose views and
judgements are valued by top management
More reliable and more accurate
Motivation is generally higher
Create the commitment to attaining the goal
Easier for those who set them to understand or meet them
Manager cannot say that the budget was unrealistic and impossible to meet, i