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Chapter 4

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ADMN 3021H Chapter 4: Chapter 4
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Trent University

Business Administration

ADMN 3021H

Malcolm Mac Taggart

Summer

Description

Chapter 4 – Cost-Volume-Profit Relationships
CVP Relationship Interactions
• CVP analysis is a powerful tool that managers use to help them understand
the interrelationship among cost, volume and profit in an organization by
focusing on interactions among the following five elements:
o Prices of products
o Volume or level of activity
o Per unit variable costs
o Total fixed costs
o Mix of products sold
Basics
• The contribution income statement is helpful to managers in judging the
impact on profits of changes in selling price, cost, or volume
o Emphasis is on cost behaviour
• Contribution Margin (CM) = Sales Revenue – Variable Expenses
• CM Ratio = Total Contribution Margin/Total Sales
• Break-even Point – when profits equal zero
• The relationship among revenue, cost, profit and volume can be expressed
graphically by preparing a CVP graph
o Unit volume on X-axis
o Dollars on Y-axis
o Fixed expenses, total expenses, and total sales lines
CM Ratio = Unit CM/ Unit Selling Price
Profit = Unit CM x Q – Fixed Expenses
CM = Sales – Variable Expenses
CM Per Unit = Per unit sales – Per unit Variable Expenses
Variable Expense Ratio = Variable expenses/Sales
Break-Even Analysis
• Can be approached in two ways: equation method and formula method
• Equation Method
o Profits = (Sales – Variable expenses) – Fixed expenses
o Sales = Variable expenses + Fixed expenses + Profits
▪ At the break-even point, profits equal zero
• Formula Method
o Break-even point in units sold = Fixed expenses/CM per unit
o Break-even point in total sales dollars = Fixed expenses/CM ratio
Target Profit Analysis
• The equation and formula methods can be used to determine the sales
volume needed to achieve a target profit The Margin of Safety
• The excess of budgeted (or actual) sales over the break-even volume of sales
• Margin of safety = Total sales – Break-even sales
• Can be expressed in terms of the number of units sold
• Margin of safety percentage = Margin of safety in Dollars/Total Sal

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