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Managerial Accounting Chapter Seven Notes

5 Pages

Course Code
ACCT 2230
Elliot Currie

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Chapter Seven Cost VolumeProfit Relationships y Cost volume profit CVP analysis is a powerful tool that helps managers understand the relationships among cost volume and profit CVP focuses on how profits are affected by 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 y It is a vital tool in many business decisions These decisions include what products to manufacture and services to offer what prices to charge what marketing strategy to adopt and what cost structures to implementy One area of potential confusion left is the use of the terms profit and income interchangeably This confused terminology has not been corrected because the older term profit is often used to mean income by both managers and accountantsy The basics of Cost Volume Profit CVP Analysis o The contribution income statement emphasizes the behaviour of costs and therefore is extremely helpful to a manager in judging the impact on profits of changes in selling price cost or volumeo Income statement reports sales variable expenses and contribution margin on both a per unit basis and a total basiso Contribution MarginContribution margin is the amount remaining from sales revenue after variable expenses have been deducted It is the amount available to cover fixed expenses and then to provide profits for the periodContribution margin is used first to cover the fixed expenses and then whatever remains goes toward profits If the contribution margin is not sufficient to cover the fixed expenses then a loss occurs for the period Break even point is the level of sales at which profit is zero The breakeven point can also be defined as the point where total sales equals total expenses or as the point where total contribution margin equals total fixed expenses Sales variable expenses fixed expenses000The manager can simply take the number of units to be sold in excess of the break even point and multiply that number by the unit contribution marginy CVP Relationships in Graphic Form o Relationships among revenue cost profit and volume can be expressed graphically by preparing a cost volume profit graph A CVP graph highlights CVP relationships over wide ranges of activityo Preparing the CVP GraphPreparing a CVP graph involves three steps y Draw a line parallel to the volume axis to represent total fixed expenses y Choose some volume of sales and plot the point representing total expenses fixed and variable at the activity level you have selected After the point has been plotted draw a line through it back to the point where the fixed expenses line intersects the dollars axisy Again choose some volume of sales and plot the point representing total sales dollars at the activity level you have selected The anticipated profit or loss at any given level of sales is measured by the vertical distance between the total revenue line Sales and the total expenses like variable expenses plus fixed expenses
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