USE OF THE COST/VOLUME/PROFIT ANALYSIS IN TERMS OF EARNINGS



Similar documents
Assumptions of CVP Analysis. Objective 1: Contribution Margin Income Statement. Assumptions of CVP Analysis. Contribution Margin Example

THE IMPORTANCE OF THE CALCULATION METHODS BASED ON DIRECT COSTING IN MANAGERIAL DECISIONS

Summary. Chapter Five. Cost Volume Relations & Break Even Analysis

Cost VOLUME RELATIONS & BREAK EVEN ANALYSIS

Part II Management Accounting Decision-Making Tools

Accounting Building Business Skills. Learning Objectives: Learning Objectives: Paul D. Kimmel. Chapter Fourteen: Cost-volume-profit Relationships

THE OPORTUNITY AND NEED OF THE COST - VOLUME - PROFIT ANALYSIS IN AGRICULTURE

Tutorial 3a Cost-Volume-Profit Analysis

Marginal Costing and Absorption Costing

An Income Statement Teaching Approach for Cost-Volume-Profit (CVP) Analysis by Using a Company s CVP Model

The term marginal cost refers to the additional costs incurred in providing a unit of

BASIC CONCEPTS AND FORMULAE

Case Study: Alex Charter School Gordon Johnson, California State University, Northridge, USA Raj Kiani, California State University, Northridge, USA

Chapter 6 Cost-Volume-Profit Relationships

Teaching Special Decisions In A Lean Accounting Environment Daniel Haskin, University of Central Oklahoma, USA

Session 07. Cost-Volume-Profit Analysis

Accounting 610 2C Cost-Volume-Profit Relationships Page 1

Management Accounting and Decision-Making

01 In any business, or, indeed, in life in general, hindsight is a beautiful thing. If only we could look into a

Chapter. Break-even analysis (CVP analysis)

P2 Performance Management March 2014 examination

BAFS Elective Part Accounting Module Cost Accounting

Revenue Structure, Objectives of a Firm and. Break-Even Analysis.

Advanced Placement (AP) Accounting

CONSIDERATIONS ON THE ORGANIZATION OF THE MANAGEMENT ACCOUNTING SYSTEM IN

A Case Method Approach to Teaching Cost-Volume-Profit Analysis

NATIONAL UNIVERSITY OF SCIENCE AND TECHNOLOGY FACULTY OF COMMERCE GRADUATE SCHOOL OF BUSINESS GENERAL MASTER OF BUSINESS ADMINISTRATION

Diploma in Business Management

Cost-Volume-Profit Analysis for a Multi-Product Company: Micro Approach

Accounting & Financial Management Course Outline

Risk Analysis and Quantification

Cost-Volume-Profit. Managerial Accounting Fifth Edition Weygandt Kimmel Kieso. Page 5-2

Costing For Decision-Making Break Even Analysis. Break-even even Analysis

Interpretation of Financial Statements

Cost-Volume-Profit Analysis

1 Scope and Objectives of Financial Management

Management Accounting 303 Segmental Profitability Analysis and Evaluation

Economic Benefit and the Analysis of Cost, volume and profit (CVP)

Mc Graw Hill Education

C 6 - ACRONYMS notesc6.doc Instructor s Supplemental Information Written by Professor Gregory M. Burbage, MBA, CPA, CMA, CFM

The Effect of Using Break-Even-Point in Planning, Controlling, and Decision Making in the Industrial Jordanian Companies

COST MANAGEMENT. FIN124 Cost Management Compulsory Undergraduate Fourth Fall

Managerial Accounting Prof. Dr. Vardaraj Bapat Department of School of Management Indian Institute of Technology, Bombay

Chapter 25 Cost-Volume-Profit Analysis Questions

Strategy and Analysis in Using NPV. How Positive NPV Arises

You and your friends head out to a favorite restaurant

volume-profit relationships

Management Accounting

CHAE Review Pricing Modules, Cash Management and Ratio Analysis

It is important to know the following assumptions in CVP analysis before we can use it effectively.

Yes, Accounting can be Fun!

ENHANCING THE USEFULNESS OF CVP ANALYSIS AS AN OPERATING AND STRATEGIC TOOL

Unit Title: Managerial Accounting Unit Reference Number: D/502/4812 Guided Learning Hours: 160 Level: Level 5 Number of Credits: 18

Break-Even Point and Cost-Volume-Profit Analysis

Lesson Plan 11.2 Cost-Volume-Profit Relationship

Working Capital Management Nature & Scope

Level 3 Certificate in Management Accounting

Professional Development Programme on Enriching Knowledge of the Business, Accounting and Financial Studies (BAFS) Curriculum

Total shares at the end of ten years is 100*(1+5%) 10 =162.9.

Note on growth and growth accounting

Management Accounting 305 Return on Investment

Factors Influencing Price/Earnings Multiple

Cost-Volume-Profit Analysis

STUDY ON THE IMPORTANCE OF CASH FLOW ANALYSIS BASED ON RATES IN THE FINANCIAL

Chapter 22: Cost-Volume-Profit

12 Marginal Costing Definitions

INVESTMENT MANAGER SELECTION

Chapter 3: Cost-Volume-Profit Analysis and Planning

THE IMPACT OF DEPRECIATION ON COSTS

Management Accounting 2 nd Year Examination

Creating a Successful Financial Plan

Incremental Analysis and Cost Volume Profit Analysis: Special Applications

ACC 121 PRINCIPLES OF MANAGERIAL ACCOUNTING

Advanced Placement (AP) Accounting Course and Exam Pilot Program Course Outline, Learning Objectives and Student Outcomes

ESSENTIALS OF ENTREPRENEURSHIP AND SMALL BUSINESS MANAGEMENT 6E

Marginal and. this chapter covers...

* * * Chapter 15 Accounting & Financial Statements. Copyright 2013 Pearson Education, Inc. publishing as Prentice Hall

Cost-Volume-Profit Analysis: Additional Issues

Creating a Successful Financial Plan

MANAGEMENT ACCOUNTING Cost-Volume-Profit Analysis

ICAP GROUP S.A. FINANCIAL RATIOS EXPLANATION

Study on the Working Capital Management Efficiency in Indian Leather Industry- An Empirical Analysis

IMPORTANCE OF QUANTITATIVE TECHNIQUES IN MANAGERIAL DECISIONS

WORK PROCESS SCHEDULE ACCOUNTING TECHNICIAN O*NET-SOC CODE: RAIS CODE: 1125HY

INCORPORATION OF LEARNING CURVES IN BREAK-EVEN POINT ANALYSIS

Explain the characteristics of different types of cost classifications and their use in costing.

Helena Company reports the following total costs at two levels of production.

Chapter 04 Firm Production, Cost, and Revenue

Advanced Placement (AP) Accounting Course & Exam Pilot Program Course Outline, Learning Objectives and Student Outcomes

Return on Equity has three ratio components. The three ratios that make up Return on Equity are:

How to Win the Stock Market Game

Svetlana Saksonova University of Latvia

COST CLASSIFICATION AND COST BEHAVIOR INTRODUCTION

STRATEGIC AND FINANCIAL PERFORMANCE USING BUSINESS INTELLIGENCE SOLUTIONS

Calibration of Uncertainty (P10/P90) in Exploration Prospects*

Management Accounting Practices: A Comparative Analysis of Manufacturing and Service Industries

WJEC Applied Business A level. ABUS 1 and ABUS 5

Solutions to Homework Problems for Basic Cost Behavior by David Albrecht

Transcription:

USE OF THE COST/VOLUME/PROFIT ANALYSIS IN TERMS OF EARNINGS Ms. Indu Patni Dept.: Applied science and humanities Assistant Professor, Institute of Technology Gopeshwar Chamoli, India e-mail: indupatni9@gmail.com Abstract Given the presented risks and competition situations, company management needs management accounting, and is intended to help managers in the decision-making process. Due to the diversification of the production and sale activities, there has become imperative, from the perspective of company organization, operation, equipment and even earnings and s, an alternative to the full ing method. This is the direct ing method used to calculate s, which is based on those s that are closely and directly connected to the operation volume. This method is actually more than a calculation method; it is a short-term earnings calculation method, which makes these s a useful company management tool. This paper is used to explain, by means of concrete examples, the way in which operation conditions changes influence the earnings estimated by means of the volume-profit analysis, as well as the implications of these changes on the decisions to make. Key words:, profit, decision, process Introduction Cost-Volume-Profit (CVP) analysis is important for any company to be able to find out break-even points, and determining short term decisions. Arguably, for small businesses, nothing could be more important, as CVP provides the minimum volume of a product needed to sell, in order to practice neither a gain nor loss. For entrepreneurs it is important to be effective and efficient when utilizing CVP bookkeeping processes. This provides the structure for analyzing CVP s importance to entrepreneurs. The Cost Volume Profit (C V P) analysis is the analysis of the evolution models, which points out the relations between, production volume and profit. The C V P analysis is a useful forecasting as well as managerial control tool. The method includes a set of problem solving techniques and procedures, based on understanding the characteristics of company s evolution models. The techniques express the relations between income, sales structure, s, production volume and profits and include breakeven point analysis and profit forecasting procedures. These relations provide a general economic activity model, which may be used by managers to make short-term forecasts, to assess company performance and to analyze decision-making alternatives. Margin of Safety as it narrate to -volume-profit dealings the difference between real sales and the break-even point. Margin of safety make possible management to find out allowable sales risk when introducing new products. The margin of safety find out the amount that sales can reduce before break even or operating at a loss; this results in the estimated variance for a company s sales relate to its break-even point. as of an analysis point of view, the larger the margin of safety, the greater the loss in sales an entrepreneur s company can bear. Review of Literature Defined, -volume-profit analysis is the study of the effects of changes in and volume on profits (Kimmel, 2011). CVP is critical in profit planning, determining selling prices, and helps determine the minimum number of future sales. Underling CVP are the assumptions that both and revenues are linear, s can be classified as either fixed or variable, and one changes in activity or volume affect s (Kimmel, 2011). CVP helps entrepreneur s asses how much Page1

contribution is made on each product and how many units to sell in order to cover fixed s. [CVP] can [also] be used to determine whether efforts would be better directed toward the reduction of fixed s or of variable s (Crowningshield, 1986). Impact on earnings after changes of the operation conditions: Economic entity may use the COST-VOLUME-PROFIT ratio to recognize the business environment of the future managing period and to control their operations. These estimate, including changes of the sale price, the amount of manufactured and sold goods, the variable production s, the variable sale s, the fixed production s and the fixed sale and administration s, as well as their implications, will be analyzed by the company manager bearing in mind the data. (shown in table no. 1) and they refer to the following possible situations. Table no. 1 Calculation process constituents Price/unit (price/unit) (price) a. Turnover 32,000 5.50 176,000 b. Variable production 32,000 2.30 73,600 s c. Variable sales 32,000 1.40 44,800 d. variable - - 1,18,400 e. Variable margin - - 57600 f. Fixed production - - 31,825 admin. Cost h. fixed - - 43825 i. Earnings before tax - - 13775 1. Changes on the production s, by the 10% increase of the variable production and 5% increase of the fixed production s. The data shown in table no. 2 after calculation. Table no. 2 Changes on the production s Price/unit (price/unit) (price) a. Turnover 32,000 5.50 1,76000 b. Variable production 32,000 2.30 80960 s c. Variable sales 32,000 1.40 44800 d. variable - - 1,25760 e. Variable margin - - 50240 f. Fixed production - - 32779.75 admin. Cost h. fixed - - 44779.75 i. Earnings before tax - - 5460.25 The implications of these estimates, namely only the increase of the fixed and variable production s, without changes of the sale price or the amount of manufactured and sold good, are the profit that is lower by 8314.75 lei (13775 5460.25 lei). Thus, in order to fight production s increase, the company manager may need to increase the sales price or to request other estimates from some specialists. 1. Changes to all the categories of s, namely the 10% increase on variable production, 5% on variable sales and the 3% increase on fixed s.. Table no. 3 shows the calculation. Table no. 3 Changes to all the categories of s Price/unit 0 1 2 3 4 a. Turnover 32,000 5.50 1,76000 b. Variable production 32,000 2.53(2.30*1.10) 80960 s c. Variable sale 32,000 1.47(1.40*1.05) 47040 d. variable - - 128000 Page2

e. Variable margin - - 48000 f. Fixed production - - 32779.75(31825*1.03) admin. Cost h. fixed - - 44779.75 i. Earnings before tax - - 3220.25 These estimates, consisting of the change of all the categories of variable and fixed s, show an even lower profit, of only 3220.25 lei, that is a decrease by 10554.75 lei (13775 lei 3220.25 lei) as compared to the original situation. Thus, the company manager need to adjust the estimates by changing the amount both, manufactured, sold goods and the sale price. Changes to the amount of manufactured and sold goods and to all the categories of s, namely, on the one hand, by the 8% increase of the amount of manufactured and sold goods expressed in physical units and by the 15% increase on all variable s, Table no. 4 Changes to the amount of manufactured and sold goods and to all the categories of s Price/unit a. Turnover 34560 5.50 1900,80 b. Variable production 34560 2.64 91,238.40 s c. Variable sale 34560 1.60 55296 d. variable - - 146534.4 e. Variable margin - - 43545.6 f. Fixed production - - 30820.5 - - 10 800 administration h. fixed - - 41620.5 i. Earnings - - 1925.1 This prognosis is the most pessimistic of all, since despite the increase of the amount of manufactured and sold goods there is a decrease in variable margin of 140544 lei (57600 lei 43545.6 lei). Therefore, the profit suffers the most, as it decreases to 1925.1 lei, which means a decrease by11849.9 lei (13775 lei 1925.1lei).If all these prognoses are considered correct, a set of actions have to be taken to increase the sale price. Changes to the sale price, the amount of manufactured and sold goods and the sale s, namely by a 10% increase of the sale price, which would lead to a demand decrease of 8%. Also, the amount of manufactured goods will decrease by 3%, the variable sale s by 12%, and the fixed sale and administration s will increase by 12% (see table no. 5). Table no. 5 Changes to the sale price, the amount of manufactured and sold goods and the sale s No. Explanations Amount Price/unit a. Turnover 31040 6.50 201760 b. Variable 31040 2.30 71392 production s c. Variable sale 31040 1.23 38179.2 d. variable - - 109571.2 e. Variable - - 92188.8 margin f. Fixed production - - 31825 - - 10560 admin. Cost h. fixed - - 42385 i. Earnings before tax - - 49803.8 The calculations in this table (table no. 5) show that our estimations led to the most optimistic prognosis, namely: The profit increases by 36028.8lei (49803.8 lei 13775 lei); Page3

No. The total income increases by 25760lei (201760lei 176000 lei), although the increase of the sale price diminished the market demand from 32 000 pieces to 31040 pieces; Table no. 6 comparison between the four prognoses Prognosi Prognosis s III II Explanations 200N Prognosi s I Prognosis IV 6 7 1. Turnover 176,000 1,76000 1,76000 1900,80 201760 2. Variable production s 73,600 80960 80960 91,238.4 0 71392 3. Variable sale 4. variable 5. Variable margin (1-4) 6. Fixed production 7. Fixed sale and administratio n 8. fixed 9. Earnings before tax 44,800 44800 47040 55296 38179.2 1,18,40 1,25760 128000 146534.4 109571.2 0 57600 50240 48000 43545.6 92188.8 31,825 32779.75 32779.75 (31825*1.03) 30820.5 31825 12,000 12,000 12,000 10 800 10560 43825 44779.75 44779.75 41620.5 42385 13775 5460.25 3220.25 1925.1 49803.8 In order to made the decisions be relevant, the COST-VOLUME-PROFIT analysis should be used only if the company meets the following requirements: The specialists estimates on the business environment of the following year should not exceed the relevant time interval; The physical volume of sold goods should be equal to that of the manufactured goods, to prevent the impact of stock variation; The production capacity should be known and unchanging during the analyzed management period; The goods sale structure should remain unchanged throughout the analyzed period; The s should be divided into fixed and variable s, and their evolution should be established with great accuracy for that period; The three ratios: turnover, variable s and variable margin, should undergo a proportional evolution with the physical volume of manufactured and sold goods. If the sale price remains uncharged throughout the reference period, one may consider proportional the variable margin and variable s. If one or more of these requirements are not met, or if any of these assumptions is missing, the C V P analysis may be inaccurate. Conclusion To conclude with, separating fixed and variable s helps gathering relevant related information useful in short-term decision-making, such as, for instance, profit estimate for the following time interval. We could therefore say that prognoses of the production, sale and administration s and of the future income of the various business units of a company, as well as the use of decision-making techniques based on relevant s are possible only by a variable s system approach, since profit is often inaccurately shown in a full ing system. All these profit estimates were performed considering a safe business environment: the decision maker was familiar with the environment affecting his/her decision. However, the sales level does not depend on the decision makers will, but on the market. Therefore, the breakeven point analysis is increasingly required in an uncertain, risky environment. The limitations of the C-V-P analysis in estimating profit would be the following: The information provided by this analysis are accurate from the mathematical viewpoint, however there are many instances proving that s are never absolutely fixed or proportional to the turnover; Page4

This analysis provides very simple solutions, however, this simple model and information processing procedures are mostly due to our simplification of reality. Thus, the problem of the reliability of these measures arises: is this information useful for a minimum level of profitability? Finally, the C V P is useful since it offer an overall image of the company management. For forecasting purposes, management may use C V P analysis to calculate the profit yield by a given amount of sold goods. Or, based on the C V P analysis, the management may set the necessary sales level to earn the desired profit. Moreover, C V P analysis is increasingly used in the budgeting process. References Chadwick, L., Contabilitate de gestiune, Editura Teora, Bucuresti, 1998 Garrisson, R.H., Noreen E.W., Brewer, P.C., Managerial Accounting, McGraw- Hill Irwin, 2008 Oger, B., La gestion par l'analyse des coûts, Press Universitaires de France, Paris, 1994 Page5