TARLAC STATE UNIVERSITY – COLLEGE OF BUSINESS AND ACCOUNTANCY

GE ELEC 6 – BUSINESS LOGIC

COST-VOLUME-PROFIT (CVP) ANALYSIS 3. Mixed costs

With the goal of profit maximization, profit
planning is anticipating the effects of
4. Semi variable costs – The rate of
variables affecting profit to measure its
change in these cost items with the
outcome without necessarily disregarding
change in activity level is not
the firm’s social responsibility.
constant.
Cost-Volume-Profit (CVP) Analysis is one of 5. Semi fixed costs – Like variable
the analytical tools used in profit planning costs, it increases with the activity
which is a systematic examination of the level, although not proportionately,
relationships among costs, activity levels, and like fixed costs, they remain
or volume, and profit. constant for stretches of activity
levels although not for all activity
LOOKING BACK…
levels.
VARIABLE COSTING INCOME
STATEMENT
Sales xx
Less: Variable costs and expenses xx
Contribution margin xx
Less: Fixed costs and expenses xx
Operating income (loss) xx
In CVP analysis, we use variable costing to
assist management in profit planning.
COST CONCEPTS AND CLASSIFICATIONS
A. Functional Classifications –
Manufacturing costs and Selling and
administrative costs
B. Behavioral Classifications
1. Fixed costs

COST BEHAVIOR ASSUMPTIONS

A. Relevant Range Assumption – The band
of activity in within which the identified
2. Variable costs cost behavior patterns are valid.

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 TARLAC STATE UNIVERSITY – COLLEGE OF BUSINESS AND ACCOUNTANCY
GE ELEC 6 – BUSINESS LOGIC

B. Time Assumption – States that the cost P56x = P1,568,000 + 0

behavior patterns identified are true only P 1,568,000+0

over a specific period of time. x =
P 56
SEGREGATION OF FIXED AND VARIABLE x = 28,000 units or P4,480,000
ELEMENTS OF MIXED COSTS (28,000 x P160), break-even
sales in pesos.
In making a cost analysis, it is best to
Using the same equation and substituting
identify specific cost items as either
the terms cited above, we come up with:
variable or fixed. In terms of mixed costs,
the following techniques may be used: ¿ Cost + Profit
Sales in units =
A. High-Low Method Contribution Margin Per Unit

B. Statistical Scatter Graph Contribution Margin Per Unit = Difference between

Selling Price Per Unit and Variable Cost Per Unit
C. Least Squares
Since at break-even point, profit is zero, it
BREAK-EVEN ANALYSIS can be deleted from the formula, thus, we
shall have:
The focal point of CVP Analysis is the
computation of the break-even sales,
which is that point of activity level (sales Break-even sales in units =
volume) where total revenues equal total ¿ Cost
costs and expenses, meaning there is Contribution Margin Per Unit
neither profit nor loss.
Once the break-even sales in units is
For purposes of profit analysis and control,
known, the break-even sales in pesos can
managers give emphasis in the contribution
be easily determined by multiplying the per
margin, i.e., the difference between sales
unit selling price. However, another
and variable costs.
formula can be used to directly compute
To avoid operating loss, contribution for break-even sales in pesos.
margin should be at least equal to fixed Reconsidering our formula to compute the
costs. Any amount of contribution margin contribution margin:
in excess of fixed costs is profit.
Contribution Margin = Sales – Variable Cost
SAMPLE PROBLEM 1
Stated differently, we have:
Dianne Company makes a product that
sells for P160 per unit. Variable costs are Sales = Variable Cost + Contribution Margin
P104 per unit, and fixed costs total
Considering sales as the base representing
P1,568,000 annually.
100%, we can develop ratios to express
Our variable income statement above both variable cost and contribution margin
expressed in equation form is as follows: as a percentage of sales as follows:

Sales – Variable Cost – Fixed Cost = Profit Variable Cost

Variable Cost Ratio=
Sales
Stated differently, we have: and
Sales = Variable Cost + Fixed Cost + Profit Contribution Margin
Contribution Margin Ratio=
Sales
Knowing that:
Based on the above formulas, sales can be
Sales = Units x Selling Price/Unit and, determined:
Variable Costs = Units x Variable Variable Cost
Cost/Unit Sales=
Variable Cost Ratio
Then, let x = the number of units to be sold and
to break-even, where profit = 0 Contribution Margin
Sales=
Contribution Margin Ratio
P160x = P104x + P1,568,000 + 0

P160x – P104x = P1,568,000 + 0

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 TARLAC STATE UNIVERSITY – COLLEGE OF BUSINESS AND ACCOUNTANCY
GE ELEC 6 – BUSINESS LOGIC

Using the same equation and substituting The difference between actual or planned
the terms cited above, we come up with: sales volume and break-even sales which
indicated the amount by which actual or
¿ Cost + Profit planned sales may be reduced without
Sales=
Contribution Margin Ratio incurring a loss. It can be expressed in
units, in pesos of sales or as a ratio.
Since at break-even point, profit is zero, it
can be deleted from the formula, thus Margin of Safety Ratio – The planned or
contribution margin should be equal to actual sales is used as the base.
fixed costs, then the sales figure represents
the break-even sales in pesos. Margin of Safety = Actual or Planned Sales
- Break-even Sales

Break-even sales in pesos =

¿ Cost Margin of Safety
Margin of Safety Ratio=
Contribution Margin Ratio Actual∨Planned Sales

SAMPLE PROBLEM 1 (CON’T)

In our sample problem, contribution
margin ratio equals 35% (P56 / P160). Dianne Company makes a product that
With fixed costs at P1,568,000, break-even sells for P160 per unit. Variable costs are
sales in pesos is: P104 per unit, and fixed costs total
P1,568,000 annually. The company sold
P 1,568,000
=P 4,480,000 35,000 units or P5,600,000 during the
35 %
current year.
ADDITIONAL CONSIDERATIONS:
MARGIN OF SAFETY IN PESOS
Desired Profit – We just deleted profit from
= P5,600,000 – P4,480,000
the formula since its value is zero. Hence,
sales with desired profit can be determined = P1,120,000
with the following formulas:
MARGIN OF SAFETY IN UNITS

Break-even sales in units = = 35,000 – 28,000

¿Cost + Desired Profit = 7,000 units
Contribution Margin Per Unit
and MARGIN OF SAFETY RATIO
Break-even sales in pesos =
P 1,120,000 7,000
¿Cost + Desired Profit = ∨
P 5,600,000 35,000
Contribution Margin Ratio
= 0.20 OR 20%
Desired Profit After Tax – The profit figure SAMPLE PROBLEM 2
in the formula above is understood to be
profit before tax. In this case the desired Dhalia Company has fixed costs of
profit after tax should be converted to P30,000, a margin of safety ratio of 25%
profit before tax using the tax rate and a contribution margin ratio of 40%.
provided. Determine the following:

Desired Profit Expressed as A Certain BREAK-EVEN SALES

Percentage of Sales – Let PR = desired
¿ Cost P 30,000
profit. Using the formula to get your break- = CMR = 40 % =¿ P75,000
even sales in pesos, we have:
ACTUAL OR PLANNED SALES
¿ Cost If MSR = 25%, then BESR = 1 – 25% = 75%
Break-even sales in pesos =
CMR−PR
BES P 75,000
= BESR = 75 % =¿P100,000
MARGIN OF SAFETY
ACTUAL OR PLANNED PROFIT

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 TARLAC STATE UNIVERSITY – COLLEGE OF BUSINESS AND ACCOUNTANCY
GE ELEC 6 – BUSINESS LOGIC

Actual or Planned Sales P100,000 33,160 units

x Contribution Margin Ratio 40%
BES IN PESOS USING COMPOSITE CMR
Contribution Margin P 40,000
Fixed Costs P 30,000 1. Composite CM/sale
Profit P 10,000
2. Composite SP/sale
Or using the profit percentage,
Aye = P20 x 5 = P100
Bee = P30 x 2 = P 60
PR = MSR x CMR
Cee = P15 x 3 = P 45
P205 composite SP/sale
PR = 25% x 40%
PR = 10%
Thus, 3. Composite CMR

Actual or Planned Sales P100,000 Composite CMR/ sale P 92

= = =44.88 %
x Profit Ratio 10% Composite SP /sale P 205
Actual or Planed Profit P 10,000
4. BES in pesos
MULTI-PRODUCT BREAK-EVEN
¿ Cost 305,072
ANALYSIS = = =P679,780 *
Composite CMR 44.88 %
When a company manufactures and/or
*Difference due to rounding off.
sells more than one product, hence, a
multi-product sales situation. In the multi- BES IN UNITS USING AVERAGE CM/U
product sales analysis, the sales mix is
1. Average CM/u
assumed to be constant.
Aye = P10 x 5/10 = P5
SAMPLE PROBLEM 3
Bee = P12 x 2/10 = P2.4
Daisy Company has been operating for Cee = P 6 x 3/10 = P1.8
only a few months. The company sells P9.2 Average CM/u
three products: Aye, Bee, and Cee, which is
2. BES in units
sold at a ratio of 5:2:3 per sale. Prices and
variable costs per unit are as follows: ¿ Cost P 305,072
= = =33,160 units
Average CM /u P 9.2
Aye Bee Cee
Selling price P20 P30 P15 BES IN PESOS USING AVERAGE CM/U
Variable cost
P10 P18 P9 1. Average CM/u
per unit
2. BES in units
Total fixed costs amount to P305,072.
3. BES in units, per product allocation
BES IN UNITS USING COMPOSITE CM/U
Aye = 33,160 x 5/10 = 16,580
1. Composite CM/sale
Bee = 33,160 x 2/10 = 6,632
Aye = P10 x 5 = P50 Cee = 33,160 x 3/10 = 9,948
Bee = P12 x 2 = P24 33,160 units
Cee = P 6 x 3 = P18
4. BES in pesos
P92 composite CM/sale
Aye = 16,580 x P20 = P331,600
2. BES in number of sales
Bee = 6,632 x P30 = P198,960
¿ Cost 305,072 Cee = 9,948 x P15 = P149,220
= = =3,316 sales P679,780
Composite CM /sale P 92
3. BES in units per product DEGREE OF OPERATING LEVERAGE

Operating leverage refers to the ability of the

Aye = 3,316 x 5 = 16,580
business to increase its operating profit in
Bee = 3,316 x 2 = 6,632
relation to its contribution margin. Operating
Cee = 3,316 x 3 = 9,948 profit, meaning EBIT.

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 TARLAC STATE UNIVERSITY – COLLEGE OF BUSINESS AND ACCOUNTANCY
GE ELEC 6 – BUSINESS LOGIC

P 5,400,000
Contribution Margin Percentage Change∈EBIT= =66.67 %
DOL= P 8,100,000
EBIT
OR
Percentage ∆∈ EBIT
DOL=
Percentage ∆∈Sales
OR
1
DOL=
MSR

Once the DOL rate is determined, the

percentage change in EBIT is determined
as follows:

Percentage ∆ in EBIT = Percentage ∆ in Sales x DOL

SAMPLE PROBLEM 4
Dimples Company manufactures and sells
personal air purifiers for P1,800 each.
Variable costs are P1,260 per unit, and
fixed costs total P13,500,000 per year. The
company currently sells 40,000 units a
year.
A. Compute for the degree of operating
leverage at the present level of sales.
Contribution Margin
(P540 x 40,000 units) P21,600,000
- Fixed Costs 13,500,000
EBIT P 8,100,000

21,600,000
DOL= =2.67
8,100,000
B. If sales are expected to increase by 25%
next year, what is the:
1. Percentage change in profit.
= 25% x 2.67 = 66.67%*
2. Expected increase in net income.
= P8,100,000 x 66.67% = P5,400,000*
* Difference due to rounding off

Proof,
40,000 units x 1.25% = 50,000 unit sales,
next year.
Contribution Margin
(P540 x 50,000 units) P27,000,000
- Fixed Costs 13,500,000
EBIT P13,500,000
EBIT, previous year P 8,100,000
Peso Change P 5,400,000

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