Objectives

Cost-
Volume- Chapter 3
Profit
Analysis EXPLAIN CONTRIBUTION
MARGIN.
APPLY THE COST-
VOLUME-PROFIT (CVP)
EXPLAIN THE LIMITATION
OF CVP ANALYSIS.
ANALYSIS.

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Contents
Contribution Margin
Contribution margin

CVP analysis
➢Contribution margin = Revenue – Variable Costs
Break-even analysis ➢Net profit = Contribution margin – Fixed Costs
➢What does it tell us about contribution margin?
Cost structure

Sales mix

CVP assumptions
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 If contribution margin <
fixed cost, the business 6 Contribution margin ratio
would be …...?

If contribution margin = CMR = Contribution margin

Contribution fixed cost, the business Revenue
Margin would be …...?
==> What can we imply from this
formula?
If contribution margin >
fixed cost, the business
would be …...?
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Profit or loss reporting with contribution margin

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Contribution margin ratio
Total Per unit
The second formula would be: Revenue $ 100,000 $ 50
Less: Variable Cost 60,000 30
Contribution Margin $ 40,000 $ 20
Less Fixed Cost 30,000
CMR = Contribution margin per unit
Unit sale price Net Profit $ 10,000

This way of reporting will concentrate on the

contribution margin.

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 Profit or loss reporting with contribution margin Profit or loss reporting with contribution
margin
Profit or loss Profit or loss
(Financial accounting) (Contribution margin method)

Item Amount Item Amount %

Revenue 1.000 Revenue

COGS (VC) 400 Variable Costs

Sale cost (VC) 100 Contribution

Sale cost (FC) 150 Fixed Costs

Admin cost (VC) 50 Net Profit

Admin cost (FC) 200

Net Profit 100

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Quick Check ✓
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Xuan Mai Company

Xuan Mai Company is producing and selling
bicycle for student.
Total per unit
➢Sales Price: $500/per unit. Revenue (500 units) 250,000 500
➢Unit Variable Cost: $300per unit. Less: Variable Costs 150,000 300
➢Fixed Cost: $80.000/per month Contribution Margin 100,000 200
➢Calculate the net profit and contribution margin ratio Less: Fixed cost 80,000
for this company, given that during the month they Net Profit 20,000
produced and sold 500 bicycles?

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 Quick Check ✓
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CVP analysis
A coffee store is selling a cup of coffee at an average
price of $1,49. The variable cost per unit is currently at • At the moment, Xuan Mai company
$0,36 and the fixed cost per month is $1.300. Given could sell 500 bicycles per month.
that the coffee shop sold 2.100 cups of coffee in this However, the sales manager believes
month, the contribution margin ratio would be: that an increase in advertising at
a. 1,319 $10,000 would increase the sales up to
540 units. Given that unit variable cost is
b. 0,758 $300, selling price per unit is $ 500 and
c. 0,242 the fixed cost is currently at $80.000.
d. 4,139
• Should we accept this suggestion to
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increase the advertising cost? 14

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CVP analysis
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CVP analysis
$80.000 + $10.000 adversting = $90.000
Quick approach
Current Expected
sales sales
(500 units) ( 540 units) Dif
Revenue $ 250,000 $ 270,000 $ 20,000
Increase of contribution (40*$200) $ 8,000
Less: Variable Cost 150,000 162,000 12,000 Increase of fixed cost 10,000
Contribution 100,000 108,000 8,000 Reduce in profit $ (2,000)
Less: Fixed Cost 80,000 90,000 10,000
Net Profit $ 20,000 $ 18,000 $ (2,000)

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 Break-even analysis Break-even analysis
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sell to get even? 450,000 450,000

400,000 400,000
TR
350,000 350,000
TC
300,000 300,000 Profit

250,000 250,000

200,000 200,000

150,000 150,000 Break-even

Loss
100,000 100,000

50,000 50,000

- -
- 100 - 200100 300
200 300
400 400 500500 600
600 700
700 800 800

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Break-even analysis Break-even analysis

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Fixed cost
How many units does Xuan Mai company need to
Break-even Unit = sell to get even?
Contribution margin per unit

Break-even Sales = Fixed cost

Contribution margin ratio

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 Quick Check ✓ Quick Check ✓

A coffee store is selling a cup of coffee at an average A coffee store is selling a cup of coffee at an average
price of $1,49. The variable cost per unit is currently at price of $1,49. The variable cost per unit is currently at
$0,36 and the fixed cost per month is $1.300. How $0,36 and the fixed cost per month is $1.300. The
many cups of coffee need to be sold before the store break even sales would be:
get even?
a. $1.300
a. 872 cups
b. $1.715
b. 3.611 cups
c. $1.788
c. 1.200 cups
d. $3.129
d. 1.150 cups

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Targeted profit
Targeted profit
➢CM – FC = Net Profit
• How many items does ➢FC + Net Profit = CM
Xuan Mai company need
to sell in order to earn ➢FC + Net Profit = UCM x Targeted Quantity
$100.000 in profit? ➢Targeted Quantity = (FC + Net Profit)/UCM

Also:
➢Target sales = (FC + Net Profit)/ CMR
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 Quick Check ✓
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Targeted profit
A coffee store is selling a cup of coffee at an average
price of $1,49. The variable cost per unit is currently at
• How many items does $0,36 and the fixed cost per month is $1.300. How
Xuan Mai company need many cups of coffee need to be sold before the store
to sell in order to earn could reach $2.500 net profit?
$100.000 in profit? a. 3.363 cups
b. 2.212 cups
c. 1.150 cups
80,000 + 100,000
= 900 Units d. 4.200 cups
200
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Margin of safety
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Margin of safety
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➢ The difference between actual amount (or expected amount)
and break-even amount.

Margin of safety = Current output - Break-even output

• Calculate the margin of safety of Xuan Mai

Margin of safety Margin of safety company.
=
ratio Current output

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 Quick Check ✓
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Cost structure

A coffee store is selling a cup of coffee at an average price • Cost structure refers to the
of $1,49. The variable cost per unit is currently at $0,36 relative proportions of fixed
and the fixed cost per month is $1.300. The store is selling and variable costs in
average 2.100 cups of coffee per month. What would be business’ total cost.
the margin of safety (in units)?
• a. 3.250 cups • Different cost structure could
• b. 950 cups lead to different changes in
• c. 1.150 cups profit when the out put
• d. 2.100 cups quantity is changed.
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Cost structure – Example Cost structure – Example

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Ford Chevrolet
What would happen to net profit if
Revenue 1.000 1.000 the output quantity of each company
Less: Variable costs 500 600 increase by 20%?
Contribution margin 500 400
Less: Fixed costs 300 200
Net Profit 200 200

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 Cost structure – Example Cost structure – Example
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Ford
Net profit increase = ??? What would happen to net profit if
the output quantity of each company
decrease by 20%?

Chevrolet
Net profit increase = ???

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Cost structure – Example

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DOL (Degree Operating Leverage)

DOL is a tool to measure the “sensitivity” of net

Ford profit towards the change of output quantity.
Net profit increase = ???
∆%Net Profit
DOL =
∆% Output Quantity
Chevrolet
Net profit increase = ??? DOL =
Contribution margin
Net Profit

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 DOL (Degree Operating Leverage) DOL (Degree Operating Leverage)
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Contribution margin
DOL = Net Profit Ford: DOL = 500/200 = 2,5
➢DOL is bigger in company with high proportion of fixed Chevrolet: DOL = 400/200 =2,0
cost in relation to the total cost.
➢DOL is lower in company with low proportion of fixed
cost in relation to the total cost.
➢Company’s net profit, with bigger DOL, is very
sensitive with the change of sales output quantity.

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DOL (Degree Operating Leverage) • A coffee store is selling a cup

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of coffee at an average price of
$1,49. The variable cost per
∆%Net Profit = DOL x ∆%Out Put Quantity
Quick unit is currently at $0,36 and
Check ✓ the fixed cost per month is
$1.300. The store is selling
Ford average 2.100 cups of coffee
•∆%Net Profit = ??? per month. What would be the
•Increase in Net Profit = ??? DOL?
• a. 2,21
• b. 0,45
Chevrolet • c. 0,34
•∆% Net Profit = ??? • d. 2,92
•Increase in Net Profit = ???
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 • A coffee store is selling a cup of
coffee at an average price of
$1,49. The variable cost per unit
is currently at $0,36 and the fixed
Quick cost per month is $1.300. The Sales mix
Check ✓ store is selling average 2.100
cups of coffee per month.
• Given that the revenue of next ➢Product mix presents the
month increase 20%, how many proportion of revenue or
percentage of profit would
increase? quantity for each product line.
• a. 30,0% ➢Different of product mix
• b. 20,0% could lead to different result
• c. 22,1% of profit due the diversity of
• d. 44,2% each product line’s contribution
margin.
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Sales mix
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Sales mix 44

➢ The company decides to change to structure of product mix so that

proportion of revenue from product B would be 60% of total revenue
➢The
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following is Mai Lan company’s operating result: 44 (fixed cost unchanged).

➢ Conclusion?
Product A Product B
Product A Product B
Total
Contribution Contribution Total
Amount % Amount % Contribution Contribution
margin ratio margin ratio Amount % Amount %
margin ratio margin ratio

Revenue 600 60% 100% 400 40% 100% 1,000 Revenue 400 40% 100% 600 60% 100% 1,000

Variable cost 360 60% 200 50% 560 Variable cost 240 60% 300 50% 540

Contribution 240 40% 200 50% 440 Contribution 160 40% 300 50% 460

Fixed cost 264 Fixed cost 264

Net Profit 176 Net Profit 196

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 Sales mix and break even
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• Higher amount profit could ➢Weighted unit contribution margin =

be achieved with a higher ∑ Unit contribution margin producti X Sales mix
proportion of revenue from percentage (quantity) of producti
product with better ➢Weighted contribution margin ratio =
Conclusion?
contribution margin ratio. ∑ contribution margin ratio of producti X Sales mix
percentage (revenue) of producti

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Sales mix and break even - example Sales mix and break even - example
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70% revenue 30% revenue

7 liters Pepsi 3 liters 7-up
Contribution margin ratio Contribution margin ratio
Contribution margin Contribution margin
0,3 0,4
500đ/liter 600đ/liter

Fixed cost
Fixed cost 318.000.000đ
330.000.000đ

Weighted contribution margin ratio

Weighted Unit contribution margin 0,3 x 70% + 0,4 x 30% = 0,33
500 x 70% + 600 x 30% = 530đ/litre

600.000 x 70% = 420.000 liters 600.000x 30% = 180.000 liters Revenue break even
Break-even quantity 330.000.000/0,33 = 1.000.000.000đ
318.000.000/530 = 600.000litres 47
1.000.000.000 x 70% = 700.000.000đ 1.000.000.000x 30% = 300.000.000đ

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CVP assumptions

• Unchanged selling price.

• Costs have a linear relationship.
• Unchanged sales mix.
• No inventory.

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