Managerial Accounting

Osama Khader
Ch3/Cost -Volume -Profit Analysis
Profit = Total Revenues ‫ ــ‬Total Cost
Profit = (# of units sold x unit price) ‫ ( ــــ‬v . cost + F . cost)

Profit = (# of units sold x unit price) ‫ ــــ‬v . cost ‫ ــــ‬F . cost

Profit = (# of units sold x unit price)‫( ــــ‬# of units sold x v.cost/unit) ‫ـــ‬F . Cost

Profit = # of units sold ( unit price‫ ــــ‬v.cost/unit) ‫ـــ‬F . Cost

Profit = Q(P-V)-F
 Example
Emma Frost is considering selling GMAT
Success, a test prep book and software package
for the business school admission test, at a
college fair in Chicago. Emma knows she can
purchase this package from a wholesaler at $120
per package, She also knows that she must pay
$2,000 to the organizers for the booth rental at
the fair. She will incur no other costs. She must
decide whether she should rent a booth.
 Continue
Price per unit = 200
Suppose she can sell 5 units

Rev (5x200) 1,000

V. cost(5x120) (600)
Contribution Margin 400
Fixed cost (2,000)
(Loss) (1,600)
 Contribution Margin
Total Contribution margin = total revenues – total variable cost
= QxP – QxV
Total Contribution Margin = Q (P-V)

Contribution margin per unit

Contribution Margin Per unit =( P-V )

Total Contribution Margin = (P-V)xQ

 Contribution Margin
Contribution Margin per unit = 200-120 =80
Total Contribution Margin = 80 X 5 = 400

 
= Contribution Margin Percentage

(200-120/200) = 0.4 or 40%

 Continue

Suppose she can sell 10 units

Rev (10x200) 2,000

V. cost(10x120) (1,200)
Contribution Margin 800
Fixed cost (2,000)
(Loss) (1,200)
 Continue
Suppose she can sell 25 units

Rev (25x200) 5,000

V. cost(25x120) (3,000)
Contribution Margin 2,000
Fixed cost (2,000)
(Loss)Gain (0)
 Continue
Suppose she can sell 30 units

Rev (30x200) 6,000

V. cost(30x120) (3,600)
Contribution Margin 2,400
Fixed cost (2,000)
Gain 400
 Continue
Suppose she can sell 40 units

Rev (40x200) 8,000

V. cost(40x120) (4,800)
Contribution Margin 3,200
Fixed cost (2,000)
Gain 1,200
 Breakeven Point
is that quantity of output sold at which total revenues
equal total costs—that is, the quantity of output sold
that results in $0 of operating income

Profit = Q(P-V)-F
0 = Q(P-V)-F
F = Q(P-V)

 
=Q
 Breakeven Point
Breakeven point in revenues = Breakeven point in units x unit price

 
= Breakeven Point in revenues
 Example
Al-Haya Company produces a product that is sold at a price
of JD 100 per unit. Variable costs per unit are JD 40 and
annual fixed costs JD 96,000.
 
Required :
1- Compute contribution margin per unit
2-Compute contribution margin percentage
3-compute breakeven point in units and dinars
4-compute profit or loss if the company expected sales of
1,800 units next year.
 Solution
1- P-V = 100-40 = 60   •

2- = 60/100 = .6 or 60%

3-BEP (units) = 96,000/60 = 1,600

BEP(dinnars) 1,600x100 = 160,000 JOD

4-Profit = Q(P-V)-F = 12,000

 Target Operating Income
Profit = Q(P-V)-F
Target OI = Q(P-V)-F
F+ Target OI = Q(P-V)
=Q  

Revenues needed to earn Target OI= Units sold needed to earn target OI x unit price

Revenues needed to earn Target OI=  

 Example
Suppose Emma plan to earn $1,200   •
P=200 ,V=120 F=2,000

Q=
Q= Q=40

Revenues needed = Units sold needed to earn target OI x unit price

= 40 x 200 = 8,000 $
 Target Net Income
Net Income = operating income –Tax
  •
NI = OI – (OI x tax rate)
NI = OI(1-tax rate)

= OI

=Q  
=Q  
 Target Net Income

Revenues needed to earn Target NI= Units sold needed to earn target NI x unit price

 
 Example
Suppose Emma plan to earn NI $1,200   •
P=200 ,V=120 F=2,000 tax rate 40%

Q=

Q= Q=50

Revenues needed = Units sold needed to earn target OI x unit price

= 50 x 200 = 10,000 $
 Question
Brooke Motors is a small car dealership. On average, it sells a car for $27,000,
which it purchases from the manufacturer for $23,000. Each month, Brooke
Motors pays $48,200 in rent and utilities and $68,000 for salespeople’s
salaries. In addition to their salaries, salespeople are paid a commission of
$600 for each car they sell. Brooke Motors also spends $13,000 each month
for local advertisements. Its tax rate is 40%
Required
1-Calculate contribution margin per unit
2-Calculate contribution margin percentage
3-breackeven points in units
4-revenues needed to breakeven
5-How many cars must be sold each month to reach the target monthly net income
of $51,000?
6-calculate operating income when the company sell 50 cars
 Solution
1-contribution margin per unit = (P-V)
  •
(
= 27,000 – (23,000+600) ) = 3,400
2-contribution margin percentage = =

3-breakevenpoint in units = = = 38
4-Revenues needed = 38x27,000 = 1,026,000

5- Q = =

6-Q(P-V)-F = 50(3,400)-129,200 = 40,800

Decision to advertise
 Decision to reduce price
Having decided not to advertise, Emma is contemplating whether to reduce
the selling price to $175. At this price, she thinks she will sell 50 units. Should
Emma reduce the selling price?
Not Reduce Reduce Price

Rev (40x200) 8,000 Rev(50x175) 8,750

V. cost(40x120) (4,800) Cost(50x120) 6,000
Contribution Margin 3,200 contribution margin 2,750
Fixed cost (,2000) Fixed cost 2,000
Gain 1,200 Gain 750

Emma could also ask: how many units should Emma sell at a price of 175 and
continue to earn 1,200?
 Margin Of Safety
The amount by which budgeted or actual revenues exceed breakeven point

Margin of safety (units) = budgeted or actual units sold ― breakeven point in units

Margin of safety (Revenues) = budgeted or actual sales in revenues ― breakeven point in

revenues

 
Margin of safety percentage =

 
Margin of safety percentage =
 Example
Suppose Emma expect sales of 40 units   •
P=200 ,V=120 F=2,000

Margin of safety (units) = expected sales in units ― breakeven point in units

= 40 ― 25 = 15 units
Margin of safety (revenues) = expected sales in revenues ― breakeven point in revenues
= (40x200) - (25x200)

=8,000 – 5,000 = 3,000 $

Margin of safety percentage =

= = .375 or 37.5%
 Question
The Express Banquet has two restaurants that are open 24-hours a
day. Fixed costs for the two restaurants together total $459,000 per
year. Service varies from a cup of coffee to full meals. The average
sales check per customer is $8.50. The average cost of food and
other variable costs for each customer is $3.40. The income tax rate
is 30%. Target net income is $107,100.

1-Compute the revenues needed to earn the target net income.

2- How many customers are needed to break even?
3-compute margin of safety in units if restaurant expects 120,000
customers for next year .
4-copmute margin of safety percentage
 Solution
1- = =1,020,000
  •
2- = 90,000

3-Margin of safety (units) = budgeted or actual units sold ― breakeven point in units

= 120,000 ― 90,000 = 30,000

Margin of safety in revenues = budgeted or actual sales in revenues ― breakeven point in

revenues
= 120,000x8.5 ― 90,000x8.5
= 255,000

Margin of safety percentage =

= = 25%
 Breakeven point for sales mix

United factory produce three types of products : A ,B, C .the

following information related to the three products as follows:

Product C Product B Product A

10 8 5 Unit price
4 4 2 Variable cost per unit

6 4 3 C.M per unit

3,000 2,000 5,000 of units expected to be #
sold

Fixed cost = 82,000

 Product C
10
Product B
8
Product A
5 Unit price
  •
4 4 2 Variable cost per unit

6 4 3 C.M per unit

3,000 2,000 5,000 of units expected to be sold #

3 2 5 ratio Sales mix

A5
B2
C3

breakeven point=
=
= 82,000/51 = 2,000 bundle
# A = 5x2,000 = 10,000
# B = 2x2,000 = 4,000
# C = 3x2,000 = 6,000
Q(p-v) + Q(p-v)+ Q(p-v) ‫ ــــ‬F
10,000x3 + 4,000x4 + 6,000x6 82,000 ‫ــــ‬ = Zero
  •
Breakeven point in revenues :

10,000x 5 = 50,000
4,000x8 = 32,000
6,000x10 = 60,000
142,000

Breakeven Point in revenues =

 Operating leverage
The risk-return trade-off across alternative cost
structures can be measured as operating
leverage. Operating leverage describes the
effects that fixed costs have on changes in
operating income as changes occur in units sold
and contribution margin. Organizations with a
high proportion of fixed costs in their cost
structures, have high operating leverage
At any given level of sales:   •

Operating leverage =

Operating leverage =
 Option 2 Option 1
180 180 price
130 100 Variable cost per unit
800 2,000 Fixed costs
40 40 Expected sales
1,200 1,200 Operating Income

=Operating Leverage in option 1  

180-(40 =
)100
1,200
2.66 =

=Operating Leverage in option 2  

=

1.66=
 Operating Leverage 2.66 1.66

Suppose sales fall by 10% 36 units

Operating Income for option 1 = 880 1 , 200 −880  26.6 = 

1 , 200

1 ,200−1,000  16.6= 
Operating Income for option 2 = 1,000
1, 200
 Question
Color Rugs is holding a two-week carpet sale at Jerry’s Club, a local warehouse
store. Color Rugs plans to sell carpets for $500 each. The company will purchase the carpets
from a local distributor for $350 each, with the privilege of returning any unsold units for a
full refund. Jerry’s Club has offered Color Rugs two payment alternatives for the use of space.
 
Option 1: A fixed payment of $5,000 for the sale period
Option 2: 10% of total revenues earned during the sale period

 
Required
1. Calculate the breakeven point in units for (a) option 1 and (b) option 2
2. At what level of revenues will Color Rugs earn the same operating income under either
option?
3. Calculate the degree of operating leverage at sales of 100 units for the two rental options.
.Briefly explain and interpret your answer to requirement 3 .4 •
 Solution
BEP for option 1= = = 33.34
  •
BEP for option 2= =

2- Q(p-v)-F = Q(p-v)-F
Q(500-350)-5,000 = Q(500-(350+50))
150Q -5,000 = 100Q
Q= 100

3- operating leverage for option 1 = = = 1.5

3- operating leverage for option 2 = = = 1