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CVP Analysis

CVP (cost-volume-profit) analysis examines how costs, volume of sales, and profits change in relation to one another. It helps forecast profits at different sales volumes and determines the volume needed to reach a target profit level. Break-even analysis calculates the sales volume where total revenue equals total costs, having neither profit nor loss. The profit volume ratio and variable cost ratio are key metrics used in CVP and break-even analysis to determine important figures like required sales volume, margin of safety, and effects of changes in fixed or variable costs.

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shishirj
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927 views

CVP Analysis

CVP (cost-volume-profit) analysis examines how costs, volume of sales, and profits change in relation to one another. It helps forecast profits at different sales volumes and determines the volume needed to reach a target profit level. Break-even analysis calculates the sales volume where total revenue equals total costs, having neither profit nor loss. The profit volume ratio and variable cost ratio are key metrics used in CVP and break-even analysis to determine important figures like required sales volume, margin of safety, and effects of changes in fixed or variable costs.

Uploaded by

shishirj
Copyright
© Attribution Non-Commercial (BY-NC)
Available Formats
Download as PPT, PDF, TXT or read online on Scribd
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CVP ANALYSIS

An analysis of how cost and profit changes when volume


changes is known as
Cost – Volume – Profit analysis.

The Relationship
-Profit depends on selling price, cost of
manufacturing and volume of sale
-Selling price depends on cost of manufacturing
-Volume of sales depends on volume of production

The volume of production depends on cost

Profit = Selling price - Variable cost - Total fixed cost


OBJECTIVES OF CVP
• To forecast profit fairly accurately
• Forecast sales volume to achieve a particular level of
profit
• To prepare flexible budgets where variable cost alone
changes
• If sales volume increases what would be the profit
• Effect on profit if fixed cost or variable cost changes
• Required sales volume to cover additional fixed charges
• And so many other business operation related decisions
BREAK EVEN ANALYSIS
• The break even point is the sales volume at which there is
neither profit nor loss, costs being equal to revenue.
Fixed Cost
• Break Even (volume) = ---------------------
Contribution margin (Selling price – Variable cost per unit)

• It measures the amount each unit sold contributes to cover


fixed cost and increase profits.
Fixed Cost
• BEP (Amount) = -----------------
PV Ratio
PROFIT VOLUME RATIO (PV Ratio)
• PV Ratio also known as contribution margin ratio, marginal income ratio or
variable profit ratio is useful;
a) For determining the desired volume of output for specified amount
of profit
b) To know changes in profit due to changes in volume

• A HIGHER PV RATIO INDICATES THAT A SIGNIFICANT INCREASE IN


VOLUME WITHOUT ANY INCREASE IN THE FIXED COST WOULD
RESULT IN HIGHER PROFITS
Contribution margin per unit
• PV ratio = ----------------------------------
Selling price per unit

• This indicates the contribution of every additional rupee of sales to cover


fixed cost and generating a profit
• If my fixed cost is Rs. 20,000 and PV ratio is 40 % the break even would be
Fixed cost 20,000
• --------------- = ----------- = Rs.50,000
PV Ratio 40%
VV RATIO

• Variable cost to volume ratio indicates


relationship between variable cost and
sales volume.

• VV RATIO = 1 - PV ratio
MARGIN OF SAFETY
• It is better to have a level of sales greater than break even sales.
Margin of safety is the difference between the expected or actual
level of sales and break even sales.
Actual sales – Break Even sales volume
• Margin of safety % = ------------------------------------------------ X 100
Actual sales

• A HIGHER MARGIN OF SAFETY SHOWS THAT BREAK EVEN


POINT IS MUCH BELOW THE ACTUAL SALES. EVEN IF THERE
IS A FALL IN SALES , THERE WILL STILL BE PROFIT.

• If Actual sales is Rs. 6,000 and Break Even Rs. 3,600 the MS ratio
would be 40%. This means actual sales may be reduced up to 40 %
to reach a break even level.

• Margin of safety can also be used to measure the amount of profit


• Profit = margin of safety amount X PV ratio

• If Margin of safety is Rs.2.400 and PV ratio is 33.335 THE PROFIT


WOULD BE Rs.800
SALES VOLUME REQUIRED TO DESIRED
OPERATING PROFIT
Fixed cost + Desired operating profit
• Required sales volume = --------------------------------------------
PV Ratio

• Ex. Calculate desired level of operation from the following


figures assuming a tax rate of 40% and the net profit
expectation of 20% on capital of Rs. 2 Crore after tax)
( Rupees )
• Selling price per unit 400
• Variable cost 250
• Fixed cost
• Staff salaries for the year 12,00,000
• General office exp 13,00,000
• Depreciation on assets 10,00,000
• Other fixed expenses 2,50,000
Desire Income before tax i.e. operating income
• Expected profit 20% after tax on Rs. 2 crore = 40,00,000
Tax rate = 40%
Profit before tax = 40,00,000 X 100 = 66,66,667
60
• PV Ratio = Contribution margin per unit / selling price
= 400-250/ 400 = 0.375

• Fixed cost Rs. 37,50,000


37,50,000 + 66,66,667
• Required sales revenue = 0.375
•
= Rs.2,77,77,776
Desired level of output=2.77 crore/400=69444.44 units

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