5 - 1 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show

5 - 2 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Cost-Volume-Profit Relationships

5 - 3 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Cost-Volume-Profit Relationships To manage any size business you must understand: éhow costs respond to changes in sales volume éthe effect of costs and revenues on profits.

5 - 4 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Cost Behavior Analysis The study of how specific costs respond to changes in the level of business activity.

5 - 5 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Activity (Volume) Index The activity that causes changes in the behavior of costs. Examples: éSales dollars in retail company éMiles driven in trucking company éRoom occupancy in hotel éClasses taught at college

5 - 6 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Activity (Volume) Index Changes in level or volume of activity should be correlated with changes in costs.

5 - 7 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Three Categories of Costs éVariable éFixed éMixed

5 - 8 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Variable Costs - in Total Costs that vary in total directly and proportionately with changes in the activity level. Variable Cost= $10 per unit è 0 units = $ 0= total è 2 units = $ 20= total è 4 units = $ 40= total è 6 units = $ 60=total è 8 units = $ 80=total è10units = $100=total Illustration 5-1

5 - 9 VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Variable Costs - per Unit Costs that remain the same per unit at every level of activity. Variable Cost= $10 per unit è 0 units = $ 0 per unit è 2 units = $ 10 per unit è 4 units = $ 10 per unit è 6 units = $ 10 per unit è 8 units = $ 10 per unit è10units = $ 10 per unit Illustration 5-1

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Fixed Costs - in Total Costs that remain the same in total regardless of changes in the activity level. éProperty Taxes éInsurance éRent éSupervisory Salaries éDepreciation on building, equipment

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Fixed Cost - in Total Total Fixed Costs= $ 10,000 2 units = $ 10,000 per month 4 units = $ 10,000 per month 6 units = $ 10,000 per month 8 units = $ 10,000 per month 10units = $ 10,000 per month Costs that remain the same in total regardless of changes in the activity level. Illustration 5-2

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Fixed Cost - per Unit Total Fixed Costs= $ 10,000 2 units = $ 5,000 per unit 4 units = $ 2,500 per unit 6 units = $ 1,667 per unit 8 units = $ 1,250 per unit 10units = $ 1,000 per unit Costs that very inversely with activity. As volume increases, unit cost declines. Illustration 5-2

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Relevant Range The range of activity index over which the company expects to operate during the year. Often between % of Capacity

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Mixed Costs Costs that contain both a variable and a fixed cost element and change in total but not proportionately with changes in the activity level. Rental of U-haul Truck é$50 a day (Fixed Amount) + é$.50 a mile (Variable Cost)

Behavior of a Mixed Costs Illustration 5-5

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show High-Low Method A mathematical method that uses the total costs incurred at the high and low levels of activity.

High-Low Method Metro Transit Company has the following maintenance costs and mileage data for its fleet of buses over a 4-month period: Illustration 5-7 April $63,000 50,000 January 30,000 20,000 Difference $33,000 30,000 $33,000  30,000 = $1.10 variable costs per mile Month January February Miles Driven 20,000 40,000 Total Cost $30,000 $48,000 Month March April Miles Driven 35,000 50,000 Total Cost $49,000 $63,000

High-Low Method Illustration 5-8 Metro Transit Company would compute the fixed portion as: Maintenance costs are $8,000 per month fixed plus $1.10 per mile. For example at 45,000 miles, estimated maintenance costs would be $49,500 = variable (45,000 x $1.10), and $8,000 fixed. Total Cost Less: Variable costs (50,000 x $1.10) (20,000 x $1.10) Total fixed costs High $63,000 55,000 $ 8,000 Low $30,000 22,000 $ 8,000 Activity Level

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show High-Low Method The high-low method generally produces a reasonable (not a precise) estimate for analysis.

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Cost-Volume-Profit (CVP) Analysis The study of the effects of changes in costs and volume on a company’s profits. Illustration 5-9

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show CVP Income Statement A statement for internal use that classifies costs and expenses as fixed or variable and reports contribution margin in the body of the statement.

480,000 Traditional Format Sales$ 800,000 Cost of goods sold520,000 Gross profit280,000 Operating expenses Selling expenses$ 100,000 Administrative expenses60,000 Total operating expenses160,000 Net income$ 120,000 CVP Format Sales $ 800,000 Variable expenses Cost of goods sold$ 400,000 Selling expenses60,000 Administrative expenses20,000 Total variable expenses Contribution Margin 320,000 Fixed expenses Cost of goods sold120,000 Selling expenses40,000 Administrative expenses40,000 Total fixed expenses200,000 Net income$ 120,000 Illustration 5-31 CVP Income Statement

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Contribution Margin (CM) The amount of revenue remaining after deducting variable costs.

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Contribution Margin Per Unit The amount of revenue remaining per unit after deducting variable costs; calculated as unit selling price minus unit variable cost.

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Contribution Margin Ratio The percentage of each dollar of sales that is available to contribute to net income; calculated as contribution margin per unit divided by unit selling price.

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show CVP Graph A graph showing the relationship between costs, volume, and profits.

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Target Net Income The income objective for individual product lines.

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Break-Even Point The level of activity at which total revenues equal total costs.

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Break-Even Point Is the level of activity where total revenues equals total costs, both fixed and variable. Can be expressed in sales dollars or sales units. Is useful to management in deciding whether: –To add new product lines – Change sales prices on current products – To enter new markets

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Break-Even Point

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show Margin of Safety The difference between actual or expected sales and sales at the break-even point.

VariableVariable/Fixed Costs RelevantRelevant Range MixedMixed Costs CVPCVP Analysis Contribution Contribution Margin BreakBreak-Even Point MarginMargin of Safety CVPCVP Income Statement Next Slide Previous Slide End Show