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Sales Mix Break-even Point Calculation Sales mix is the proportion in which two or more products are sold.

For the calculation of break-even point for sales mix, followin assumptions are made in addition to those alread! made for C"P anal!sis# $. %he proportion of sales mix must be predetermined. &. %he sales mix must not chan e within the relevant time period. %he calculation method for the break-even point of sales mix is based on the contribution approach method. Since we have multiple products in sales mix therefore it is most likel! that we will be dealin with products with different contribution mar in per unit and contribution mar in ratios. %his problem is overcome b! calculatin wei hted avera e contribution mar in per unit and contribution mar in ratio. %hese are then used to calculate the break-even point for sales mix. %he calculation procedure and the formulas are discussed via followin example# 'xample# Formulas and Calculation Procedure Followin information is related to sales mix of product (, B and C. Product ( B C Sales Price per )nit *$+ *&$ *,"ariable Cost per *. *$/ *$. )nit Sales Mix Percenta e &01 &01 -01 %otal Fixed Cost */0,000 Calculate the break-even point in units and in dollars. Calculation Step 1# Calculate the contribution mar in per unit for each product# Product ( B C *$ *& Sales Price per )nit *,+ $ *$ 2 "ariable Cost per )nit *. *$. / Contribution Mar in per )nit **3 *$3 Step 2# Calculate the wei hted-avera e contribution mar in per unit for the sales mix usin the followin formula# Product ( CM per )nit 4 Product ( Sales Mix Percenta e 5 Product B CM per )nit 4 Product B Sales Mix Percenta e 5 Product C CM per )nit 4 Product C Sales Mix Percenta e 6 7ei hted (vera e )nit Contribution Mar in Product ( B C Sales Price per )nit *$+ *&$ *,2 "ariable Cost per )nit *. *$/ *$. Contribution Mar in per )nit **3 *$3 4 Sales Mix Percenta e &01 &01 -01 *$.& *$./ *$0.& Sum# 7ei hted (vera e CM per )nit *$&.80 Step 3# Calculate total units of sales mix re9uired to break-even usin the formula# Break-even Point in )nits of Sales Mix 6 %otal Fixed Cost : 7ei hted (vera e CM per )nit */0,00 %otal Fixed Cost 0 : 7ei hted (vera e CM per )nit *$&.80 Break-even Point in )nits of Sales ,,$&+ Mix Step 4# Calculate number units of product (, B and C at break-even point# Product ( B C Sales Mix ;atio &01 &01 -01 ,,$& ,,$& 4 %otal Break-even )nits ,,$&+ + + Product )nits at Break-even Point -&+ -&+ $,83+ Step 5# Calculate Break-even Point in dollars as follows#

Product Product )nits at Break-even Point 4 Price per )nit Product Sales in <ollars Sum# Break-even Point in <ollars

( B -&+ -&+ *$+ *&$ *.,,3 *$,,$& + + *.0,000

C $,83+ *,*-3,+00

Mathematical Approach to CVP Analysis: Defining Re en!e: %he first step in C"P anal!sis is to define revenue as a linear relationship between the sellin price and the 9uantit! sold. %he sellin price is determined after considerin customers, cost, and other influences on price as discussed previousl!. 7e define total revenue as a positive strai ht-line relationship between the sellin price per unit and the number of units sold. %hat is# %otal revenue 6 Sellin price 4 =umber of units sold or %; 6 SP>?@ An eneral it is possible to increase total revenue b! increasin sellin price, the 9uantit! of units sold, or both. 7hile this ma! not alwa!s be true, within the relevant ran e, we assume that once set, sellin prices remain the same at all volumes. Defining Cost: =ext 7e define total cost as havin a linear relationship between the cost and the number of units purchased or produced. (nal!st determine the total amount of fixed costs over the relevant ran e and the variable cost per unit produced or purchased b! usin a cost estimation techni9ue such as the hi hBlow method or linear re ression anal!sis. %his results in the followin e9uation# %otal cost 6 >"ariable cost per unit =umber of units produced@ 5 Fixed cost or %C 6 "C>?@ 5 FC %herefore, total cost increases be!ond the level of fixed costs as the 9uantit! of units purchased or produced increases. 7e assume that, throu hout the relevant ran e, the fixed cost component remains constant in total, and the variable cost component remains constant per unit. Defining Profit: =ow that we have defined total revenue and total cost, it is possible to determine profit. An C"P anal!sis, profit is the excess of revenues over costs. Because both revenues and costs are stated in a mathematical form, so, too, is profit# %otal revenue - %otal cost 6 Profit or SP>?@ - "C>?@ - FC 6 P =otice that both total revenue and total variable cost are dependent on the number of units produced and sold. %he difference between sellin price per unit and variable cost per unit is known as the contribution mar in per unit >SP -"C@. At is so named because it represents the portion of each sales dollar available to contribute to fixed costs. Cnce fixed costs are covered, the contribution mar in contributes to profit. )sin CM to represent the contribution mar in per unit, we represent the C"P relationship as follows# SP>?@ - "C>?@ - FC 6 P >SP - "C@? - FC 6 P CM>?@ 6 P CM>?@ - FC 6 P CM>?@ 6 FC5P ? 6 >FC 5 P@BCM %hus >FC 5 P@BCM 6 ? is a short-cut wa! to calculate the number of units that must be produced and sold in order to cover the fixed costs and contribute to profit. At is also known as the contri"!tion margin approach to CVP analysis.

#rea$e en Point Analysis: Breakeven is the level of sales volume where business neither makes a profit nor suffers a loss i.e., the profit is Dero. (t this point or level of sales volume, business enerates sales revenue that is sufficient onl! to cover all variable as well as all fixed costs. %he above concept can also be explained as follows# Profit: Sales revenue E "ariable cost 5 fixed cost #rea$e en: Sales revenue 6 "ariable cost 5 fixed cost %oss Sales revenue F "ariable cost 5 fixed cost &'ample: Sales >/0,000 units@ Fixed production cost *&0,000 Fixed marketin and administrative &-,&00 cost "ariable production cost $.,000 "ariable marketin and administrative +,000 cost %otal cost Profit from operations *80,000

30,&00 *.,800

Calculate breakeven point in sales dollars and in units usin e9uation method and contribution mar in method. Sol!tion: Equation Method: SP>?@ - "C>?@ - FC 6 P *&>?@ - *0.->?@ - /-,&00 6 0 *$./? 6 /-,&00 6 /-,&00B$./ 6 ,,,000 units %he breakeven point is ,,,000 units. Af the compan! produces and sales ,,,000 units its costs and revenues will be e9ual. An above e9uation, the P 6 0 because at breakeven point profit is Dero. 7e can also calculate breakeven point in dollars# ,,,000 4 *& 6 *--,000 Contribution Margin Method: )nder this method breakeven point is calculated b! dividin total fixed cost b! the unit contribution mar in# FC B CM */-,&00 B *$./ 6 ,,,000 units or ,,,000 4 *& 6 *--,000

7e can also use the contribution mar in ratio rather than contribution mar in per unit as the denominator. (fter this variation the resultant fi ure will be breakeven point in dollars# FC B CM ratio */-,&00 B 0.3G 6 *--,000 G $ - >&/,000 B 80,000@ (arget Profit Analysis: %ar et profit is the amount of profit that mana ement desires to earn for a period in future. (arget profit analysis normall! involves in workin out the business activit! to achieve the desired profit. ( compan! cannot survive if it onl! breaks even because it needs profit to row, to pa! off debts, and to distribute dividends to owners. %herefore for plannin purposes, it is necessar! to determine a certain tar eted profit level. %he concept can best be explained with the help of a numerical example. &'ample: <irect materials cost6 *0.-0 H Fixed cost I annuall! 6 30, H Sales price 6 ,.00

7orkers are paid J *0.+0 per product manufactured Re)!ire*: %he mana ement want to make a profit of *$+0. Kow man! units of product must be soldL Sol!tion: %otal revenue - %otal cost 6 Profit or SP>?@ - "C>?@ - FC 6 P *,>?@ - *$.$0>?@ - *30, 6 *$+0 *$..0? - *30, 6 *$+0 *$..0? 6 *$+0 5 *30, *$..0? 6 *8+, ? 6 *8+, B *$..0 6 //8..+ or )sin the contribution mar in approach alternativel! ives the followin # >*30, 5 *$+0@ B *$..0 6 //8..+ ;esults indicate that the business must sell //. units to earn a profit of *$+0. Determining the (arget Profit %e el after (a': An man! countries corporations must pa! income taxes on profits. Fortunatel! we can easil! incorporate taxes into cost volume profit anal!sis. %o have a particular amount of profit after taxes, a compan! must earn more profit before taxes. 7e calculate the level of before-tax profit, or the amount of profit a compan! earns prior to the deduction of taxes, as follows# <esired profit after taxes B >$ - %ax rate@ 6 Before-tax profit =ow assume the mana ement want to make a profit of *$+0 and the business is subMect to a $+ percent tax rate, how man! units must be sold to earn a profit of *$+0 after taxL At is calculated as follows# *,>?@ - *$.$0>?@ - *30, 6 *$+0 B >$ - 0.$+@ *$..0? - *30, 6 *$3-./3 6 $..0? 6 *83../3 ? 6 /-&.88 Cr usin the contribution mar in approach#

(ccordin to these calculations, the business must sell /-, units of product to make a profit of *$+0 after taxes. %ake a moment to examine the followin profit report that confirms this result. Profit Report +hen 4,3 !nits are pro*!ce* an* sol* Sales >/-, 4 *,@ *$,,8. Ness variable costs >/-, 4 *$.$0@ +0..,0 Contribution mar in Ness fixed costs 83..30 30,

Profit before taxes Ness taxes Profit after taxes G<ifference due to roundin

$3-.30 &-.+$ $+0.$.G

Contri"!tion Margin: %he excess of sales revenue over variable costs is called contri"!tion margin or marginal income. Kere variable costs means both manufacturin and non-manufacturin variable costs. First the amount of contribution mar in covers both manufacturin and non-manufacturin fixed costs and then provide profit to the business. %his concept can also be explained b! the followin e9uations# Sales revenue - "ariable costs 6 Contribution mar in Contribution mar in - Fixed costs 6 =et income &'ample: ( corporation produced and sold $&,000 units durin the first month. %he sale price per unit was *&&. %he costs of producin $&,000 units were# <irect materials *,0,000 <irect Nabor *,0,000 "ariable factor! overhead *-0,000 Fixed factor! overhead */8,000 Fixed marketin and administrative expenses for the first moth were *,+000. %here were no variable marketin and administrative expenses. Calculate contribution mar in and prepare a contribution mar in format income statement. Sol!tion: Sales - "ariable expenses &-/,000G - >,0,000 5 ,0,000 5 -0,000@ $//,000 G%otal sales revenue >$&000 4 *&&@ Contri"!tion Margin -ormat .ncome Statement Sales >$&,000 4 *&&@ &-/,000 Variable cost of goods manufactured: <irect materials ,0,000 <irect labor ,0,000 Factor! over head - variable -0,000 "ariable cost of oods sold Contribution mar in Fixed expenses: Factor! overhead Marketin and expenses Cperatin income $&0,000 $//,000 /8,000 administrative ,+,000 8,,000 -$,000

%he above income statement is called contribution mar in format income statement. At is called so because it shows contribution mar in fi ure in the statement and is different from traditional income statement that makes

the use of absorption costin s!stem. At is also known as direct or variable costin income statement. =ormall! this t!pe of income statement is prepared for the use of internal mana ement.

Graphical Approach to CVP Analysis:


In graphical approach, straight lines represent both total sales revenues and total costs.

The above example shows total sales line (also called total revenue line) and cost line. Notice that the total sales line begins at the origin because if no units are sold, no sales revenue is earned. On the other, hand the total cost line does not begin at the origin because fixed assets are incurred even if no units are produced and sold. The point where the total cost line intersects with the total sales line is called the break even point. It can be measured in dollars on the y axis or in units on the x axis. In our example brea!even point is "#,$$$,$$$ or %,$$$ units. &ecause total revenues e'ual total costs at the brea! even point. It is the point where the company does not ma!e a profit or a loss. Therefore the area above the brea!even point where the total sales line is above the cost line is the profit area, while the area below the brea!even point where the total cost line is above the total sales line is the loss area. CVP graph (also known as breakeven chart) is very useful tool for visuali(ing cost profit volume relationship because it allows us to see the brea!even point as well as the profit and loss areas. )hen managers use *+, as a planning tool, they use a mathematical model based on these linear relationships.