5.

l
l
=

BREAK EVEN POINT ANALYSIS
11.5.1 Break Even Point in Units
Illustration 1:
Assume the selling price of product Rs.20/-per unit and variable cost per unit Rs.10/-
and the fixed cost Rs.1000/- Find out the break even point.
Sales
Variable Cost
Contribution
Fixed Cost
Profit
Rs.20/-
Rs.10/-
Rs 10/-
Rs.1000/-
(-) Rs. 990/-
If the firm produces only one unit, the amount of loss is Rs.990/-. To avoid the amount of
loss how many units are to be produced ?
As already highlighted, BEP is the point at which the firm neither earns profit nor incurs loss.
Profit/Loss is a resultant out of Contribution while meeting out the fixed cost volume of
the transaction. From the above example, the contribution per unit is Rs.10/ not sufficient
to meet out the fixed cost volume of Rs.1000/-. The purpose of finding out the BEP in
units is to identify the level of contribution which is not only equivalent as well as to meet
fixed cost of the transaction but also to avoid loss. To raise the volume of contribution at
par with the fixed cost volume, fixed cost has to be related to the contribution margin per
unit through the ratio given below
Fixed cost= "X" units x Contribution Margin Per Unit
"X" units can be found out from the following
"X" units =
Fixed Cost
Contribution Margin Per Unit
The total number of units "X" which equate the contribution volume of "X" units with the
total fixed cost is the Break Even Point (Units).
Break Even Point (Units) =
Fixed Cost
Contribution Margin Per Unit
Rs.1000/-
Rs.10/-
= 100 Units
The above illustration reveals that how many number of times the contribution margin
per unit should be equivalent to the total fixed cost volume. Hence the number of times
is nothing but the units required to have equivalent volume of contribution to the tune of
184
fixed cost.
(a)
(b)
= =
192

APPLICATIONS OF AR!INAL COSTIN!
ake or B"# $e%ision
The firms which are routinely in need of spares, accessories are bought from the outsiders
instead of any production or manufacturing, though the requirement is at regular intervals.
Most of the automobile manufacturers are usually buying the components from outside
instead of producing them on their own. The Maruthi Udyog ltd had given a contract to
the Nettur Technical Training Foundation, Bangalore to design the tool for the panel and
to manufacture regularly to the tune of the orders.
The leading four wheeler manufacture in India is buying the panel from the NTTF on
contract basis instead of manufacturing.

&'# (on)t t'e# *an"+a%t"re in s,ite o+ -"#in. t'e* +ro* t'e NTTF /
The main reason of buying is cheaper than the production of an article.
Illustration 8
The management of a company finds that while the cost of making a component part is
Rs. 20, the same is available in the market at Rs. 18 with an assurance of continuous
supply.
Give a suggestion whether to make or buy this part. Give also your views in case the
supplier reduces the price from Rs. 18 to Rs. 16.
The cost information is as follows
Marginal Costing
Material
Direct Labour
Other variable expenses
Fixed expenses
Total
Rs 7,00
Rs. 8.00
Rs. 2.00
Rs. 3.00
Rs.20.00
The first point to be found out that the contribution of the transaction. The cost of
manufacturing should be compared with the price of the product which is available in the
market.
To find out the worth of the transactions, first the cost of manufacturing should be found
out
Material
Direct Labour
Other variable expenses
Total
Rs. 7.00
Rs. 8.00
Rs. 2.00
Rs.17.00
The cost of manufacturing a component is Rs.17.00. While calculating the cost of
manufacturing a component, the fixed expenses was not considered. The fixed expenses
were not considered for computation. Why?
The costs will be incurred irrespective of the production status of the firm; for which the
expenses should not be added.
If the company manufactures the product/ component at Rs.17 which will facilitate to
book profit Rs. 1 from the price of Rs.18 which is available from the market.
The next stage is decision criteria.
11.0.1 &ort' o+ Pro("%tion
Cost of the production < Price of the product available in the market
The firm is better advised to take the course of production rather than purchase of the
product.
11.0.2 &ort' o+ P"r%'ase
Cost of the production > Price of the product available in the market
The product available in the market is dame cheaper than the manufacturing of a product.
The firm is better advised to buy the product rather than the manufacturing of a product
If the product price comes down to the price of Rs.16 facilitates the firm to save Re 1
from the cost of manufacturing.
193
=

Accounting and Finance for
Managers
Illustration 9
A refrigerator manufacturer purchases a certain component @ Rs.50 per unit. If he
manufactures the same product he has to incur a fixed cost of Rs.20,000 and variable
cost per unit is Rs. 40/- when can the manufacturer make on his own or when he can
buy from outside ?
&'en t'e re3"ire*ents is Rs. 54555 "nits4 6i77 #o" a(vise to *ake or -"#/
The very first point to be found that Break even point in units.
The break even point in units at which the cost of buying is equivalent to the cost of
manufacturing.
The cost of purchase per unit - Rs 50/-
If the same product is manufactured, what would be the total cost of manufacture ?
Total cost of manufacture= Total fixed cost + Variable cost
The cost of buying is felt that an exorbitant one than the cost of manufacturing. Having
observed, as a manufacturer undergoes for the manufacturer of a component. If he
manufactures a component, he could save Rs.10=( Rs.50Rs.40) Which in other words
known as contribution per unit
Before finding out the Break even point in units, the contribution of the product should be
found out.
Contribution margin per unit= Selling price in the market Cost of manufacture
Contribution margin per unit is nothing but the amount of savings to the manufacture.
Amount of savings out of the manufacture = Purchase price Variable cost
Though the firm enjoys savings, it is required to additionally incur fixed cost of operations
Rs.20,000
Break even point in units =
Fixed cost
Purchase price- Variable cost
Rs.20,000
Rs.50Rs.40
= 2,000 units
At 2,000 units, the firm considers both alternatives are incurring equivalent volume of
Cost in manufacturing.
Cost of buying for 2,000 units
=2,000 units Rs.50 per unit= Rs. 1,00,000
Cost of Buying Break even in Rupees
= Rs.20,000 + 2,000 units Rs.40 = Rs.1,00,000
From the above, it obviously understood that both are bearing equivalent amount of
costs. It means both are neither profitable nor non- profitable.
&'i%' one is -etter +or t'e +ir*/
No o+ Units
@ 2,001 units
an"+a%t"rin. %ost
Rs.20,000+ Rs.80,0040
=Rs.1,00,040
B"#in. %ost
2001 Rs.50
= Rs.1,00,050
$e%ision
Manufacturing
cost < Buying cost
Advisable to
manufacture
194
@1,999 units Rs.20,000+Rs.79,960
=Rs.99,960
1,999 Rs.50
Rs.99,950
Manufacturing
cost > Buying cost
Advisable to Buy
195

The next step is to identify the worth of either manufacturing the units or buying the units
at 5,000
If the manufacturer buys from the outsider= 5,000 Rs.50= Rs.2,50,000
If the same manufacturer produces the component instead of buying
=Rs.20,000+ Rs.2,00,000= Rs.2,20,000
From the above, the company is finally advised to manufacture the component due to
low cost of manufacture.
11.15 ACCEPTIN! T8E E9PORT OFFER
Illustration 10
The cost statement of a product is furnished below
Marginal Costing
Direct material
Direct wages
Factory overhead
Fixed Rs1.00
Rs.10.00
Rs.6.00
Variable
Administrative expenses
Selling or distribution overheads
Fixed
Variable
Selling price per unit Rs.24.00
Rs.1.00
Rs.0.50
Rs.1.00
Rs.2.00
Rs.1.50
Rs.1.50
Rs.21.00
The above figures are for an output of 50,000 units. The capacity for the firm is 65,000
units A foreign customer is desirous of buying 15,000 units a price of Rs.20 per unit.
Advise the manufacturer whether the order should be accepted, 6'at 6i77 -e #o"r
a(vise i+ t'e or(er 6ere +ro* t'e 7o%a7 *er%'ant/
The acceptance of the order is mainly based on the two important covenants viz Additional
cost and Additional revenue.
If the additional demand of the foreign buyer is able to generate the additional revenue
more than the additional cost of the operations, the firm should have to accept the foreign
order.
Decision criteria
Marginal/Additional cost for the additional order of 15,000 units
Per "nit :Rs; 154555 "nits
Selling price
Less:Marginal cost
Direct material
Direct wages
Variable overhead
Factory
Rs
10.00
6.00
1.00
20 3,00,000
Selling & Distribution 1.00 18
2
2,70,000
30,000
The acceptance of the order will generate marginal profit of Rs.30,000 which should be
accepted. The fixed portion of the factory and selling overheads were already met out

Accounting and Finance for
Managers
which should not be included again in the computation of the marginal or additional cost
of the foreign order placed by the business enterprise.
Instead, If the firm accepts the local order at the rate of Rs.20 which automatically will
spoil the relationship with the very good customers who regularly purchase at the rate of
Rs.24. This will lead to cannibalization of the existing pricing strategy.
11.11 KEY FACTOR
Key factor is nothing but a limiting factor or deterring factor on sales volume, production,
labour, materials and so on.
The limiting factor normally differs from one to another
Volume of sales- the limiting factor is that production of required number of articles
Volume of production- the limiting factors are as follows in adequate supply of raw
materials, labor, inability to sell the produced articles and so on
The limiting factors are studied in the lights of the contribution. The limiting factor is
bearing the inverse relationship with the volume of contribution. To study the worth of
the business proposals among the limiting factors, the contribution is considered as a
parameter to rank them one after another.
Illustration 11
From the following data, which product would you recommend to be manufactured in a
factory, time being the key factor?
Parti%"7ars
Direct Material
Direct Labor @ Re 1per hr
Variable overhead Rs.2 per hr
Selling price
Standard time to produce
Per "nit o+ Pro("%t A Rs
24
2
4
100
2 Hours
Per "nit o+ Pro("%t B Rs
14
3
6
110
3 Hours
(I.C.W.A.Inter)
The product is being chosen by the manufacturer based on the ability of generating
higher contribution. The higher the contribution leads to a better the position for the firm
The worth of the product is being selected on the basis of
Parti%"7ars
Selling price
Less :Direct Material
Direct Labor @ Re 1per hr
Per "nit o+ Pro("%t A Rs
100
24
2
Per "nit o+ Pro("%t B Rs
110
14
3
Variable overhead Rs.2 per hr 4 30 6 23
Contribution
Standard time to produce
Contribution per hour per product
70
2 Hours
Rs.70/2 Hrs= Rs.35
87
3 Hours
Rs.87/3 Hrs= Rs 29
From the above calculation, it is obviously understood that the firm is having higher
contribution margin per hour in the case of product A over the other one, portrays the
product A is better than B.
Illustration 12
The following particulars are obtained from costing records of a factory:
Parti%"7ars
Direct Material Rs.20 per Kg
Per "nit o+ Pro("%t A Rs
80
Per "nit o+ Pro("%t B Rs
320
196
Direct Labor @ Re 10per hr 100 200
Contd...
(a)
(b)
(a)
(b)

Variable overhead
Selling price
Total fixed overheads
40
400
Rs.30,000
80
1,000
Marginal Costing
Comment on the profitability of each product during the following conditions:
In adequate supply of raw material
Production capacity is limited
(c)
(d)
Sales quantity is limited
Sales value limited
The first step is to determine the Contribution per product.
According to the constraints given in the problem, contribution of two products should be
compared.
Parti%"7ars
Selling price
Direct Material Rs.20 per Kg
Direct Labor @ Re 10per hr
Per "nit o+ Pro("%t A Rs
400
80
100
Per "nit o+ Pro("%t B Rs
1,000
320
200
Variable overhead
Contribution margin per unit
40 220
180
80 600
400
Now the contribution per unit has found out with the help of above given information the
next step is to study the contribution margin per unit to the tune of given constraints of
the firm.
The first constraint is in adequate supply of the raw material: The raw materials
are considered to be precious due to insufficient supply to the requirement of the
firm. Having considered the scarcity of the raw material, the constraint in availing
the raw material is denominated in terms of ability of contribution generation.
Parti%"7ars
Contribution margin per unit
Consumption of raw material
per unit
Cost of raw material per unit
Cost of material per Kg
Contribution per Kg
Per "nit o+ Pro("%t A Rs
180
Rs 80 = 4 Kgs
Rs.20
Rs. 180 = Rs.45
4 Kgs
Per "nit o+ Pro("%t B Rs
400
Rs.320 = 16 Kgs
Rs20
Rs.400 = Rs.25
16 Kgs
It obviously understood that the firm enjoys greater contribution margin per k.g in
the case of Product A during the scarcity of raw material than the product B.
Then the production capacity of the firm is subject to the availability of the labour and
the hours normally consumed by them for the production of a single product. Due to
shortage of the labour, the firm should identify the product which requires lesser
labour hours as well as able to generate more contribution margin per labour hour.
In the next step, Contribution margin per hour should be calculated.
Parti%"7ars
Contribution margin per unit
Consumption of Labor Hrs
Cost of Labor per unit
Cost of Labor per Hour
Contribution per Hr of the
Per "nit o+ Pro("%t A Rs
180
Rs100 = 10 Hrs
Rs.10
Rs. 180 = Rs.18
Per "nit o+ Pro("%t B Rs
400
Rs.200 = 20 Hrs
Rs10
Rs.400 = Rs. 20
product
10 Hrs 20 Hrs
197
(c)
(d)
1.
2.
(c) (d)
1.

Accounting and Finance for
Managers
The contribution per hour is greater in the case of the product B, considered to be
as a better product among the given. It means that the firm has better opportunity
to earn greater contribution in the case of product B than A.
The next one is that sale of the quantities is the major limiting factor. It means that
the vendor finds some what difficulties in selling the articles. While considering the
difficulties in selling the quantities, the firm should identify the product which is able
to generate greater contribution.
From the earlier calculation, it is clearly understood that, the product B is bearing
greater value of contribution margin per unit than the product.
If the sales value is considered to be a limiting factor, to choose one among the
given products PV ratio is being applied as a measure. It means that the sales
value of the products are ignored for comparison in between them. To identify the
better product, irrespective of the price, PV ratio should be applied. The PV ratio
of the Product A & B are calculated as follows
Profit volume ratio =
Contribution
Sales
100
For A = 45%
For B = 40%
The PV ratio is greater in the case of product A than B. The product A has to be
chosen
C'e%k Yo"r Pro.ress
Which is the following factor equated to the Contribution at the level of Break Even
Point ?
(a)
(c)
Fixed cost
Variable cost
(b)
(d)
Sales
Semi-Variable cost
What is the change to be made on the BEP formula to find out the volume of sales at
the desired level of profit ?
(a) Desired profit
Desired profit with Fixed cost
(b) Fixed cost
Desired cost + Fixed profit
11.11 SELECTIN! T8E SUITABLE PRO$UCT I9
In the market, dealership is offered by the various companies to the individual intermediaries
in promoting the sale of products. Before reaching an agreement with the company to act
as a dealer, normally every individual consider the profitability of the product mix offered
by the firm. For e-g There are two different companies brought forth their advertisements
in offering the dealership to the individual trading firms viz HCL and IBM.
The profitability under the dealership banner should be appropriately considered prior to
take decision. To take rational decision, the firm should compare the profitability of both
different dealership of two different giant industrial brands. The greater the share of the
profitability in volume will be selected and vice versa.
C'e%k Yo"r Pro.ress
If the supply of the material is considered to be scared in the market for two different
units of production of ABC ltd. How the worth of the units of production could be
studied through Key factor analysis?
198
Contd...
(a)
2.
3.
(a)
(c)
(d)
(a)

Contribution per unit (b) Contribution per labour
Marginal Costing
(c) Contribution per hour (d) None of the above
While accepting export order, which component of influence should not be taken into
consideration?
(a)
(c)
Direct material
Direct labour
(b)
(d)
Direct expenses
Fixed cost
If Licon co ltd wants to induct a product B along with the existing product line, what
would be the deciding factor to undertake or reject?
(a)
(c)
Composite contribution
Contribution margin per unit
(b)
(d)
Fixed cost
None of the above
Illustration 13
From the following information has been extracted of EXCEL rubber products ltd
Direct materials A
Direct materials B
Direct wages A
Direct wages B
Variable overheads
Fixed overheads
Selling price A
Selling price B
Rs 16
Rs12
24 Hrs at 50 paise per hour
16 Hrs at 50 paise per hour
150% of wages
Rs. 1,500
Rs.50
Rs.40
The directors want to be acquainted with the desirability of adopting any one of the
following alternative sales mixes in the budget for the next period.
250 units of A and 250 units of B
(b) 400 units of B only
400 units of A and 100 units of B
150 units of A and 350 units of B
State 6'i%' o+ t'e a7ternative sa7es *i<es #o" 6o"7( re%o**en( to t'e *ana.e*ent/
The first step is to determine the contribution margin per unit of A and B.
The determination of the contribution of product A and B are through the preparation of
Marginal costing statement.
Parti%"7ars Pro("%t A Rs Pro("%t B Rs
Selling price
Less: Direct Materials
Direct wages
Variable overheads
Variable cost
Contribution
16
12
18
50
46
4
12
8
12
40
32
8
The next step is to determine the profit level of every mix.
250 units of A and 250 units of B
The first step is to determine the total contribution of the mix. Why the total
contribution has to be found out?
The main reason is to determine the profit level of the mix through the deduction of
the fixed overheads
199
(c)
(d)
200

Accounting and Finance for
Managers
Product of A
Product of B
250 units Rs.4=
250 units Rs.8=
Rs.1,000
Rs.2,000
Contribution
Fixed overheads
Profit
Rs.3,000
Rs.1,500
Rs.14555
(b) 400 units of B only
Product B Contribution
Fixed overheads
Profit
400 units Rs.8 =
Rs.3,200
Rs.1,500
Rs.14=55
400 units of A and 100 units of B
Product of A
Product of B
Contribution
Fixed overheads
Profit
400 units Rs.4
100 units Rs.8
Rs.1,600
Rs. 800
Rs.2,400
Rs.1,500
Rs.055
150 units of A and 350 units of B
Product A
Product B
Contribution
Fixed overheads
Profit
150 units Rs.4
350 units Rs.8
Rs.600
Rs.2,800
Rs.3,400
Rs.1,500
Rs.14055
Mix
Contribution
A
Rs.1,500
B
1,700
C
900
D
14055
The profit level among the given various mixes, the mix (d) is able to generate
highest volume of profit over the others
11.12 $ETERININ! OPTIU LEVEL OF
OPERATIONS
Under this method, the level has to be found out which is having lesser selling price, cost
of operations and greater profits known as optimum level of operations.
Illustration 14
A factory engaged in manufacturing plastic buckets is working at 40% capacity and
produces 10,000 buckets per annum.
The present cost break up for bucket is as under
Material
Labour
Overheads
Rs.10
Rs.3
Rs.5(60% fixed)
The selling price is Rs 20 per bucket
If it is decided to work the factory at 50% capacity, the selling price falls by 3%. At 90 %
capacity the selling price falls by 5% accompanied by a similar fall in the prices of material.
=

You are required to calculate the profit at 50% and 90% capacities and also calculate
Marginal Costing
break even point for the same capacity productions. (C.A.Inter May,1976)
The very first step is to compute number of units at every level of capacity i.e. 50% and
90%.
But in this problem, 40 % capacity utilization given which amounted 10,000 units.
For 50% =
10,000
40
units 50 = 12,500 units
For 90 % =
10,000 units
40
90 = 22,500 units
The important information is that the changes taken place in the selling price of the
product.
Selling price = Rs.20 @ 40% i.e., 10,000 units
Selling price @ 50% i.e. 12,500 units = Rs.203% on Rs.20 = Rs.19.40
Selling price @90% i.e. 22,500 units=Rs.205% on Rs.20 = Rs.19
While preparing the marginal costing statement, the fixed cost portion should not be
included for the computation of the contribution.
The next step is to prepare the marginal costing statement.
Parti%"7ars 55 > %a,a%it#:114555 Units; 05> %a,a%it# Rs:114555 "nits
Per "nit Rs Tota7 Rs Per "nitRs Tota7Rs
Selling price
Less: Direct Materials
Direct wages
Variable overheads
Variable cost
Contribution
Fixed costs
Profit
19.40
10
3
2
15
4.40
2,42,500
1,25,000
37,500
25,000
55,000
30,000
25,000
19.00
9.50
3
2
14.50
4.50
4,27,500
2,13,750
67,500
45,000
1,01,250
30,000
71,250
The last step is to determine that the break even point
Parti%"7ars
Break even point in units
Fixed cost
Contribution margin per unit
Break even point in value
BEP in units Selling price
55 > %a,a%it# 114555 "nits
Rs.30,000
Rs.4.40
=6,818 units
6,818 units Rs 19.40
=Rs.1,32,269.2
05> %a,a%it# 114555 "nits
Rs.30,000
Rs.4.50
=.6,667units
6,667units Rs.19
=Rs.1,26,673
11.1? ALTERNATIVE ET8O$ OF PRO$UCTION
It is a method to identify the best method of production to generate greater contribution
as well as profit. The method which is able to earn greater profit only will be considered,
known as limiting factor method.
Illustration 15
Product X can be produced either by machine A or machine B. Machine A can produce
100 units of X per hour and machine B 150 units per hour. Total machine hours available
during the year are 2,500. Taking into account the following data determine the method
of profitable manufacture.
201
1.

Accounting and Finance for
Managers
11.15 LET US SU UP
"Marginal cost is the amount at any given volume of output, by which aggregate costs
are charged, if the volume of output is increased or decreased by one unit." Marginal
Costing is defined as "the ascertainment of marginal cost and of the effect on profit of
changes in volume or type of output by differentiating between fixed and variable costs."
In marginal costing, the change in the level of cost of operation is equivalent to variable
cost due to fixed cost component which is fixed irrespective level of outputs. Break
Even Point is the point at which the Total Cost is equivalent to Total Revenue. At the
break even point the business neither earns profit nor incurs a loss. It means that the
firm's cost is recovered at the minimum level of production. PV ratio is Profit Volume
ratio which establishes the relationship in between the profit and volume of sales. It a
ratio normally expressed in terms of contribution towards volume of sales. It is expressed
in terms of percentage. Key factor is nothing but a limiting factor or deterring factor on
sales volume, production, labour, materials and so on.
The limiting factor normally differs from one to another
Volume of sales- the limiting factor is that production of required number of articles
In the market, dealership is offered by the various companies to the individual intermediaries
in promoting the sale of products. Before reaching an agreement with the company to act
as a dealer, normally every individual consider the profitability of the product mix offered
by the firm.
11.1@ LESSONAEN$ ACTIVITY
Should we evaluate a managers performance on the basis of controllable or non-
controllable costs? Why? Give your opinion.
11.1= KEY&OR$S
ar!inal cost: Change occurred in the cost of operations due to change in the level of
production.
" # $ %&nits': It is the level of units at which the firm neither incurs a loss nor earns
profit.
"#$ %(olume': It is the level of sales in Rupees at which the firm neither incurs a loss
nor earns profit.
)i*ed cost: It is a cost which is fixed or remains the same for irrespective level of
production.
(aria+le cost: It varies along with the level of production.
,ontri+ution: It is an amount of balance available after the deduction of variable cost
from the sales.
-ey factor: Factor of influence on the component of contribution.
$( ratio: Profit volume ration which is nothing but the ratio in between the contribution
and sales.
.esired profit: It is a profit level desired by the firm to earn at the given level of sales
volume.
11.1B CUESTIONS FOR $ISCUSSION
Define marginal cost.
202
2. Define marginal costing.
3.
4.
5.
6.
7.
8.
9.

What is Break Even Point Analysis?
Marginal Costing
Explain the Graphic approach of BEP analysis.
Briefly explain the profit volume ratio.
Explain the various kinds of managerial decisions.
Elucidate the key factor analysis.
List out the advantages of marginal costing.
Highlight the limitations of marginal costing.
11.10 SU!!ESTE$ REA$IN!S
R.L. Gupta and Radhaswamy, Advanced Accountancy.
V.K. Goyal, Financial Accounting, Excel Books, New Delhi.
Khan and Jain, Management Accounting.
S.N. Maheswari, Management Accounting.
S. Bhat, Financial Management, Excel Books, New Delhi.
Prasanna Chandra, Financial Management Theory and Practice, Tata McGraw
Hill, New Delhi (1994).
I.M. Pandey, Financial Management, Vikas Publishing, New Delhi.
Nitin Balwani, Accounting & Finance for Managers, Excel Books, New Delhi.
203