Module 5 Lecture 2

COST, VOLUME and PROFIT

Ma. Cecilia C. Carlos

Rene D. Estember
 Cost Structure Price

Margin Total Cost

Manufacturing Marketing General &

Cost Cost Admin. Cost

Prime Cost Overhead Cost

Direct Direct Indirect Indirect Fixed

Labor Material Labor Material Overhead
Cost Cost Cost Cost Cost

Direct Direct Indirect Indirect

Wages Benefits Wages Benefits
 Cost Concepts
 Fixed costs - unaffected by changes in activity level
 Variable costs – associated with an operation that vary in
total with volume of output
 Incremental costs – additional cost resulting from increasing
the output of a system by one unit
 Direct costs – can be measured and allocated to a specific
output
 Indirect costs – difficult to distribute or allocate
 Prime costs – sum of direct labor and direct material costs
 Standard costs – representative cost/unit established in
advance
 Cash cost – cost that involves payment of cash
 Noncash or book costs – those that do not involve payment
of cash
 Sunk cost – occurred in the past and has no relevance to
future costs
 Opportunity costs – incurred due to use of limited resources
Cost Equation:

TC = TFX + (UVC * X)

Where:
TC = Total Cost
TFC = Total fixed cost (per time period)
UVC = Unit variable cost (per unit of
volume)
X = volume of production
 Cost-Volume-Profit Relationship
 EQUATION METHOD
Revenues – Variable Costs – Fixed Costs = Operating
Income

 Break-even Volume – volume at which total revenues equals total

costs
TR = UP * X where UP = unit price
TC = TFC + (UVC * X)
At break-even,

X= TFC__
UP – UVC
 Break-even revenues

BEP = TFC_____________
Contribution Margin (%)
Where Contribution Margin = (UP-UVC)/UP
 BREAKEVEN POINT

 TARGET OPERATING INCOME

Breakeven = Fixed Costs + Target Operating Income

Unit Contribution Margin

= Fixed Costs + Target Operating Income

USP - UVC
 Break-Even Point (BEP)
Leverage
BEP = Fixed Operating Costs + Interest Expenses
Unit Price – Unit Variable Cost
 Operating Leverage – incurrence of fixed operating costs in the
firm’s income stream.
Degree of Operating Leverage (DOL) = % Change in Net
Operating Income
% Change in Sales
DOL = Peso Sales – Variables Costs______
Peso Sales – Variable Costs – Fixed Costs
 Financial Leverage – financing a portion of the firm’s assets
with securities bearing a fixed or limited rate of return.

Degree of Financial Leverage (DFL) = % Change in Earnings per

Share
% Change in Net Operating
Income
DFL = Net Operating Income____
Net Operating Income - Interest
USE of C-V-P Relationships

 To increase business profit:

 Increasing selling price (UP)
 Decreasing variable cost per unit (UVC)
 Decreasing fixed costs (TFC)
 Increasing sales volume (X)
 Influences on Costs

 Changes in input prices

 Rate of change in production volume
 Direction of change in production volume
 Duration of change in volume
 Prior knowledge of change in volume
 Productivity
 Management discretion
 Learning curves
Sample Problems

I. Cost Concepts

Mr. X purchased an inoperable stove for P100

expecting to sell it for P500 after repairs
estimated at P160. After spending P200 on
repairs, he found out that he needed another
P250 to completely repair the stove.
Furthermore, he could only sell the stove for
P400. Should Mr. X continue with the repair?
Why? Show computations.
 Sample Problems

I. Breakeven Point

Mary Frost plans to sell Do-All Software, a software

package, at a heavily attended two-day computer
convention in Chicago. Mary can purchase this
software from a computer software wholesaler at
$120 per package with the privilege of returning all
unsold units and receiving a full $120 rebate per
package. The units (packages) will be sold at $200
each. Frost has already paid $2,000 to Computer
Conventions, Inc., for the booth rental for the two-
day convention. What quantity of units will she need
in order to breakeven? Assume there are no other
costs.
 Sample Problems

The FAMIE is planning its July 4 alumni homecoming. There

are two possible plans:
c. Manila Hotel, which has a fixed rental cost of P25,000
plus a charge of P900 per person for its own catering of
meals and serving of drinks.
d. PICC, which has a fixed rental cost of P50,000. The
FAMIE can hire a caterer for meals and waitresses to
serve meals and drinks at P600 per person.
The FAMIE budgets P35,000 in costs for administration and
marketing. The band will cost a fixed amount of
P25,000. Tickets to this prestige event will be P1,200
per person. All the drinks served and the prizes given
away at the homecoming will be donated by corporate
sponsors.

Required.
 Compute the breakeven point for each plan in terms of
tickets sold.
 Compute the operating income of the event (a) if 150
people attend, and (b) if 300 people attend. Comment
on your results.
 At what level of tickets sold will the two plans have the
 CVP

Given:
Selling Price = PhP 8.50/pc.
Variable Cost = PhP 6/pc.
Fixed Costs = PhP400/period
Sales volume = 200 units
Calculate:
BE volume and revenues
Effect of the following changes on income:
 10% increase in selling price
 10% decrease in variable cost
 10% decrease in fixed costs
 10% increase in sales volume