Overview of Accounting - Part 1

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					   Breakeven Analysis
         Part 1
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     EGR 403 Capital Allocation Theory
         Dr. Phillip R. Rosenkrantz
 Industrial & Manufacturing Engineering Department
                 Cal Poly Pomona
         EGR 403 - The Big Picture
• Framework: Accounting & Breakeven Analysis
• “Time-value of money” concepts - Ch. 3, 4
• Analysis methods
  –   Ch. 5 - Present Worth
  –   Ch. 6 - Annual Worth
  –   Ch. 7, 8 - Rate of Return (incremental analysis)
  –   Ch. 9 - Benefit Cost Ratio & other techniques
• Refining the analysis
  – Ch. 10, 11 - Depreciation & Taxes
  – Ch. 12 - Replacement Analysis
                     EGR 403 - Cal Poly Pomona - SV3     2
               Introduction
• Break even (BE) analysis helps engineers
  understand the “big picture”
• Knowing how your project or assignment
  affects profitability can help you sell your
  projects to upper management
• Understanding BE analysis illustrates the
  value of engineers to the company

                EGR 403 - Cal Poly Pomona - SV3   3
Recall from the P & L Statement
• Fixed costs - do not vary (e.g., lease costs,
  rent, insurance)
• Variable costs - vary with volume of
  production (e.g., labor, materials, supplies,
  rent, etc.) Overhead can also be applied
  here as a variable expense or burden rate.
• Profit Equation -
         Profit = Revenue - Expenses
                EGR 403 - Cal Poly Pomona - SV3   4
         Breakeven Volume
• Total Variable Cost (VC) is a function of
  volume (x) of units sold.
      Total VC = Variable Cost/unit * x
• Total Cost = Fixed Cost + Total VC
• Revenue is also a function of units sold:
         Revenue = Price/unit * x
• Breakeven Volume is the number of units
  you need to sell so that:
           Revenue = Total Cost
               EGR 403 - Cal Poly Pomona - SV3   5
    Breakeven Volume (cont’d)
• Find x such that:
     Price/unit * x = Fixed + VC/unit * x
• Therefore:
  xBE = Fixed Cost / (Price/unit - VC/unit)
• If actual volume is < xBE , you have a loss
• If actual volume is > xBE , you have a profit

                EGR 403 - Cal Poly Pomona - SV3   6
               Fixed Cost
Fixed cost is the the same, regardless of volume




               EGR 403 - Cal Poly Pomona - SV3     7
   Variable Cost + Fixed Cost
Total Cost goes up with volume because Variable
                 Cost increases




               EGR 403 - Cal Poly Pomona - SV3    8
Total Revenue is based on volume and selling price/unit.
Where the Revenue and Total Cost lines intersect is the
Break Even (BE) Point. That volume is the BE Volume




                  EGR 403 - Cal Poly Pomona - SV3   9
                     Profit
Above the BE point, the difference between the
Revenue and Total Cost lines represents profit




              EGR 403 - Cal Poly Pomona - SV3    10
                      Loss
If volume is below the BE point, the difference
       between the lines represents a loss




              EGR 403 - Cal Poly Pomona - SV3     11
         Break Even Analysis
• Collect financial and cost information to
  determine fixed and variable costs
  – Fixed costs
  – Variable cost/unit (labor, materials, overhead)
• Estimate Selling Price per unit from
  marketing analysis and market testing
• Determine BE volume and compare to
  estimated sales
• If estimated sales volume is not above the
  BE volume, make adjustments
                EGR 403 - Cal Poly Pomona - SV3       12

				
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posted:6/7/2012
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