Contribution Margin and Basics of Cost Volume Profit _CVP_ Analysis

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Contribution Margin and Basics of Cost Volume Profit _CVP_ Analysis Powered By Docstoc
					Presentation
Sl   Name                          ID


01 A.K.M Mohsin        Group Member
                                 10202061


02 Md. Moshiur Rahman              10202065


03 Md. Kabir Hossain               10202071


04 Roma Akter                      10202073


05 Suraia Sultana                  10202100


06 Md. Rasheduzzaman               10202107
   Contribution margin is the
    amount remaining from sales
    revenue after variable
    expenses have been
    deducted

    Formula of contribution margin

   Sales revenue − Variable cost
    =Contribution Margin

     Formula of Net operating Income or
    Loss

Contribution margin − Fixed cost= Net
  operating Income or Loss
   ABC company annual sales $50,0000 and variable cost
    is $50,000 and fixed cost $ 40,0000. calculate
    contribution margin and Net operating Income or Loss

 Solution:
Contribution margin = (Sales revenue − Variable cost )
                      =($ 500,000 - $ 500,00)
                       =$450,000

Net operating Income or Loss =(Contribution margin −
  Fixed cost)
                               =($450,000 - $ 400,000)
Net operating Income          =$ 500,00
     Formula of calculate profit
Profit =( sales * cm ratio) – fixed
  cost

Problem : Sales = $5,000,000 , cm
   ratio
= 0.40 and Fixed cost = $1,600,000

Solution :
Profit =( sales * cm ratio) – fixed cost
       =($5,000,000 * 0.40 ) - $1,600,000
       =$2,000,000 - $1,600,000
       = $400,000
                • Gross Margin is the Gross Profit as a percentage of
                  Net Sales.
                • The calculation of the Gross Profit is: Sales minus
Gross Margin      Cost of Goods Sold.
                • The Cost of Goods Sold consists of the fixed and
                  variable product costs, but it excludes all of the
                  selling and administrative expenses.




               • Contribution Margin is Net Sales minus the variable
Contribution     product costs and the variable period expenses.
  Margin       • The Contribution Margin Ratio is the Contribution
                 Margin as a percentage of Net Sales.
       Let’s illustrate the difference between gross margin and contribution margin with
        the following information: company had Net Sales of $600,000 during the past
        year. Its inventory of goods was the same quantity at the beginning and at the
        end of year. Its Cost of Goods Sold consisted of $120,000 of variable costs and
         $200,000 of fixed costs. Its selling and administrative expenses were $40,000 of
                               variable and $150,000 of fixed expenses.




• The company’s Contribution Margin is: Net Sales of        • The company’s Gross Margin is: Net Sales of
  $600,000 minus the variable product costs of $120,000       $600,000 minus its Cost of Goods Sold of
  and the variable expenses of $40,000 for a Contribution     $320,000 ($120,000 + $200,000) for a Gross Profit
  Margin of $440,000. The Contribution Margin Ratio is        of $280,000 ($600,000 - $320,000). The Gross
  73.3% ($440,000 divided by $600,000).                       Margin or Gross Profit Percentage is the Gross
                                                              Profit of $280,000 divided by $600,000, or 46.7%.
The relationships among revenue, cost, profit and volume can be expressed
graphically by preparing a cost-volume-profit (CVP) graph or break even
chart. A CVP graph highlights CVP relationships over wide ranges of activity
and can give managers a perspective that can be obtained in no other way.


Preparing a CVP Graph or Break-Even Chart:
In a CVP graph some times called a break even chart unit volume is
commonly represented on the horizontal (X) axis and dollars on the vertical
(Y) axis. Preparing a CVP graph involves three steps.

1. Draw a line parallel to the volume axis to present total fixed expenses. For
example assume total fixed expenses $35,000.


2. Choose some volume of sales and plot the point representing total
expenses (fixed and variable) at the activity level you have selected. For
example we select a level of 600 units. Total expenses at that activity level are
as follows:
Fixed Expenses                                                         $35,000
Variable Expenses (150×600)                                            $90,000
                                                                       ---------
Total Expenses                                                         $125,000
                                                                       ======
After the point has been plotted, draw a line through it back to the point where the
fixed expenses line intersects the dollars axis.
3.Again choose some volume of sales and plot the point representing total
  sales dollars at the activity level you have selected. For example we have
  chosen a volume of 600 units. sales at this activity level are $150,000
  (600units × $250) draw a line through this point back to the origin. The break
  even point is where the total revenue and total expense lines cross. See the
  graph and note that break even point is at 350 units. It means when the
  company sells 350 units the profit is zero. When the sales are below the
  break even the company suffers a loss. When sales are above the break
  even point, the company earns a profit and the size of the profit increases
  as sales increase.
                • The contribution margin as a percentage of
Definition of     total sales is referred to as contribution margin
Contribution      ratio (CM Ratio).
Margin Ratio:   • This ratio is extensively used in cost-volume
                  profit calculations.




Formula of CM
                 • CM Ratio= Contribution Margin/ Sales
    Ratio
    Consider the following contribution margin income statement of A. Q. Asem private
    Ltd. in which sales revenues, variable expenses, and contribution margin are
    expressed as percentage of sales.
                                      Total             Per Unit          Percent
                                                                          of Sales
Sales (400 units)                     $100,000          $250              100%
Less variable expenses                60,000            150               60%
                                      ------------      ------------      ------------
Contribution margin                   $40,000           $100              40%
                                      ======            ===
Less fixed expenses                   35,000
                                      ------------
Net operating income                  $5,000
                                      ======

                          Calculate contribution margin ratio
According to above data of A. Q. Asem private Ltd. the computations are:
             Contribution Margin Ratio = (Contribution Margin / Sales) × 100
                              = ($40,000 / $100,000) × 100
                                         = 40%

   In a company that has only one product such as A. Q. Asem CM ratio can also be calculated as
    follows:
             Contribution Margin Ratio = (Unit contribution margin / Unit selling price) × 100
                                          = ($100 / $250) × 100
                                                 = 40%
The following data is used to show the effect of changes in sales price on
   contribution margin and profitability.

   Basic Data:
        Selling price:          $250 (100%)
        Variable Expenses:      $150 (60%)
        Contribution Margin:    $250 – $150 = $100 (40%)
        Fixed Expenses:         $35,000 per month

    The company is currently selling 400 units per month. The company has an
    opportunity to make bulk sale of 150 units to wholesaler if an acceptable
    price can be worked out. This sale would not disturb the company's regular
    sales and would not affect the company's total fixed expenses. What price
    per unit should be quoted to the wholesaler if company wants to increase its
    monthly profits by $3,000?
   Solution:

    Variable cost per unit          $150
    Desired profit per unit         20
                                    ----------
    Quoted price per unit           $170
                                    ======

    Notice that fixed expenses are not included in the
    computation. This is because fixed expenses are not affected
    by the bulk sale, so all of the additional revenues that is in
    excess of variable costs increase the profit of the company.
   Definition and explanation:
                                   This is that level of materials at which a new
    order for supply of materials is to be placed. In other words, at this level a
    purchase requisition is made out. This level is fixed somewhere between
    maximum and minimum levels. Order points are based on usage during time
    necessary to requisition order, and receive materials, plus an allowance for
    protection against stock out.

   Formula of Re-order Level or Ordering Point:

    1. Ordering point or re-order level = Maximum daily or weekly or monthly
                                   usage ×Lead time

The above formula is used when usage and lead time are known with certainty;
   therefore, no safety stock is provided. When safety stock is provided then the
                        following formula will be applicable:

    2. Ordering point or re-order level = Maximum daily or weekly or monthly
                                  usage ×Lead time + Safety stock
   Example 1:

Minimum daily requirement                                   800 units
Time required to receive emergency supplies          4 days
Average daily requirement                                   700 units
Minimum daily requirement                                   600 units
Time required for refresh supplies    One month (30 days)

                 Calculate ordering point or re-order level

   Calculation:

Ordering point = Ordering point or re-order level = Maximum daily or weekly
                        ormonthly usage × Lead time

                                 = 800 × 30
                               = 24,000 units
   Definition and Explanation:
                                 The minimum level or minimum stock is
    that level of stock below which stock should not be allowed to fall. In
    case of any item falling below this level, there is danger of stopping of
    production and, therefore, the management should give top priority
    to the acquisition of new supplies.


   Formula:

Minimum limit or level = Re-order level or ordering point – Average or
                 normal usage× Normal re-order period


                     Or the formula can be written as:

Minimum limit or level = Re-order level or ordering point – Average usage
                              for Normal period
     Example:
      Normal usage                                          100 units per day
      Maximum usage                                         130 units per day
      Minimum usage                                         70 units per day
      Re-order period                                       25 to 30 days

                             Calculate: minimum limit or level

[ To calculate minimum limit of materials we must calculate re-order point or re-order
                                        level first ]
 Calculation:

       Ordering point or re-order level = Maximum daily or weekly or monthly usage
                                     × Maximum re-order

                                        = 130 × 30
                                       = 3,900 units

    Minimum limit or level = Re-order level or ordering point – Average or normal usage
                                  × Normal re-order period

                                   = 3900 – (100 × 27.5*)
                                        =1150 units
                                      =*(25 + 30 ) / 2
     Definition: Break even point is the level of sales at which profit is zero.
      According to this definition, at break even point sales are equal to fixed cost
      plus variable cost. This concept is further explained by the following equation:
                     [Break even sales = fixed cost + variable cost]

    The break even point can be calculated using either the equation method or
           contribution margin method. These two methods are equivalent's.

     Equation Method: The equation method centers on the contribution
      approach to the income statement. The format of this statement can be
      expressed in equation form as follows:

                 Profit = (Sales − Variable expenses) − Fixed expenses

    Rearranging this equation slightly yields the following equation, which is widely
                        used in cost volume profit (CVP) analysis:

                  Sales = Variable expenses + Fixed expenses + Profit

      According to the definition of break even point, break even point is the level
      of sales where profits are zero. Therefore the break even point can be
      computed by finding that point where sales just equal the total of the
      variable expenses plus fixed expenses and profit is zero.
   For example:
    Sales price per unit                   $250
    variable cost per unit                 $150
    Total fixed expenses                   $35,000

                          Calculate break even point

Calculation:
               Sales = Variable expenses + Fixed expenses + Profit
                        $250Q* = $150Q* + $35,000 + $0**
                                 $100Q = $35000
                                Q = $35,000 /$100
                                  Q = 350 Units

                  Q* = Number (Quantity) of units sold.
**The break even point can be computed by finding that point where profit
                                 is zero


 The break even point in sales dollars can be computed by multiplying the
          break even level of unit sales by the selling price per unit.

                       350 Units × $250 Per unit = $87,500

				
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