C-V-P ANALYIS (Cost – Volume – Profit) OR BREAK-EVEN ANALYSIS
A firm is faced with a number of uncertainties Demand (consumer behaviour) Nature of competition (related to product or price or both) product competition is greater. Cost (no control over wages, raw materials,
Technology (continuous improvements make products obsolete)
Unless a firm is prepared to face the uncertainties created by these risks, its profits would be left to chance. Under such circumstances, a thorough understanding of the relationship of cost, price and volume is helpful.
Method of determining this relationship is
Break-even analysis Break-even analysis involves the study of revenues and costs of a firm in relation to its volume of sales and specifically the determination of that volume at which the firm’s costs and revenues will be equal. The Break-even Point (BEP) is that level of sales at which total revenues equal total costs and the net income is equal to zero.
This is the no-profit-no-loss point.
Objective of BEP The main objective of the break-even analysis is not simply to spot the BEP, but to develop an understanding of cost, price and volume within a company’s practical range of operations.
The break-even chart is an “excellent instrument panel for guidance in controlling one’s business”.
DETERMINATION OF BREAK-EVEN POINT
Determination of Break-even Point
BEP – Physical Units BEP = -------------------------------------- (quantity) Contribution Margin per unit Contribution margin = SP - AVC
At this point the company will not make any profit or loss.
Problem :Suppose the fixed costs of a factory are Rs.10000 per year, the variable costs are Rs.2 per unit and selling price is Rs.4 per unit. How many units the firm should produce in order not to make any profit or loss. We have to calculate the BEP. Total Fixed Costs (TFC) = Rs.10,000 Contribution margin per unit = Selling price – Average variable cost. (SP – AVC) = Rs. 4 – Rs.2 BEP = Total Fixed Costs Contribution margin per unit. BEP = TFC = 10000 = 10000 = 5000
Break-even Point in terms of physical units or quantity = 5000 units.
BEP (Sales Value) BEP = ---------------------------------------- Contribution margin ratio
Contribution margin ratio = Sales - variable costs
BEP – IN TERMS OFSALES VALUE Total Variable Costs 6000 Contribution margin ratio = (10000 – 6000) Contribution margin ratio
At Sales value of Rs.7500 there is no profit-no-loss.
Problem: Sales were Rs.15000 giving a profit of Rs.400 in a week. Sales increased to Rs.19000 giving a profit of Rs.1200. Calculate the BEP. Increase in sales 19000 – 15000 = Rs.4000 Increase in profit 1200 – 400 = Rs. 800 Increase in variable costs 4000 - 800 = Rs.3200 On sales of Rs.4000 variable costs are Rs.3200 Variable cost for 1 rupee of sales Rs. 3200 Given sales of Rs.15000, fixed costs are as under: TVC = 15000 x 0.8 = 12000 Now, Contribution ratio = S-V = 15000 – 12000 = 3000 = 0.2 S 15000 15000
Now, BEP = TFC Contribution ratio = 2600/0.2 = Rs.13000.