Break Even

IS4103 – Module 4
 PROJECT COSTS ELEMENTS
1.Costs for Manufacturing Environments
2.Costs for Financial Statements
3.Costs for Predicting Cost Behavior
 Costs for Manufacturing Environments
Three Broad Categories
1. Direct Materials – are any materials that are used in the final product and that be
easily traced into it.
1. Examples : Wood in the furniture, Chips in your cellphones.
2. Direct Labor – refers to those labor costs that go into the fabrication of the
product.
3. Manufacturing Overhead – includes all costs of manufacturing except direct
materials and direct labor.
1. Examples are : Indirect Materials, Indirect labor, Utilities (Heat, Lightings and telephone)
Costs for non - Manufacturing

Additional Types of Costs

(In Support of Manufacturing)
1.Operating Costs – Such as Warehousing and
Vehicles
2.Marketing (Selling) and Administrative Costs –
costs include all expenses necessary to secure
customer orders and get the finished products into
the customer’s operations.
Marketing (Selling) and Administrative Costs (Examples)
1. Overhead – Heat & Light, property taxes, depreciation,
and similar items associated with its selling and
administrative expenses.
2.Marketing – Advertising, Shipping, Sales Travel, Sales
commissions, and sales salaries
3.Administrative functions – Executive compensation,
general accounting, public relations, secretarial support.
Costs for Financial Statements
Costs incurred to generate particular revenue
should be recognized as expense in the same
period that the revenue is recognized.
1.PERIOD COSTS
2.PRODUCT COSTS
Period costs
Costs that are charged to expense in the period
they are incurred.
- Such costs are not related to the production and
flow of manufactured goods but are deducted
from revenue in the income statement.
- Will appear on the income statement as
expenses in the time period in which they occur.
Product costs

Costs that are matched against products

- Include those involved in the purchase or manufacturing of
goods.
- are not viewed as expenses, they are cost of creating inventory
- Are considered an asset until the related goods are sold.
- It is referred to as the cost of goods sold
- This includes all manufacturing costs, it appears in the financial
statements as cost of goods until it is sold, and not when the
product is manufactured.
Three types of inventory costs

• Raw Materials Inventory – represents the unused portion

of the raw materials on hand at the end of the fiscal year
• Work-in-process inventory – consists of partially
completed goods on hand in the factory at year-end.
• Finished Goods Inventory – the costs of finished goods
on hand and awaiting sale to customers at year end.
Cost Behavior
- Describes how a typical cost will react or respond to changes in the
level of business activity.
Volume Index
➢A unit of measure used to define volume
➢May be based on production inputs (such as tons of coal processed,
direct labor hours, or machine hours worked)
➢ Once volume index is identified, we can find out how costs vary in
response to changes in the volume index.
 Unit Contribution Margin
1. Unit Contribution Margin = Unit Sales Price – Unit Variable Cost
2. Contribution Margin = Total Sales Revenue – Total Variable Costs

Equation 1, States the “unit contribution margin” or per unit basis.

While the second equation is based on the total volume.
 Fixed Costs
1. (Capacity costs) – a costs that has relatively a wide span of output
for which costs are expected to remain constant. The span is
called “Relevant Range”
- Fixed costs do not change within a given period although volume may
change.
- Examples : Building Rents, Depreciation of buildings, machinery and
equipment.
 Variable Costs
a type of costs that has a close relationship with the level of
volume.
- Example are direct labor and direct materials
 Break even sales volume
• The point where total sales revenue is equal to total expenses, variable and fixed.
• The point where-in there is no loss or profit.

BREAK EVEN POINT = FIXED EXPENSES / (UNIT CONTRIBUTION

MARGIN)
BREAK EVEN POINT = FIXED EXPENSES / (SELLING PRICE – VARIABLE
COSTS)
 BREAK-EVEN ANALYSIS

• is a technique widely used by production management

and management accountants. It is based on
categorizing production costs between those which are
"variable" (costs that change when the production
output changes) and those that are "fixed" (costs not
directly related to the volume of production).
 BREAK-EVEN ANALYSIS

• Identifying the value of a particular project variable

that causes the project to exactly break even
 The point in
which there is
no profit or
BREAK-EVEN ANALYSIS loss.
 FACTOR AFFECTING BEP

1. Fixed Costs
2. Variable Cost
3. Selling Price or Profit Margin
- Contribution Margin
 SAMPLE PROBLEM
• Ashland Company manufactures and sells a single product. The company’s
sales and expenses for a recent month are as follows:
a. What is the monthly break-even point in units sold and in sales dollars?
b. How many units would have to be sold each month to earn a minimum
target net income of $50,000
TOTAL PER UNIT
SALES $500,000 $20
LESS VARIABLE EXPENSES $250,000 $10
CONTRIBUTION MARGIN $250,000 $10
LESS FIXED COSTS $150,000
INCOME BEFORE TAX $100,000
 SOLUTION
B. INCOME =
A. BEP = $50,000
$150,000 / $50,000 = Q($20-$10) -
($20 - $10) = $150,000
15,000 UNITS Q = $200,000 / $10
Q = 20,000 UNITS
 SAMPLE PROBLEM
Suppose that a company expects the following financial results
from a project during its first year operation.

Sales Revenue : $250,000

Variable Costs : $80,000
Fixed Costs : $50,000
Total Units produced and sold : 1,000 units
a. Compute for the contribution margin percentage
b. Compute for the break-even point in units sold.
c. What is the income on the problem
 SOLUTION
Given A.CONTRIBUTION MARGIN
Sales Revenue : $250,000 PERCENTAGE
Contribution Margin = (Total Sales Revenue –
Variable Costs : $80,000
Total Variable Costs) / Total Sales Revenue
Fixed Costs : $50,000
CM = $250,000 - $80,000 = $170,000 / $250,000
Total Units : 1,000 units = 68%

B. COMPUTE FOR THE BREAK EVEN

C. INCOME
POINT
SALES – EXPENSES
BEP = FIXED COSTS / (SELLING-FIXED)
$250,000 – $80,000 –
= FIXED COSTS / UNIT CONTRIBUTION
$50,000 = $120,000
MARGIN = $50,000 / $170 = 294.12 Units