M-102

Unit – VIII
PROFITS

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 Contents

 Determinants of Short-term & Long-term profits.

 Classification - Measurement of Profit.
 Break Even Analysis - Meaning, Assumptions,
 Determination of BEA,
 Limitations,
 Uses of BEA in Managerial decisions.

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 Concept of Profit

 Profit is the surplus revenue after a firm has paid all its
costs.
 Profit can be seen as the monetary reward to
shareholders and owners of a business.
 The term “profit” imply different meanings to different
people. Such as, profit is regarded as income to the
equity holder, wages to the labor, rent to the owner,
interest to the money lender, etc.
 Profit is the revenue remaining after all costs are paid.
These costs include labor, materials, interest on debt,
and taxes. Profit is usually used when describing
business activity.

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 Profit is a financial benefit that is realized when the
amount of revenue gained from a business activity
exceeds the expenses, costs and taxes needed to
sustain the activity.
Profit = Total Revenue –Total expenses

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 Types of Profit

Gross Profit Operating Net Profit

Profit

• Sales - • Gross • TR-

COGS Profit – (TVC+TFC)
Operating
expenses

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 Capital Asset

 A capital asset is any asset that a taxpayer holds. It

may or may not be related to his business or
profession or held for personal use.
 It includes assets that are tangible or intangible,
movable or immovable, and fixed or circulating.
 For example house property, land, shares and stocks,
mutual funds, bonds, jewelry, vehicles, patents, and
trademarks.

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 Short term and Long term Profit

 A short term profit or gain is a capital gain realized

by the sale or exchange of a capital asset that has
been held for exactly one year or less.

 A long term capital gain or profit is a gain from

qualifying investment owned for longer than 12
months before it was sold.

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 Determinants of Profit

 The degree of competition of a firm faces

 Strength of demand
 State of economy
 Advertising
 Substitutes
 Relative costs
 Economies of scale
 Price discrimination
 Objectives of firm
 Management of Business

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 Break Even Analysis

 Break-even analysis is of vital importance in determining

the practical application of cost functions.
 It is a function of three factors, i.e. sales volume, cost and
profit. It aims at classifying the dynamic relationship
existing between total cost and sale volume of a
company. Hence it is also known as “cost-volume-profit
analysis”.
 It helps to know the operating condition that exists when
a company ‘breaks-even’, that is when sales reach a point
equal to all expenses incurred in attaining that level of
sales.

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 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 revenue will be equal.
 The main objective of the BEA is to develop an
understanding of the relationships of cost, price and
volume within a company's practical range of
operations.

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 Break Even Point

 The break-even point (BEP) is the point where a

company’s revenues equals its costs.
 The break-even point allows a company to know
when it, or one of its products, will start to be
profitable. If a business’s revenue is below the break-
even point, then the company is operating at a loss.
 The calculation for the break-even point can be done
one of two ways; one is to determine the amount of
units that need to be sold, or the second is the
amount of sales, in Rs, that need to happen.

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 BEP in units

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 BEP in Sales Value

FixedCosts
BEP (inRS ) 
P / VRatio
FC  Selling Pr ice
Selling Pr ice  VC
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 Margin of Safety

 It is difference between the actual sales and the BEP

sales.

MOS inunits   Actualsales  BEPsales

Actualsales  BEPsales
MOS (in %)  100
Actualsales

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 Managerial uses of BEA

 Determination of Safety Margin (MOS)

 Sales volume to attain Target Profit
FC  T arg et Pr ofit
T arg etSalesVolume 
Contributionperunit
FC  P

P / V Ratio

 Profit at given Sales Volume

Pr ofit  ( Sales  P / VRatio )  FC

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 Change in Price
 Multi-product manufacturing
 Change in costs
a) If Variable costs change
FC  P
Qn 
SP  VCn
SPn  SP  (VCn  VC )

b) If Fixed costs changes

FCn  FC FCn  FC
Qn  Q  SPn  SP 
SP  VC Q
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 Capacity expansion decisions
 Decision regarding addition or deletion of Product
line
 Make or buy decision
 Advertising and Promotion Mix Decisions
 Equipment Selection

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 Illustration

1. ABC company produces a single product. Following data

is given about its product:
SP per unit = Rs 40
VC per unit= Rs 24
FC per annum = Rs 16,000
Calculate:
a) P/V Ratio
b) BEP sales
c) Sales to earn profit of Rs 2,000
d) Profit at Sales of Rs 60,000
e) New BEP sales, if price is reduced by 10%

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 Contd..

2. From the following information find out :

a) P/V Ratio
b) Target Sales Volume
c) Margin of Safety
Fixed Cost = ₹ 40,000
Profit = ₹ 20,000
BEP sales = ₹ 80,000

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