MANAGEMENT SERVICES | Lecture Week 1

Judean Majella O. Monfero, CPA, MBA, CTT

COST-VOLUME-PROFIT (CVP) ANALYSIS

I. Cost-Volume-Profit Analysis – a profit planning tool that deals with the relationship of
profit with costs and sales volume.

II. Elements of CVP Analysis

1. Sales
a. Selling Price
b. Units or Volume
2. Total Fixed Costs
3. Variable Cost per unit
4. Sales mix

III. Assumptions in CVP Analysis

1. Costs – either variable or fixed

2. Cost and Revenue relationship – predictable and linear over relevant range of activities
and specified period of time
3. Total Variable Costs – change directly with cost driver, but variable cost per unit is
constant over the relevant range
4. Total Fixed Costs – constant over the relevant range, but fixed cost per unit vary inversely
with the cost driver
5. Selling Price per unit – remain unchanged
6. Production = Sales – if there is no change in inventory
7. Selling multiple products – sales mix is constant
8. Technology & Productive efficiency – constant
9. Time value of money – ignored

IV. Contribution Margin

a. Contribution Margin (CM)

- A measure of a company’s ability to cover variable costs with revenues.
- also known as Marginal Income, Profit Contribution, Contribution to Fixed Cost or
Incremental Contribution.

b. Contribution Margin Income Statement

CM IS is prepared for management’s own use which facilitates the CVP analysis.

CM Ratio is also known as marginal ratio or profit-volume (P/V) ratio.

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MANAGEMENT SERVICES | Lecture Week 1
Judean Majella O. Monfero, CPA, MBA, CTT

V. Break-even Point (BEP) – the sales level at which profit is zero (total revenues = total costs)

Target Profit must be before tax: Pre-tax profit = After tax profit / (100% - tax rate)

VI. Margin of Safety - maximum amount by which sales could decrease without incurring a loss.

Like the break-even point, safety margin can also be expressed in units or in peso sales.
NOTE: Since MS + BEP = Sales, then MS Ratio + BEP Ratio = Sales Ratio (100%)

VII. Indifference Point - the level of volume at which total costs or profits are the same between
two alternatives under consideration.

VIII. Sales Mix (a.k.a. product mix) is the proportion of different products that comprise the
company’s total sales.

IX. Degree of Operating Leverage (DOL) measures how sensitive the pre-tax profit is to sales
volume increases and decreases. It is also known as operating leverage factor.

DOL = CM ÷ Pre-tax Profit = Δ% in Pre-tax Profit ÷ Δ% in Sales

EXERCISES: COST-VOLUME-PROFIT ANALYSIS

Problem 1. MOM Scents Company sells a single product. The sales and expenses for a recent month
follows:
Sales (12,000 units) P 300,000
Less: Variable Costs 120,000
Contribution Margin P 180,000
Less: Fixed Costs 150,000
Profit P 30,000

REQUIRED:
1. Determine the following:
A) Unit selling price B) Unit variable cost C) CM D) CM ratio (CMR)
2. For profit planning purposes, compute the following:
A) Break-even point in units B) Break-even peso sales
3. What is the margin of safety at its present sales of P 300,000?

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MANAGEMENT SERVICES | Lecture Week 1
Judean Majella O. Monfero, CPA, MBA, CTT

4. What unit sales are required to earn P 75,000 profit for the month?
5. What peso sales are required to earn an after-tax profit of P 60,000 (tax rate: 20%)?
6. What peso sales are required to reach a return on sales or profit margin ratio of 20%?

Problem 2. Brighter Company sells tables and chairs in sets. The projected profit for next month is as
follows:

REQUIRED:
1. How many units of chairs should be sold next month to break-even?
2. How many units of tables should be sold to earn a profit of P 150?

Problem 3. Meow Company’s break-even sales are P 528,000. The variable cost ratio is 60% while the
profit ratio is 8%.

REQUIRED: Determine the following:

1. Fixed Costs 7. Margin of Safety Ratio (using Sales)
2. Sales 8. Margin of Safety Ratio (using CM Ratio)
3. Variable Costs 9. Break-Even Ratio (using Sales)
4. Contribution Margin 10. Break-Even Ratio (using Margin of Safety Ratio)
5. Profit 11. Degree of Operating Leverage (using Profit)
6. Margin of Safety 12. Degree of Operating Leverage (using MOS Ratio)

Answers:

Problem 1
1. A) P25 B) P10 C) P15 D) 60%
2. A) 10,000 units B) P250,000
3. P50,000
4. 15,000 units
5. P375,000
6. P375,00

Problem 2
1. 40 units 2. 25 units

Problem 3
1. P211,200 7. 20%
2. P660,000 8. 20%
3. P396,000 9. 80%
4. P264,000 10. 80%
5. P52,800 11. 5x
6. P132,000 12. 5x

Sources/References:
 ReSA Management Services Handouts
 Reviewer in Management Advisory Services by Roque, 2013

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