PLAN

direct
control

Accounting 2102
Chapter 7
Cost-Volume-Profit Analysis

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Cost Volume Profit (CVP) Analysis
• What is CVP?

• What do you need to understand to perform CVP analysis?

Accounting 2102
• cost behavior

• How do managers use CVP analysis, concepts, and

calculations?

1. breakeven and target profit

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2. sensitivity analysis and decision making
Tee Times is a small, independent retailer of golf clubs. Its only line of clubs, Ace, sells for
$500 per set. The manufacturer charges Tee Times $340 per set of clubs. Due to the clubs’
weight, freight-in costs amount to $10 per set. Tee Times spends $60,000 per year on the
lease of the retail store, utilities, insurance, salaries and benefits. In addition to a fixed salary,
Tee Times pays its two sales associates a 10% commission based on sales revenue generated.
The company sold 900 sets of golf clubs in its first year of operations. The company’s relevant
range extends to 1,500 sets per year. Beyond that volume, Tee Times will have to lease
additional space and hire more sales associates. Identify the function, behavior, and amount
of each of Tee Times’s costs.
Function Behavior Amount
Cost of Clubs from Manufacturer

Accounting 2102
Shipping Costs
Lease, Utilities, Insurance, Salaries, and Benefits

Sales Commissions
• Calculate Ace’s gross profit per unit for Tee Times’s first year of operations.

• Create a traditional income statement for Tee Times’s first year of operations.

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 Contribution Margin
• What is contribution margin (CM)?

• What does a CM income statement look like?

Accounting 2102
• How is the unit CM calculated? Why is this different from the unit GP? What does it tell us?

• How is the CM% calculated? What does it tell us?

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 SP = $500
Unit VC = $400
Let’s use the formulas for Tee Times . . . FC = $60,000
Vol = 900 units
• Calculate the unit CM and CM% for Ace.

• Prepare the CM Income Statement for Tee Times’s first year of operations.

Accounting 2102
• Predict the expected operating income if . . .
• sales volume increases by 10% next year.
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• Tee Times sells 1,200 sets of clubs next year.
• Tees Times generates $500,000 of sales revenue next year.
breakeven and target profit
• What is breakeven?

• What is a target profit?

• What is the formula used to solve for the number of units needed to either
breakeven or generate a certain target profit?

Accounting 2102
• What is the formula used to solve for the sales revenue needed to either
breakeven or generate a certain target profit?
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 Unit CM = $100
CM% = 20%
breakeven and target profit FC = $60,000
Vol = 900 units
Calculate the breakeven point in units for Tee Times.

Accounting 2102
How would you break this down into annual, monthly, weekly, and daily goals?

What level of sales revenue would Tee Times need to achieve to generate $50,000 in operating
income?

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sensitivity analysis and decision making
units = (op y + FC) ➗ (SP - unit VC)

GENERAL RULES
• If sales price increases, then BE . . .

Accounting 2102
• If sales price decreases, then BE . . .

• If variable costs increase, then BE . . .

• If variable costs decrease, then BE . . .

• If fixed costs increase, then BE . . .

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• If fixed costs decrease, then BE . . .

 Unit SP = $500
sensitivity analysis and decision making Unit VC = $340 + $10 + $50*
CM% = 20%
(treat each of the following scenarios as
FC = $60,000
independent of each other) Vol = 900 units
Let’s say Tee Times is trying to decide if it should raise the price of the clubs to $550. However,
sales volume is estimated to drop by 10% from its current volume of 900 sets as a result.
Should Tee Times change the price? How would changing the price affect operating income?

Accounting 2102
The owner of Tee Times is thinking about hiring a marketing agency to do some advertising.
The agency will charge $5,000 per year for marketing, and thinks the advertising campaign will
generate 70 extra club set sales. If the owner thinks this is a reasonable estimate, should she
hire the marketing agency? What would be the effect of hiring the agency on operating
income?

Let’s say the advertising agency couldn’t give Tee Times an estimate on the number of extra club
sales the ad campaign would generate. How many additional sets of clubs would Tee Times have
to sell to make it worthwhile to advertise? How could management use this information?
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 Unit SP = $500
sensitivity analysis and decision making Unit VC = $340 + $10 + $50*
indifference point calculations CM% = 20%
FC = $60,000
• What is meant by the indifference point? Vol = 900 units

• How is the indifference point calculated?

Tee Times is considering moving away from a commission based structure for its sales staff and
increasing the current salary by $2,000 per month for each sales person. (assume original data)

Accounting 2102
• At what level of annual unit sales would Tee Times be indifferent between the current
commission based structure and the proposed salary structure?

• Which structure would Tee Times prefer if annual unit sales are expected to be 1,000 units?
900 units? Why?
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