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Cost–volume–profit analysis

Shown below is a typical cost–volume–profit chart: Required: (a) Explain to a colleague who is not an accountant the reasons for the change in result on this cost–volume–profit chart from a loss at point (a) to a profit at point (b). (3 marks) (b) Identify and critically examine the underlying assumptions of this type of cost–volume–profit analysis and consider whether such analyses are useful to the management of an organization. (14 marks) (Total 17 marks) ACCA Level 1 Costing
£ Total revenue

Question IM 8.1 Intermediate

Total costs

Variable costs




The graphs shown below show cost–volume–profit relationships as they are typically represented in (i) management accounting and (ii) economic theory. In each graph TR=total revenue, TC=total cost, and P=profit. You are required to compare these different representations of cost–volume–profit relationships, identifying, explaining and commenting on points of similarity and also differences. (15 marks) ICAEW Management Accounting
£+ TR TC TC P 0 Volume 0 Volume P £– £– £+ TR

Question IM 8.2 Intermediate



(2 marks) (b) to plot the data of your answer to (a) above in the form of a contribution to sales graph (sometimes referred to as a profit–volume graph) on the graph paper provided.00 8. (d) risk and uncertainty. among other matters. (4 marks) (d) to describe briefly three ways in which the overall contribution to sales ratio could be improved. (6 marks) (c) to explain your graph to management. whose area includes a holiday resort situated on the east coast. 14 marks) (b) For any three of the underlying assumptions provided in answer to (a) above.5 Intermediate: Multi-product profit–volume graph JK Limited has prepared a budget for the next twelve months when it intends to make and sell four products. Horngren.3 Intermediate ‘A break-even chart must be interpreted in the light of the limitations of its underlying assumptions…’ (From Cost Accounting: A Managerial Emphasis. it does not deal with the following: (a) situations where sales volume differs radically from production volume. (c.00 Budgeted fixed costs are £240 000 per annum and total assets employed are £570 000. (b) situations where the sales revenue and the total cost functions are markedly non-linear.T. (3 marks) (Total 15 marks) CIMA Stage 2 Cost Accounting Question IM 8. (c) changes in product mix. for 30 weeks each year. details of which are shown below: Product J K L M Sales in units (thousands) 10 10 50 20 Selling price per unit (£) 20 40 4 10 Variable cost per unit (£) 14.00 4. (17 marks) ACCA Level 2 Management Accounting Question IM 8.4 Advanced The accountant’s approach to cost–volume–profit analysis has been criticized in that. (c. a holiday home which is let to visiting parties of children in care from other authorities. 6 marks) (Total 20 marks) ACCA P2 Management Accounting Question IM 8.Question IM 8. to comment on the results shown and to state the break-even point. You are required (a) to calculate the total contribution earned by each product and their combined total contributions. (10 marks) (b) A local authority. by C.6 Intermediate: Break-even chart with increases in fixed costs 46 (a) Identify and discuss briefly five assumptions underlying cost–volume–profit analysis. Indicate the nature of the violation and the extent to which the break-even chart can be adapted to allow for this violation. give an example of circumstances in which that assumption is violated. Explain these objections to the accountant’s conventional cost–volume–profit model and suggest how they can be overcome or ameliorated. The children are accompanied by their own house mothers who supervise them throughout COST–VOLUME–PROFIT ANALYSIS . operates.) Required: (a) Discuss the extent to which the above statement is valid and both describe and briefly appraise the reasons for five of the most important underlying assumptions of break-even analysis.20 7.

on the graph paper provided. is £4000 per annum and the garden of the home is maintained by the council’s recreation department which charges a nominal fee of £1000 per annum. From six to fifteen guests are accepted on terms of £100 per person per week. have been measured as follows: Output (units) 11 500 12 000 12 500 13 000 13 500 14 000 Total cost (£) 102 476 104 730 106 263 108 021 110 727 113 201 Question IM 8. (8 marks) (ii) draw.7 Intermediate: Analysis of costs into fixed and variable elements and break-even point calculation Required: Using the high–low method.60 per unit. analyse the costs of the process operation into fixed and variable components. and comment upon. (4 marks) (c) Calculate. a chart to illustrate your answer to (b)(i) above. Weekly costs incurred by the host authority are: (£ per guest) Food Electricity for heating and cooking Domestic (laundry.) expenses Use of minibus 25 3 5 10 Seasonal staff supervise and carry out the necessary duties at the home at a cost of £11 000 for the 30-week period.’ Required Comment on the statement above. for a process operation in a factory. additional staff at a total cost of £200 per week are engaged for the whole of the 30-week period. This provides staffing sufficient for six to ten guests per week but if eleven or more guests are to be accommodated. Rent. No differential charges exist for adults and children. cleaning etc. the break-even output level of the process operation in (b) above. based upon the fixed and variable costs identified and assuming a selling price of £10. (5 marks) (b) The total costs incurred at various output levels.their holiday. (5 marks) (Total 14 marks) ACCA Foundation Paper 3 COST–VOLUME–PROFIT ANALYSIS 47 . including rates for the property. illustrating your answer with examples of cost behaviour patterns. (7 marks) (Total 25 marks) CIMA Cost Accounting Stage 2 (a) ‘The analysis of total cost into its behavioural elements is essential for effective cost and management accounting. You are required to: (i) tabulate the appropriate figures in such a way as to show the break-even point(s) and to comment on your figures.

the sales director believes sales volume will be 3. (b) Recommend which proposal. 1 Proposal A involves launching an aggressive marketing campaign: (i) this would involve a single additional fixed cost of £14 million for advertising.0 (782.0 374. 2 Proposal B involves a 5% reduction in the unit selling price: (i) this is estimated to bring the sales volume back to the level in the year to 30 November 2000. 3 if more than 3 million VCR units are made and sold. (ii) break-even point in units and turnover.0 020.8 (166. if any. Draft budget for 12 months to 30 November 2001 (£m) Sales income Cost of sales: Variable assembly materials Variable labour Factory overheads – variable Factory overheads – fixed Gross profit Selling overheads – commission Selling overheads – fixed Administration overheads – fixed Net profit (£m) 960. and have been given a copy of the draft budget for the next financial year. You have been appointed as an accounting technician at the company.8 043.0 38. which means it holds no stocks of any kind.8 million units.8 Intermediate: Non-graphical CVP analysis and the acceptance of a special order Video Technology Plc was established in 1987 to assemble video cassette recorders (VCRs).4 192.4 The following information is also supplied to you by the company’s financial controller. calculate the: (i) change in profits compared with the draft budget.Question IM 8. Edward Davies: 1 planned sales for the draft budget in the year to 30 November 2001 are expected to be 25% less than the total of 3. 4 sales commission is based on the number of units sold and not on turnover. (iii) sales volume would be expected to increase by 10% above the level projected in the draft budget.4) 0011. has produced three proposals to try and improve matters.0 172.2) 177. (ii) if proposal C is accepted.4 108.2 million VCR units sold in the year to 30 November 2000. Task 1 (a) For each of the three proposals. Anne Williams. and that the sales director. 48 COST–VOLUME–PROFIT ANALYSIS . should be accepted on financial grounds. Edward Davies explains that the Board is not happy with the profit projected in the draft budget. 3 Proposal C involves a 10% reduction in the unit selling price: (i) fixed selling overheads would also be reduced by £45 million. (ii) there would be a revised commission payment of £18 per unit sold. 6 sales above maximum capacity are not possible. the unit cost of material falls by £4 per unit. with no change in the unit selling price. There is now increased competition in its markets and the company expects to find it difficult to make an acceptable profit next year. 5 the draft budget assumes that the factory will only be working at two-thirds of maximum capacity. 2 the company operates a Just-In-Time stock control system.

9 million. (3 marks) (ii) to state the break-even point in £s and the number of products this figure represents if the sales mix changes to 4P to 4E (ignore fractions of products). Task 2 Prepare a memo for Edward Davies: (a) showing whether or not the order should be accepted at the proposed selling price. The amount of material B in stock is only half the amount required on the order. and why.3 million. If not used on the order.9 Intermediate: Calculation of break-even points based on different product mix assumptions (a) You are required.9 million. (3 marks) (iii) to advise the sales manager which product mix should be better.00 Question IM 8.00 £561 600 Product E per unit £ 12. (2 marks) COST–VOLUME–PROFIT ANALYSIS 49 . (i) to state what the break-even point in £s will be and the number of each product this figure represents if the two products are sold in the ratio 4P to 3E.0 million will be charged to the order. (b) identifying the technique(s) you have used in reaching this conclusion.00 5. (ii) material B is no longer used by the company and cannot be used elsewhere if not used on the order. The amount in stock is sufficient for the order.85 million. The company has a policy of no redundancies. 2 direct labour of £1. The current market price of material A to be used in the order is £0. 3 variable factory overheads are expected to be £0. and spreads the resulting cost of idle time across all orders. with product P requiring 0. 5 no sales commission will be paid. that in (a) (i) above or that in (a) (ii) above. Edward Davies now tells you that the company is considering a new export order with a proposed selling price of £3 million. Budgets prepared for the next six months give the following information: Product P per unit £ Selling price Variable costs: production and selling Common fixed costs: production and selling for six months 10. The amount in stock originally cost £0.2 million for idle time.8 million.The amount in stock originally cost £0.(c) Identify three non-financial issues to be considered before a final decision is made. He provides you with the following information: 1 The order will require two types of material: (i) material A is in regular use by the company. as a result of insufficient orders to keep the workforce fully employed. (2 marks) (iv) to advise the sales manager which of the two products should be concentrated on and the reason(s) for your recommendation assume that whatever can be made can be sold.1 million. but its standard cost is £0. AAT Technicians Stage PE Limited produces and sells two products. P and E. in respect of the forthcoming six months. This includes £0. that both products go through a machining process and that there are only 32 000 machine hours available. 4 fixed factory overheads are apportioned against the order at the rate of 50% of variable factory overheads.10 hour per unit.40 hour per unit and product E requiring 0.2 million although its current purchase price is £0.00 10. the amount in stock could be sold for £0.

provided the order was increased to 15 000 packs. on this occasion.’ she said. She recently arranged a conference of all management staff to discuss company profitability. should be accepted. (5 marks) (Total 15 marks) CIMA Stage 2 Cost Accounting Question IM 8. Task 2 Write a memo to Ben Cooper. ‘that as we produce closer to the plant’s maximum capacity of 70 000 packs the average cost per pack falls. the selling price would only be £330. divided by the production volume You are a member of York plc’s management accounting team and shortly after the conference you are called to a meeting with Ben Cooper.’ The data she used are reproduced below: Production volume (packs) Average cost per unita Current sales and production volume: Selling price per pack: aDefined 40 000 £430 50 000 £388 60 000 £360 70 000 £340 65 000 packs £420 as the total of fixed and variable costs. However. Ben Cooper has the possibility of obtaining an export order for an extra 5000 packs but. Dr Harper has suggested that this order should be rejected as it is below cost and so will reduce company profitability.(b) You are required to compare and contrast the usefulness of a conventional break-even chart with a contribution break-even chart. (c) the break-even point in units. she would be prepared. Dr Harper had once more emphasized the need to produce as close as possible to the maximum capacity of 70 000 packs. Task 1 Ben Cooper asks you to calculate: (a) the amount of York plc’s fixed costs. The technology involved in the medicine’s manufacture is both complex and expensive. Ben Cooper now tells you of a discussion he has recently had with Dr Harper. AAT Technicians Stage 50 COST–VOLUME–PROFIT ANALYSIS . (d) the margin of safety expressed as a percentage. to sell the packs on a cost basis for £340 each. (c) briefly explain and justify which proposal. ‘It is clear. if either. Because of this. (b) calculate the change in profits from accepting an order for 15 000 packs at £340. (d) identify two non-financial factors which should be taken into account before making a final decision. the company’s marketing director.10 Intermediate: Decision-making and non-graphical CVP analysis York plc was formed three years ago by a group of research scientists to market a new medicine that they had invented. Your memo should: (a) calculate the change in profits from accepting the order for 5000 packs at £330. because the competition is strong. the company is faced with a high level of fixed costs. Dr Harper showed the managers how average unit cost fell as production volume increased and explained that this was due to the company’s heavy fixed cost base. Producing and selling as close to that limit as possible must be good for company profitability. Your explanation should include illustrative diagrams drawn within your answer book and not on graph paper. He is interested in knowing how profitability changes with production. the company’s chief executive. This is of particular concern to Dr Harper. (b) the profit of the company at its current sales volume of 65 000 packs.

70 1.15 0.40 0.40 per double room per day. Fixed costs £12 750 During the summer season the centre is open 7 days a week and the following activity levels are anticipated: Double rooms fully booked for the whole season.A company has two products with the following unit costs for a period: Product A (£/unit) Direct materials Direct labour Variable production overheads Fixed production overheads Variable other overheads Fixed other overheads 1. Fixed costs £15 500 Sports Shop Estimated contribution £1 per person per day.70 and £6.03 1.90 per unit. 35 double rooms let on a daily basis at 160% of the single room rate. The summer season lasts for 20 weeks including a peak period of 6 weeks corresponding to the school holidays.50 per person per day. The selling prices of products A and B were £5. (7 marks) (Total 11 marks) ACCA Foundation Stage Paper 3 A local government authority owns and operates a leisure centre with numerous sporting facilities. (4 marks) (b) Calculate the break-even sales revenue for the period (to the nearest £000) based on the above mix of sales. Unit costs in opening stock were the same as those for the period listed above. The following budgets have been prepared for the next summer season: Accommodation 60 single rooms let on a daily basis. Fixed costs £8250 Cafeteria Estimated contribution £1.20 0. Required: (a) State whether.11 Intermediate: Marginal costing and absorption costing profit computations and calculation of break-even point for a given sales mix Production and sales of the two products for the period were: Product A (000 units) Production Sales 250 225 Product B (000 units) 100 110 Production was at normal levels. respectively. Fixed costs £29 900 Variable costs £4 per single room per day and £6. COST–VOLUME–PROFIT ANALYSIS Question IM 8.10 0. Sports Centre Residential guests each pay £2 per day and casual visitors £3 per day for the use of facilities.10 0.50 Question IM 8. residential accommodation. absorption or marginal costing would show a higher company profit for the period.12 Advanced: CVP analysis based on capacity usage in a leisure centre 51 .50 0.20 1. a cafeteria and a sports shop.50 Product B (£/unit) 2.80 1. and calculate the difference in profit depending upon which method is used. and why.

(10 marks) (c) advise the authority whether an offer of £250 000 from a private leisure company to operate the centre for five years is worthwhile. You are required to (a) calculate the charges for single and double rooms assuming that the authority wishes to make a £10 000 profit on accommodation.Single rooms fully booked for the peak period but at only 80% of capacity during the rest of the season. (4 marks) (Total 20 marks) CIMA Stage 3 Management Accounting Techniques 52 COST–VOLUME–PROFIT ANALYSIS . (6 marks) (b) calculate the anticipated total profit for the leisure centre as a whole for the season. 30 casual visitors per day on average. assuming that the authority uses a 10% cost of capital and operations continue as outlined above.