COST-VOLUME-PROFIT (CVP) ANALYSIS

Cost-Volume-Profit (CVP) analysis is concerned with the analysis of

the relationship existing between cost, revenue and profit when there is
a change in the level of activity and how the change in cost, revenue
and activity level affect profit.

C-P-V is the study of the effects on future profit of changes in fixed

cost, variable cost, sales price, quantity and mix (CIMA).

Cost-volume-profit analysis (CVP) is a tool used to analyses the

impact of price, cost, or volume changes on company profitability.
• Break even analysis is normally used interchangeable with the C-P-V
analysis. However break even analysis study the relationship between cost
volume and profit at various activity levels and determines the level of activity at
to produce so that neither profit nor loss is made, C-P-V analysis brings out
essential information necessary for tactical decision making.
Assumption Behind C-V-P Break Even
Analysis
1. All Costs can be resolved into as fixed, and variable elements.

2. Fixed cost will remain constant and Variable cost vary proportionately with activity.

3. Sales prices will not change as volume changes.

4. That the only factor affecting costs and revenue is volume.

5. That technology, production method and efficiency remain unchanged.

6. There is no stock level changes or that stocks are valued at marginal cost only

7. Over the activity range being considered costs and revenues behave in linear fashion.
 C-V-P ANALYSI BY FORMULA
Although C-V-P analysis can be undertaken by graphical means, this aspect considered the analysis

by simple formulae which includes;.

1.Break-even point (in unit) = Fixed Cost
Contribution per unit
2. Break-even point (GH₵ sales) = Fixed Cost × Sales price per unit
Contribution per unit
= Fixed Cost × 1/ CS ratio
3. C/S ratio = Contribution per unit × 1000
Sales Price per unit
4. Levels of sales to result in target profit ( in units) = FC + Target Profit
contribution per unit
5. Levels of sales to result in target profit after tax ( in units) = FC + (Target Profit/1 ─Tax
rate)
contribution per unit
6. Levels of sales to result in target profit (GH₵ sales) = (FC + Target Profit) × Sales
price / unit
contribution / unit
7. Margin of safety = Expected/ Budgeted Sale-Breakeven sales
Margin of safety to Ratio (MOS) =
Expected/Budgeted sale - Breakeven sales × 100
Expected/ Budgeted Sale
NOTE ; The above formulae relate to a single product firm or one with an unvarying mix of
sales.
With a multi-product firm it is possible to calculate the break-even point as follows;
Break-Even (GH₵ Sales) = FC × Sales Value
Contribution
 Illustration 1
A company makes a single product of with a sales price of GH₵10 a marginal cost of
GH₵6.Fixed costs are GH₵60,000 p.a
Calculate:
1. Number of units to breakeven
2. Sales at BEP
3. C/S ratio
4. What number of units will need to be sold to achieve a profit of GH ₵ 20,000 p.a
5. What level of sales will achieve a profit of GH ₵ 20,000 p.a
6. Because of increasing cost the marginal cost is expected to rise to GH6.50 per unit and
fixed costs to GH₵ 70,000 p.a
7. If the selling price cannot be increased what will be the number of units required to
maintain a profit of GH₵ 20,000 p.a?
8. If taxation rate is 40% how many units will need to be sold to make a profit of GH20,000 p.a?
Contribution = Selling price – Marginal cost

GH₵10 - GH₵6 = GH₵4

1. Break-even point (units) = GH₵60,000

GH₵4

= 15,000 units

2. Break-even point (GH₵ sales) = 15,000 units × GH₵10

= GH₵150,000
3. C/S = GH₵4 x 100
GH₵10
= 40%
4. Number of units for target profit = GH₵60,000+ GH₵20,000
GH₵ 4

= 20,000 units

5. Sales for target = 20,000 x GH₵10

= GH₵200,000
7. Note that the fixed costs, marginal cost and contribution have changed
No. of units for target profit = GHC70,000 + GH₵20,000
GHC3.50
= 25,714 units
8. Number of units for a targeted profit after tax = GH₵60,000 + (GH₵20,000/1─0.4)
GHC4
= 23,333 units
 ILLUSTRATION 2
Nasco Ltd produces single product. The company budget for year 2018 is as follows:

Fixed cost GH₵600,000

Unit selling price GH₵200

Unit variable cost GH₵100

Existing sales 80,000 units

Relevant range of output 40,000 - 120,000 units

Required:

i. What is the output level at which Nasco Ltd break even?

ii. How many units must be sold to obtain GH₵300,000 profit?

iii. What is the profit that will result from 10% reduction in variable cost and a GH₵100,000 decrease in fixed cost,

assuming that current sales can be maintained?

iv. What is the sale price which would have to be charged to show a profit of GH₵300,000 on a sales of 80,000 units?

v. What additional sales volume is required to meet GH₵ 80,000 extra fixed charge from a proposed plant expansion?
 solution
Break even unit = Fixed cost
Contribution per unit
= GH₵600,000
GH₵100
= 6000 units
ii. Units for target profit of GH₵300,000 = Fixed cost +Target profit
Contribution per unit

= GH₵600,000+GH₵300,000
GH₵100
= 9000 units
New fixed cost = GH₵600,000 - GH₵100,000 = GH₵500,000

Contribution per unit = GH₵200 - GH₵90 = GH₵110

Profit = Total Contribution - Fixed cost

Total contribution (80000 units @ GH₵110) 8,800,000

Less: Fixed cost 500,000

Profit 8,300,000
iv. Profit = (SP-VC) x quantity – FC

Let selling price = X

GH₵300,000 = (X - GH₵100) x 80,000units - GH₵600,000

GH₵300,000 = 80,000x - GH₵8,000,000 - GH₵600,000

GH₵300,000 + 8,600,000 = 80,000X

GH₵8,900,000 - 80,000X
80,000 80,000
GH₵111.25
Break even unit = Fixed cost
Contribution per unit

New fixed cost = GH₵600,000+GH₵80,000 = GH₵680,000

Contribution per unit = GH₵200 - GH₵100 - GH₵100

GH₵680,000
GH₵100
= 6,800units

Additional sales volume required = New Break-even units ─ Old break-even units

6,800units ─ 6,000 units

800 units
C-V-P analysis in multiple products situation
 Cost-volume-profit analysis basically applies where an entity produces and sells a single product.

 However, there will be a situation where an entity produces and sell more than one product. In

order to apply the C-V-P analysis, it have to assume constant sales mix over an activity range.

Determination of breakeven point

The breakeven point for multiple products is determine using weighted average contribution from

the products with the number of units produced and sold taking as the weighted factor
BEP( units) = Total Fixed Cost
Weighted Average Contribution per unit
The contribution per unit is determined as;
Weighted Average Contribution per unit = Total contributions
Total units produced and sold for all the products
 Illustration 2
Eddy Farms located in Kasoa produces 60% of fowls and 40% of guinea fowls on her farms

incurring GH₵ 9 and GH₵ 8 as variable cost per bird respectively. The market price of both fowls

and guinea fowls have dropped as a result of low demand to GH₵15 and GH₵10 respectively.
The following fixed costs are incurred annually:
GH₵
Staff cost 48,000
Rent 12,000
Electricity 6,000
Depreciation 8,000
Other overheads 2,000
Required;
(i) Calculate the number of fowls and guinea fowls to be purchased to break even
(ii) If the profit target is GH₵25,000, how many birds should be provided to meet the target?
 Limitation of Break-even Analysis
1. Breakeven analysis is only a supply side analysis, as it tells you nothing about what
sales are actually likely to be for the product at these various prices.

2. It assumes that the price remains uniform at levels of out put

3. It assumes that fixed costs are constant

4. It assumes average variable costs are constant per unit of output,

5. It assumes that the quantity of goods produced is equal to the quantity of goods sold

6. In multi-product companies, it assumes that the relative proportions of each product

sold and produced are constant
 Assignment(20 MARKS)
Adonko Ltd manufactures and sells three products with the following selling prices and variables costs:

Product A Product B Product C

(GHC/Unit) (GHC/ Unit) (GHC/ Unit)
Selling price 3.00 2.45 4.00
Variable cost 1.20 1.67 2.60
The company is considering expenditure on advertising and promotion of Product A. It is hoped that such
expenditure, together with a reduction in the selling price of the product, would increase sales.
Existing annual sales volume of the three product is:
Product A 460,000 units
Product B 1,000,000 units
If GHC60,000 per annum was to be invested in advertising and sales promotion, sales of Product A at
reduced selling prices would be expected to be 590,000 units at GHC2.75 per unit or 650,000 units at
GHC2.55 per unit. Annual fixed costs are currently GHC1,710,000 per annum

Required;

i. Calculate the current break-even sales revenue of the business.

ii. Advise the management of Adonko Ltd as to whether the expenditure on advertising and
promotion, together with selling price reduction, should be introduced on Product A.
iii. Calculate the required unit sales of Product A, at a selling price of GHC2.75 per unit, in order to
justify the expenditure on advertising and promotion.
iv. Explain the term 'margin of safety', with particular reference to the circumstances of Adonko Ltd.