Page 99 - DMGT202_COST_AND_MANAGEMENT_ACCOUNTING

Cost and Management Accounting

Notes Self Assessment

Fill in the blanks:

7. Profit depends upon a large number of factors, the most important of which are the costs
of the manufacturer and the ...................... effected.

8. The Cost-Volume-Profit (CVP) analysis helps management in finding out the relationship
of ...................... to profi t.
9. Cost-volume-profit analysis furnishes a picture of the ...................... at various levels of

activity.
10. The ratio or percentage of contribution margin to sales is known as ...................... .

6.6 Break Even Point

Break even analysis examines the relationship between the total revenue, total costs and total
profits of the firm at various levels of output. It is used to determine the sales volume required for

the firm to break even and the total profits and losses at other sales level. Break even analysis is a
method, as said by Dominick Salnatore, of revenue and total cost functions of the fi rm. According
to Martz, Curry and Frank, a break even analysis indicates at what level cost and revenue are in
equilibrium.
In case of break even analysis, the break even point is of particular importance. Break even point
is that volume of sales where the firm breaks even i.e., the total costs equal total revenue. It is,

therefore, a point where losses cease to occur while profits have not yet begun. That is, it is the
point of zero profi t.
The conclusion that can be drawn from the above example is that sales volume of 5000 units will
be the accurate point at which the manufacturing unit would not make any loss or profi t.
Fixed Costs
BEP =
Selling price – Variable costs per unit
`
Fixed Costs 10,000
For Example,=
Selling price 5 per unit – Variable costs 3 per unit`
`
` 10,000
Therefore, BEP = = 5,000 units.
–
5 3
6.6.1 Uses of Break-even Analysis

Break even analysis is a very generalised approach for dealing with a wide variety of questions

associated with profit planning and forecasting. Some of the important practical applications of
break even analysis are:

1. What happens to overall profitability when a new product is introduced?

2. What level of sales is needed to cover all costs and earn, say, ` 1,00,000 profit or a 12% rate
of return?
3. What happens to revenues and costs if the price of one of a company’s product is hanged?
4. What happens to overall profitability if a company purchases new capital equipment or

incurs higher or lower fixed or variable costs?

5. Between two alternative investments, which one offers the greater margin of profi t
(safety)?

94 LOVELY PROFESSIONAL UNIVERSITY