Cost- volume- proft model 1. Constant variable cost and selling price is assumed. 2. Only one break-even point,and proft increases increases as volume increases. 3. The diagram is not intended to provide an accurate representation representation or all levels o output.The ob!ective is to provide an accurate representation representation o cost and revenue behaviour only "ithin the relevant range o output.
CVP analysis: non-graphical computations
CPY analysis assumptions 1. #ll other variables remain constant $ e.g.sales mi%, production e&ciency, price levels, production methods. 2. Comple%ity-related f%ed costs do not change. $ ' the range o items produced increases but volume remains unchanged, then it is assumed f%ed costs "ill not alter. 3. (rofts are calculated on a variable costing basis. ). *nit variable cost and selling price are constant per unit o output. +. The analysis applies over the relevant range only. . Costs can be accurately divided into their f%ed and variable elements. . ingle product or constant sales mi%.
Defning Costs There are several types o costs to consider "hen conducting a breakeven analysis, so here/s a reresher on the most relevant. $
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Fixed costs: These are costs that are the same regardless o ho" many items you sell. #ll start-up costs, such as rent, insurance and computers, are considered f%ed costs since you have to make these outlays beore you sell your frst item. Variable costs: These are recurring costs that you absorb "ith each unit you sell. 0or e%ample, i you "ere operating a greeting card store "here you had to buy greeting cards rom a stationary company or 1 each, then that dollar represents a variable cost. #s your business and sales gro", you can begin appropriating labor and other items as variable costs i it makes sense or your industry. Setting a Price This is critical to your breakeven analysis you can/t calculate likely revenues i you don/t kno" "hat the unit price "ill be. *nit price reers to the amount you plan to charge customers to buy a single unit o your product. Psychology o Pricing: (ricing can involve a complicated decisionmaking process on the part o the consumer, and there is plenty o research on the marketing and psychology o ho" consumers perceive price. Take the time to revie" articles on pricing strategy and the psychology o pricing beore choosing ho" to price your product or service. Pricing !ethods: There are several dierent schools o thought on ho" to treat price "hen conducting a breakeven analysis. 't is a mi% o 4uantitative and 4ualitative actors. ' you/ve created a brand ne", uni4ue product, you should be able to charge a premium price, but i you/re entering a competitive industry, you/ll have to keep the price in line "ith the going rate or perhaps even oer a discount to get customers to s"itch to your company. One common strategy is "cost-based pricing", "hich calls or fguring out ho" much it "ill cost to produce one unit o an item and setting the price to that amount plus a predetermined proft margin. This approach is ro"ned upon since it allo"s competitors "ho can make the product or less than you to easily undercut you on price. #nother method, reerred to by 5avid 6. 7akken o 8arris 'nteractive as "pricebased costing" encourages business o"ners to 9start "ith the price that consumers are "illing to pay :"hen they have competitive alternatives; and "hittle do"n costs to meet that price.9 That "ay i you encounter ne" competition, you can lo"er your price and still turn a proft. There are al"ays dierent pricing methods that can be used.
#he ormula: To conduct your breakeven analysis, take your f%ed costs, divided by your price, minus your variable costs. #s an e4uation, this is defned as< $rea%even Point & Fixed Costs'()nit Selling Price - Variable Costs* This calculation "ill let you kno" ho" many units o a product you/ll need to sell to break even. Once you/ve reached that point, you/ve recovered all costs associated "ith producing your product :both variable and f%ed;. #bove the breakeven point, every additional unit sold increases proft by the amount o the unit contribution margin, "hich is defned as the amount each unit contributes to covering f%ed costs and increasing profts. #s an e4uation, this is defned as< )nit Contribution !argin & Sales Price - Variable Costs
How much business you have to generate (either number of products or units of service) in a given time to break even can be calculated using the equation below. You will break even when:Total revenue per month = Total costs per month Unit sale price × Unit sales = Total monthly fixed costs + (Unit variable cost × Unit sales) (Unit sale price × Unit sales) – (Unit variable cost × Unit sales) = Total fixed costs (Unit sale price – Unit variable cost) × Unit sales = Total fixed costs Unit sales per month = Total fixed costs/Unit sale price – Unit variable cost
