Importance of Cost Volume Profit Analysis

Cost-volume-profit analysis analyzes operating profit at different levels of volumes and costs. From the business manager’s decision-making arsenal tools, CVP analysis provides a more detailed and objective way by which a manager can assess the course of business for the company and its employees. However, this makes several assumptions relevant, which means that it will only be a rough estimate.

 Cost-volume-benefit analysis (CVP) is used to determine how changes in cost and volume affect a company’s operating income and net income. In performing this analysis, several assumptions were made, including:

 

  • The unit selling price is constant.
  • The variable cost per unit is unchanged.
  • Total fixed costs are constant.
  • Everything produced is sold.
  • Cost is affected as an activity is affected.

 

  Importance of cost-benefit volume analysis.

 

  CVP analysis gives managers the advantage of being able to answer specific practical questions required in business analysis. Questions like a company’s breaking point help managers project how future spending and output will contribute to the company’s success or failure. For example, when a manager knows the breaking point, he can increase spending and production efforts to higher the profitability because CVP analysis is based on statistical models, decisions can be divided into possibilities that help the decision-making process.

 Cost-volume-benefit analysis, or CVP, is something companies use to discover how cost and volume changes affect their operating expenses and net income. CVP works by comparing various relationships, such as the cost of handling and producing goods, the number of goods sold, and the profits generated from the sale of those goods. By breaking down costs into fixed versus variable, CVP analysis gives companies a solid insight into their products or services’ profitability.

 

  Using CVP analysis

 

  Companies and accounting professionals use cost-volume-profit analysis to make the best and sound decisions about the products or services they sell. In this sense, CVP analysis plays a more important role in managerial accounting than accounting. Management accounting focuses on helping managers, or those in charge of managing a business, to make smart and profitable steps. By contrast, financial accounting is more focused on drawing a company’s economic image so that external parties, such as banks or investors, can determine how financially healthy it is.

 

  Elements of CVP analysis

  There are three elements involved in CVP analysis:

  Cost, which means the cost involved in the manufacture or sale of a product or service.

  Volume, which means the no. of units produced in the case of a touchable product, or the amount of service sold.

  Profit, which means the difference between the sale price of a product or service and the reduction of the cost of production or supply.

  Assumptions when using CVP analysis

 

  • All costs, including manufacturing, administrative and general costs, can be accurately identified as fixed or variable.
  • The unit selling price is constant.
  • Changes in activity are the only factors that affect cost.
  • All units produced are sold.
  • contribution margin

 

  CVP analysis can help companies determine their contribution margin, which is the balance of sales revenue after deducting all variable expenses. The remaining amount is used first to cover fixed costs, and what remains after is considered a benefit.

 

Similar Posts