Cost, Revenue & Profit & CVP Analysis

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What is CVP analysis?

The cost-volume-profit study is the manner of how to


evolve the total revenues, the total costs and
operating profit, as changes occur in volume
production, sale price, the unit variable cost and / or
fixed costs of a product.
TR>TC = Profit
TR<TC = Loss
TR= TC =Break-even
The importance of CVP to use in decision
making
Managers use this analysis to answer different questions
like: How will incomes and costs be affected if we still
sell 1.000 units? But if you expand or reduce selling
prices? If we expand our business in foreign markets ?
The cost-volume-profit is a necessary tool for
forecasting also for management control. Cost volume
profit analysis (CVP analysis) is one of the most
powerful tools that managers have at their command.
Cost Concept
Cost of Production – refers to the total payment by a
firm to the owners of the factors of production.

Factors of Production Factor Payments


Land Rent
Labor Wage or Salary
Capital Interest
Entrepreneur Profit
Cost Defined
An amount that has to be paid or given up in order to
get something.
In business, cost is usually a monetary valuation of (1)
effort, (2) material, (3) resources, (4) time and utilities
consumed, (5) risks incurred, and (6) opportunity
forgone in production and delivery of a good or
service. All expenses are costs, but not all costs (such
as those incurred in acquisition of an income-
generating asset) are expenses.
Important cost concepts include:
A. Explicit vs. Implicit costs
Explicit cost – it is the actual expenditures made by the firm
Implicit cost – it is the cost of self-owned, self-employed
resources frequently overlooked in computing the expenses of
the firm.
B. Short-run and Long-run viewpoints
Short-run – it is the planning period of the firm so short that
some resources can be classified as fixed while some are
considered variable.
Long-run – it is the planning period of the firm so long that all
resources eventually become variable.
Component Parts of Total Costs (TC)
Total Fixed Costs (TFC)
Total Variable Costs (TVC)

TC = TFC + TVC
Average and Marginal Cost
Average Fixed Cost (AFC) – refers to the fixed cost
per unit at various levels of output.
AFC = TFC/Q
Average Variable Cost (AVC) – the variable cost per
unit at various levels of output.
AVC = TVC/Q
Average Cost (AC) – the overall cost per unit of
output.
AC = TC/Q or AC = AFC + AVC
Marginal Cost
The additional or extra cost brought about by
producing one additional unit of output.
MC = change in TC / change in Q
Profit Concept
Total and Marginal Revenue
Total Revenue (TR) – the payment for the output
produced by the firm.
TR = P x Q

Marginal Revenue (MR) – additional income of a


firm obtained by producing and selling one additional
unit of product.
MR = change in TR / change in Q
Profit, Loss and Break-even
Profit maximization involves the comparison of TR
and TC.
π = TR - TC
Profit Maximization is a point where the (positive)
difference between the TR and TC is highest. This
point corresponds to the equality of the slope of the
TR (MR) and the slope of TC (MC).
Maximum Profit: MC = MC
Break-even Analysis
Examines a firm’s output where the firm makes
normal profit.
The benefit of using break-even analysis is in
determining the lowest amount for a firm to avoid
losses.

TR = TC
Break-even Quantity
The volume or output where all fixed costs are
covered.
TFC
BEQ = -----------------= 3600 = 240 units
P – VC 40-25
Ex. TFC=3600
Selling price (P)= 40
Variable cost per unit (VC or AVC)= P25

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