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Accounting. Costs, Profit, Contribution and break Even Analysis. Content. Costs Fixed / variable Direct / indirect Revenue Profit Contribution Break Even Analysis. Costs. Fixed costs – these do not alter with output Variable costs – alter directly with the business’s level of output

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accounting

Accounting

Costs, Profit, Contribution and break Even Analysis

content
Content
  • Costs
    • Fixed / variable
    • Direct / indirect
  • Revenue
  • Profit
  • Contribution
  • Break Even Analysis
costs
Costs
  • Fixed costs – these do not alter with output
  • Variable costs – alter directly with the business’s level of output
  • Total costs – are fixed and variable costs added together
  • Semi variable – have a fixed and a variable element
fixed costs
Fixed Costs
  • Examples – rent, management salaries, rates
  • Graphically fixed costs will always be illustrated by a horizontal line
  • As output changes fixed costs stay the same
variable costs
Variable costs
  • Examples – fuel, raw materials
  • Graphically variable costs will always be a diagonal line from the origin
  • As output changes variable alter directly
direct indirect costs
Direct / Indirect Costs
  • Direct – are attributed to the production of a particular product and vary directly with output e.g direct materials and labour
  • Indirect – Cant be allocated to the production of a specific product and relate to the business as a whole e.g. indirect labour costs, administration
why do businesses calculate costs of production
Why do businesses calculate costs of production?
  • For forecasting and budgeting
  • To set prices so they make a profit
  • To work out if they can make a profit
revenue
Revenue
  • Revenue = Quantity Sold x Average Selling Price
  • Generally if it reduces its selling price you expect to sell more
  • A rise in price usually leads to a fall in quantity sold
profits
Profits
  • Profit = Total Revenue – Total Costs
  • Profit depends on:
    • Profit margins – the amount or % of the final selling price that is profit
    • Quantity or volume sold
    • Total costs
  • Profit is the main objective of firms in the private sector
contribution
Contribution
  • Contribution is the total revenue – variable costs
  • It measures how much is being contributed the fixed costs by the units that have been sold
  • Contribution per unit = Selling price per unit – Variable cost per unit
break even analysis
Break even Analysis
  • A business breaks even if it does not make a profit or a loss
  • It is the point at which the business makes just enough revenue to cover their costs.
  • In other words profit = 0
  • Businesses must make a profit to survive.
  • To make a profit, revenue must be higher than costs.
break even methods
Break even methods
  • Break even analysis can use a number of methods:
    • Contribution method
    • Break even chart
    • Break even graph
the contribution method
The Contribution Method

This involves a two part calculation:

  • Selling Price per unit – variable cost per unit = contribution (towards fixed costs).

AND

  • Fixed costs divided by contribution = Break even point.
profit or loss
Profit or Loss

LOSS

TC > TR

summary
Summary
  • Costs can be classified into fixed (don’t change with output) and variable (change with output)
  • Direct costs are costs directly related to the costs of producing an item, indirect costs are not directly related
  • Revenue – sales revenue x quantity
  • Profit = Total costs – Total revenue
  • Profit is the number one objective of most firms in the private sector
  • Contribution – Selling price – variable cost, it looks at how much each unit is contributing to fixed costs
  • Break Even Analysis – where a business makes neither a profit or a loss
  • Break even equation = Fixed costs / contribution per unit
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