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Management Accounting for Business . Dr. Mohamed A. Hamada Lecturer of Accounting Information Systems. Chapter 5 Contribution-Margin Approach. Contribution-Margin Approach. Consider the following information developed by the accountant at Curl, Inc.:.

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management accounting for business

Management Accounting for Business

Dr. Mohamed A. Hamada

Lecturer of Accounting Information Systems

Chapter 5

Contribution-Margin Approach

contribution margin approach
Contribution-Margin Approach

Consider the following information developed by the accountant at Curl, Inc.:

  • Contribution margin= Sales –Variable Expenses
  • Net income = Contribution margin – Fixed Expenses
contribution margin approach1

$80,000

$200

=400 surf boards

Contribution-Margin Approach

Fixed expenses

Unit contribution margin

Break-even point

(in units)

=

contribution margin ratio

Fixed expense

CM Ratio

Break-even point(in sales dollars)

=

Contribution Margin Ratio

Calculate the break-even point in sales dollarsrather than units by using the contribution margin ratio.

Contribution margin

Sales

= CM Ratio

graphing cost volume profit relationships
Graphing Cost-Volume-Profit Relationships

Viewing CVP relationships in a graph gives managers a perspective that can be obtained in no other way.

Consider the following information for Curl, Inc.:

cost volume profit graph1
Cost-Volume-Profit Graph

Total expenses

Fixed expenses

cost volume profit graph2
Cost-Volume-Profit Graph

Total expenses

Fixed expenses

cost volume profit graph3
Cost-Volume-Profit Graph

Total sales

Total expenses

Fixed expenses

cost volume profit graph4
Cost-Volume-Profit Graph

Total sales

Profit area

Break-even

point

Total expenses

Fixed expenses

Loss area

target net profit

Fixed expenses + Target profit

Unit contribution margin

Units sold to earn

the target profit

=

$80,000 + $100,000

$200

= 900 surf boards

Target Net Profit

We can determine the number of units that the company must sell to earn a profit of $100,000 using the contribution margin approach.

equation approach

($300 × X)

$80,000 = $100,000

($500 × X)

($200X)

= $180,000

Equation Approach

Sales revenue – Variable expenses – Fixed expenses = Profit

X = 900 Unit

applying cvp analysis
Applying CVP Analysis

Safety Margin

  • The difference between budgeted sales revenue and break-even sales revenue.
  • The amount by which sales can drop before losses begin to be incurred.
safety margin
Safety Margin

Curl, Inc. has a break-even point of $200,000. If actual sales are $250,000, the safety margin is $50,000 or 100 surf boards.

changes in fixed costs decision approach
Changes in Fixed Costs- Decision approach
  • Curl is currently selling 500 surfboards per year.
  • The owner believes that an increase of $10,000 in the annual advertising budget, would increase sales to 540 units.
  • Should the company increase the advertising budget?
changes in fixed costs
Changes in Fixed Costs

540 units × $500 per unit = $270,000

$80,000 + $10,000 advertising = $90,000

changes in fixed costs1
Changes in Fixed Costs

Sales will increase by

$20,000, but net income

decreasedby $2,000.

predicting profit given expected volume

Fixed expenses

Unit contribution margin

Target net profit

Fixed expenses

Unit contribution margin

Expected sales volume

Given:

Given:

Find: {req’d sales volume}

Find: {expected profit}

Predicting Profit Given Expected Volume
predicting profit given expected volume1

($190 × 525)

$90,000 = X

Predicting Profit GivenExpected Volume

In the coming year, Curl’s owner expects to sell 525 surfboards. The unit contribution margin is expected to be $190, and fixed costs are expected to increase to $90,000.

Total contribution - Fixed cost = Profit

X = $99,750 – $90,000

X = $9,750 profit

measuring operating leverage

$100,000

$20,000

= 5

Measuring Operating Leverage

Operating leverage

factor

Contribution margin

Net income

=

variable cost ratio definition
VARIABLE COST RATIO: Definition

Is the proportion of each sales dollar used to cover variable costs.