 ACCOUNTING ENVIRONMENT

 ACCOUNTING CONCEPT & PRACTICE

 THE RECORDING PROCESS
 COMPLETING THE ACCOUNTING CYCLE
 ACCOUNTING FOR MERCHANDISING BUSINESSES
 COMPANIES ANNUAL REPORT
 FINANCIAL STATEMENT ANALYSIS
 MANAGERIAL ACCOUNTING
 COST VOLUME PROFIT ANALYSIS (CVP)
 BUDGETING AS A TOOL FOR PLANNING &
CONTROLLING
 VARIANCE ANALYSIS & STANDARD COSTING
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 Describe the importance of CVP analysis as a managerial accounting

technique.
 Classify cost by their behaviour:
a. Variable cost
b. Fixed cost
c. Mixed cost
 Explain how to compute the contribution margin, the contribution margin
ratio and the unit contribution margin, and explain how they may be useful to
managers.
 Explain how to determine the breakeven point (BEP) and the volume
necessary to achieve a target profit:
a. Using mathematical approach
b. Using contribution margin approach
c. Using graphic approach
 Explain how to compute the margin of safety and the operating leverage:
a. Define formula for margin of safety
b. Define formula for operating leverage
c. Explain how these concept help managers in planning and decision
making
 List the five (5) primary assumptions underlying CVP analysis.
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 CVP analysis is a tool to analyse the effects of changes of

costs, selling price and volume (i.e. level or output).
 Essential in profit planning for management - analyse the
possibilities and alternatives of marketing operating
decisions.

 The usages of CVP analysis among others are:

 Assist in setting the selling price
 Support in determining the product mix
 Help in maximizing/fully utilizing the production
resources
 Benefit in evaluating the impact of changes of costs,
selling price and volume on profits
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 CVP - tool in making operation decisions via net income

based on the relationship in relation to variable costs,
fixed costs, unit of selling price and level of output.
 It is a relationship among production volume, production
costs, selling price, sales volume and profits.
 The analysis indirectly assists management to figure out
on:
 “If the sales price is increased or decreased (i.e.
changes in sales price), what is the impact on the
profit and cost?”
 “If the sales are increased by certain volume, what is
the impact on the revenue and cost?”

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VARIABLE COSTS
 Costs that change in
proportion to the good or
service that a business
produces which means it
varies with production output.
 In manufacturing direct
material costs and direct
labour costs can be
considered as variable costs.
 Graphically, variable cost is
represented by a diagonal
line that increases as output
increase.
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FIXED COSTS
 Costs that does not change with
an increase or decrease in the
amount of goods or services
produced or sold.
 It is also known as an operating
expense of a business that
cannot be avoided regardless
of the level of production.
 This cost is fixed in relation to the
quantity of production for the
relevant period.
 Normally, fixed cost is incurred regularly and not changes
much from period to period - insurance, rental, interest
expense, utility expenses, salaries and wages and also
depreciation of assets.
 Graphically, fixed cost is represented by a constant
horizontal line.
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MIXED COSTS
 Costs consist of a fixed component and a variable
component.
 In other words, it is a cost that changes with the volume of
production like a variable cost and cannot be completely
eliminated like a fixed cost.
 For instance, wage cost for employees who are paid a
monthly salary (i.e. fixed cost) plus commissions (i.e.
variable cost). The monthly salary is a fixed cost because it
cannot be eliminated. Even without any sales during the
month, the basic salary still has to be paid to the
employee. The commission, on the other side is more like a
variable cost because it is based on the productivity of
the employee. The more sales made, the greater the sales
commission paid to the employee.

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MIXED COSTS
 Graphically, mixed cost is represented with a relationship
between fixed and variable costs, i.e. the fixed costs
displayed as a horizontal line intersecting the y-axis at a
value above zero and the variable costs displayed by a
diagonal line starting on the origin. The y-axis measures the
costs and the x-axis measures product or sales volume.

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 It is the amount of revenue remaining after deducting

variable costs.

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 CMR aka profit-volume ratio - measure the effect on

income from operation of an increase or a decrease in
sales volume.
 It is a measure of operating leverage which determines
how growth in sales translated to growth in profits.
 CMR is the percentage of contribution margin to net
sales.

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 Unit contribution margin is the per-unit basis.

 CM per unit - determine the amount from each unit of
sales available to cover fixed costs and provide income
from operations.

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 It is a stage where the revenues needed is to cover a

business’s total amount of fixed and variable expenses
during a specified period of time. Indeed, a business is at
a level of no net loss or gain.

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 BEP is also a tool considered in determining how far

sales could drop before the company begins to
make a loss.
 Knowledge of BEP is crucial for decision making to
avoid losses in business operations.
 Three methods to estimate BEP:

 Mathematical equation approach

 Contribution margin approach
 Cost-volume-profit graphical approach

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Operating income = (Selling price/unit x units sold)

– (Variable cost/unit x units sold)
– Total fixed cost
0 = (SP)Q – (VC)Q – FC 0 = Operating income
(SP)Q – (VC)Q = 0 + FC SP = Selling price
VC = Variable cost
FC = Fixed cost
(SP + VC)Q = FC Q = quantity
Q = FC / (SP + VC)

BEP BEP (RM) = BEP (UNITS) X SP

UNITS

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Contribution
margin = Sales
revenue – 17

Variable costs

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 Simplify the computation of break-even in break-even

analysis and target income sales.
 Applied in margin of safety; changes in selling price;
changes in variable costs; changes in fixed costs; profit
forecasting; and interdependent changes.

Margin of safety
Margin of safety (MOS) is
referring to how much
output or sales level could
be fall before a business
reaches its break-even point.
Operating leverage
Operating leverage is a
measure of how revenue
growth transforms into growth
in operating income.

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 Margin of safety (MOS) is referring to how much output or sales level

could be fall before a business reaches its break-even point.
 In other words:

MOS = Expected (or) Actual sales level

(quantity or RM amount) – Break-even sales level
(quantity or RM amount)

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 Operating leverage is a measure of how revenue growth transforms

into growth in operating income.
 Few ways to measure operating leverage i.e. cost, contribution and
degree of operating leverage.
 Contribution margin is one of the tools where the higher the contribution
margin is (i.e. the lower variable costs are as a percentage of total costs),
the faster the profits increase with sales.

Contribution margin
Operating leverage =
Income from operation

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 The five primary assumptions underlying CVP analysis are

listed below:

 Total cost can be categorized as fixed and variable

components with reasonable accuracy.
 Total costs and total revenues are linear (straight line).
 The unit selling price, unit variable costs and fixed
costs are identified (fixed).
 Changes in the level of revenues and costs are due
to changes in the volume of production and sold (all
units produced are sold).
 The sales mix (sold more than one type of product) is
constant.
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