Break Even Analysis
Chapter 7 - [ cost – volume – profit Analysis leverage ] Cost – Volume – profit Analysis {or Break ever analysis ) The break even point (BEP) man be defined as that level of sales at which total revenue in equal to total costs x the co will make no profit x also will have no loss. The volume of sales corresponding to BEP is known as break even output . If the co producer & sells less than the BE output it would in an a loss &if it producer &sells more than the BE output it would more profit . Topics discussed are: ❖ Behavior of costs ❖ Basic assumptions ❖ Graphic analysis ( ❖ Algebraic analysis ( ❖ Multiproduct analysis
Basic Assumptions 1. Behavior of cost is predictable: The conventional cost – volume – profit model is based on the assumption that the costs of the co are divisible into fixed & variable costs. Fixed costs remain uncharged for all level of opp & variable costs vary proportionately to volume. Hence the behaviour of costs is predictable. 2. Unit selling price is constant The BE analysis assumes that the total revenue of the co is a linear function of the opp. The selling price per unit does not change with volume or be cause of other factors. 3. The co manufactures a stable mix In case of a multiproduct co., break even analysis assumes that the product mix of the co. remains stable. Because in a multiproduct co. the BEP is calculated by dividing the total fixed cost of weighted contribution margin of all the products. If the proportion of any product in the total mix changes then the weighted contribution changes. 4. Inventory changes are nil Break even analysis assumes that the volume of sales is equal to the volume of production during an accounting period. It means everything produced is sold. This is essential because in break even analysis the total costs are matched with total revenues for a particular period. Graphic Analysis
Basic Assumptions 1. Behavior of cost is predictable: The conventional cost – volume – profit model is based on the assumption that the costs of the co are divisible into fixed & variable costs. Fixed costs remain uncharged for all level of opp & variable costs vary proportionately to volume. Hence the behaviour of costs is predictable. 2. Unit selling price is constant The BE analysis assumes that the total revenue of the co is a linear function of the opp. The selling price per unit does not change with volume or be cause of other factors. 3. The co manufactures a stable mix In case of a multiproduct co., break even analysis assumes that the product mix of the co. remains stable. Because in a multiproduct co. the BEP is calculated by dividing the total fixed cost of weighted contribution margin of all the products. If the proportion of any product in the total mix changes then the weighted contribution changes. 4. Inventory changes are nil Break even analysis assumes that the volume of sales is equal to the volume of production during an accounting period. It means everything produced is sold. This is essential because in break even analysis the total costs are matched with total revenues for a particular period. Graphic Analysis