Cost Volume Profit Analysis
Cost-Volume-Profit (CVP) analysis is a managerial accounting technique that examines the relationship between a company's costs, sales volume, and profit. It helps businesses understand how changes in costs and volume affect profitability, aiding in decision-making related to pricing, production, and cost control. Essentially, CVP analysis determines the sales volume needed to break even or achieve a target profit.
Key Components and Analysis:
- Costs: CVP analysis categorizes costs into fixed and variable costs. Fixed costs remain constant regardless of sales volume, while variable costs change directly with production or sales.
- Volume: This refers to the number of units sold or the amount of service provided.
- Contribution Margin: Contribution margin is a business’s sales revenue less its variable costs. The resulting contribution dollars can be used to cover fixed costs, and once those are covered,contribute to profit.
- Profit: This is the difference between total revenue (sales) and total costs (both fixed and variable) or the contribution margin less fixed costs.
Assumptions of CVP Analysis:
- Costs can be accurately classified as either fixed or variable.
- The sales price per unit remains constant.
- All units produced are sold.
- The product mix remains constant (if multiple products are sold).
What's It Used For:
- Cost-volume-profit (CVP) analysis is used to find out how changes in variable and fixed costs impact a firm's profit.
- Companies can use CVP analysis to see how many units they need to sell to break even (cover all costs) or, alternatively, how many units they need to sell to reach a certain minimum profit margin.
- CVP analysis can also be used to calculate the contribution margin of a firm's products; the contribution margin is the difference between total sales and total variable costs.
- For a business to be profitable, its contribution margin must exceed its total fixed costs of production.
In essence, CVP analysis provides a valuable tool for businesses to understand the relationship between costs, sales volume, and profit, enabling them to make more informed decisions that can improve profitability.
Related Tool: Contribution Margin Statement
Cost Volume Profit Video