Decision Making using Cost-Volume-Profit (CVP) Analysis
Cost-volume-profit (CVP) analysis is a tool that businesses use to analyze the relationship between costs, volume, and profit. It can be used to make a variety of decisions, such as pricing, product mix, and capacity planning.
CVP analysis is based on the following equation:
Profit = (Sales - Variable Costs) - Fixed Costs
The sales, variable costs, and fixed costs are all variables that can be changed by the business. By understanding how these variables affect profit, businesses can make better decisions about how to operate their businesses.
Decisions that can be made using CVP analysis
There are a number of decisions that can be made using CVP analysis. Some of the most common decisions include:
- Pricing: CVP analysis can be used to determine the optimal price for a product. The optimal price is the price that maximizes profit.
- Product mix: CVP analysis can be used to determine the optimal product mix. The optimal product mix is the mix of products that maximizes profit.
- Capacity planning: CVP analysis can be used to determine the optimal capacity level. The optimal capacity level is the level of capacity that minimizes costs while still meeting demand.
- Make-or-buy decisions: CVP analysis can be used to determine whether it is more profitable to make a product or buy it from an outside supplier.
- Investment decisions: CVP analysis can be used to determine whether it is more profitable to invest in a new project or not.
MCQs on Decision Making using Cost-Volume-Profit (CVP) Analysis
- Which of the following is not a decision that can be made using CVP analysis?
- Pricing
- Product mix
- Capacity planning
- Break-even analysis
The answer is Break-even analysis. Break-even analysis is a special case of CVP analysis that is used to determine the level of sales at which a business breaks even.
- Which of the following is the formula for break-even sales?
- Break-even sales = Fixed costs / Contribution margin per unit
- Break-even sales = Fixed costs / Variable costs per unit
- Break-even sales = Variable costs per unit / Contribution margin per unit
The answer is Break-even sales = Fixed costs / Contribution margin per unit. The contribution margin per unit is the difference between the selling price per unit and the variable cost per unit.
Conclusion
CVP analysis is a powerful tool that businesses can use to make better decisions. By understanding the relationship between costs, volume, and profit, businesses can make more informed decisions about how to operate their businesses.