Chapter 3- CVP Cost-volume-profit (CVP) analysis requires an understanding of cost behavior: variable and fixed costs. Cost behavior differs from the GAAP-based financial reporting focus: product and period costs. The two ways to categorize costs results in TWo different income statements: Absorption costing income statement: S-C-GM-SA-NI (Key assumption: Split costs into product and period costs) Variable costing income statement: S-VE-CM-FE-NI (Key assumption: Split costs into variable and fixed) 1. 2. Absorption Costing Income Statement Variable Costing Income Statement Sales $500,000 Sales $500,000 Less: Variable expenses Less: Cost of goods sold: Variable (DM+DL+VOH) Fixed (FOH) Gross margin 100,000 Product costs 100,000 60,000 S&A costs 110,000 340,000 Contribution margin 290,000 Less: Selling & administrative Less: Fixed expenses Variable 110,000 Product costs 60,000 Fixed 140,000 S&A costs 140,000 Taxable income $90,000 Taxable income $90,000 LINK THE LINEAR COST FUNCTION TO THE VARIABLE COSTING INCOME STATEMENT Units/Volume Per Unit Total Units/Volume Per Unit Total (U) (P) (T) (U) (P) $50.00 $21.00 $500,000 $210,000 Sales X SP SP-(X) Sales 10,000 Variable expenses m-(X) Variable expenses Contribution margin Fixed expenses Contribution margin $29.00 $290,000 $200,000 $90,000 b Fixed expenses Net income Net income Problem 3.1: (+ you compute B/E, M/S, and O/L Volume Per Unit Total $500,000 Sales (S) Variable expenses (VE) Contribution margin (CM) Fixed expenses (FE) 20,000 $5.00 Taxable income (Before-tax income) Tax (tax rate 25%) Net income (After-tax income) 30,000 100% 25% 75% Required: 1. Complete the income variable costing statement Compute the contribution margin % Compute breakeven (units and Sales $) Compute margin of safety (Total $s and %) Compute Taxable Income when Net income = $37,500 Compute Sales $'s required to generate Net income of $37,500 7. Compute Operating leverage 8. If sales increase 15%, use operating leverage to compute Net Income (be careful) 2. 3. 4. 5. 6.