COST-VOLUME-PROFIT (CVP) ANALYSIS

Meaning: It is a managerial tool showing the relationship between

various ingredients of profit planning viz., cost, selling price and volume of
activity. As the name suggests, cost volume profit (CVP) analysis is the
analysis of three variables, cost, volume and profit. Such an
analysis explores the relationship between costs, revenue, activity levels
and the resulting profit. It aims at measuring variations in cost and
volume.

Break Even Analysis

Break Even Point is a point where

Total Cost = Total Revenue

Or

No profit No Loss Point

Meaning : Break even analysis is a method of studying the relationship

among sales revenue, variable cost and fixed cost to determine the level of
operation at which all the costs are equal to its sales revenue and it is no
profit no loss situation. This is an important technique used in profit planning
and managerial decision making.

Assumption and Limitations of Break Even Analysis:

1. It is assumed that All costs can be segregated into fixed and variable
costs. But in practical it is not possible to segregate all costs into fixed
and variable accurately.
2. It is assumed that all fixed costs remain constant at various levels of
activity. But in practice, it may not be fixed in the long run.
3. It is assumed that variable costs are really variable and changes in
direct proportion to the volume of output. It means that variable cost
 per unit of product remains constant. In practice variable costs are not
necessarily strictly variable with output.
4. It is assumed that production units and sales units are equal and no
inventory exists in the beginning or at the end of the period. In practice
there will always be existence of inventory.
5. It is assumed that there will be no change in selling price and its
remains constant at all levels of output and further assumed that there
is no change in sales mix. In the real world situation, to increase the
sales, it may necessitate to frequently change the selling prices and
sales mix of the products.
6. It is assumed that productivity, operating efficiency, product
specifications and methods of manufacturer and sale will not undergo
any change- in actual situation, the operating efficiency and
productivity depends upon the manpower, it is impractical to assume
that these factors remain constant.

Sales 100

(-) Variable Cost 60

Contribution 40 or 40% (P/V Ratio)

(-)Fixed Cost

Profit

Profit Volume Ratio

Profit Volume ratio (P/V Ratio) reveals the rate of contribution per
product as a percentage of turnover. It indicates the relationship of the
contribution to sales. It helps in knowing the profitability of the
business.
 How to improve the P.V. Ratio ?
Better P.V. ratio is an index of sound financial health of company.
P.V. ratio can be improved, if contribution is improved. Contribution
can be improved by taking any of the following steps :
(a) Increase in selling price.
(b) Reduce variable cost by efficient utilization of men, material and
machine.

Margin of Safety:

BEP = Rs 250000

Total sales = Rs 400000

Margin of Safety = Rs 150000

The margin of safety refers to sales in excess of the break even sales.
It represents the difference between sales at a given activity level and
sales at break even point. It is important that there should be a
reasonable margin of safety to run the operations of the company in
profitable position.

How to improve margin of safety ?

The higher the margin of safety, the better profitability of the product.

The margin of safety can be improved be adopting any of the following

steps:

(a) Increase in sales volume

(b) Increase in selling price
(c) Lowering fixed cost
(d) Lowering variable cost
(e) Change in product mix increasing contribution
Angel of incidence

The angle which sales line makes with the total cost line is known as the
‘angle of incidence’. The larger the angle of incidence indicate the higher the
margin of profit and vice versa. It is an indicator of profitability above the
break even point. If the margin of safety and angle of incidence considered
and studied together will provide significant information to the management
about its profitability. A high margin of safety with wider angle of incidence
will represent the most profitable position of the business concern and vice
versa.

Formula
Total cost = total FC + Total VC

= 10000 + 2500 * 6 = 25000

FC = 10000, SPPU = Rs 10, VCPU = Rs 6

PVR = 10 – 6 *100 = 40%

10

BEP (Units) = Fixed Cost = 10000/ (10-6) = 2500 Units

SPPU – VCPU

BEP (Rs) = Fixed Cost x SPPU = 10000 / (10-6) * 10 = Rs 25,000

SPPU – VCPU

(or) FC X S = 10000 * 40000 = Rs 25000

S-VC 40000 – 24000
FC = Rs 10000, S = Rs 40000, VC = Rs 24000

(or) FC x 100
PVR
 10000 x 100 = Rs 25,000
40

S = Total Sales

VC= Total Variable Cost

SPPU = Selling Price Per Unit

VCPU = Variable Cost Per Unit

PVR = Profit Volume Ratio

PVR = SPPU – VCPU * 100

SPPU
(OR) S- VC *100
S
(OR) Increment in Profit * 100
Increment in Sales
(OR) 100 - % OF VC

(OR) Profit *100

Margin of Safety (Rs)

(OR) Fixed Cost *100

BEP (Rs)

MS (Units) = sales (Units) – BEP (Units)

MS (Rs) = Sales (Rs) – BEP (Rs)
MS (Rs) = Profit * 100
PVR
Profit = Units (SPPU – VCPU) – FC

= 10000 (10 – 6) – 7000 = Rs 33,000

(or) S – (VC + FC)

100000 – (60000 + 7000) = Rs 33,000

(or) Sales * PVR – FC = 100000 * 40 – 7000 = Rs 33,000

100 100

Incremental Sales to cover Incremental Expenses

= Incremental Expenses * 100

PVR

Suppose the fixed cost of the company increased by Rs 20000, and PVR of
the company is 25%, how much sales is need to cover this incremental fixed
cost?

=20000 * 100 = Rs 80,000

25

Sales at desired profit

(1) How much company should sell if it wants to earn a profit of rs

50000 in a year.
(a) If desired profit is given in full Rupees,
Sales (Units) = FC + DP
SPPU-VCPU
Sales (Rs) = FC + DP * SPPU
SPPU-VCPU

(or) FC+DP * S
S-VC
 FC+DP * 100
PVR

(B) if desired profit is given in percentage or Per Unit

The company wants to earn 10% profit on sales.

FC = Rs 10000, SPPU = Rs10, VCPU =Rs 6, DP = 10% of sales

Sales (Units) = FC = 10000 = 3333 Units

(SPPU – (VCPU+DP)) (10- (6 + 1))
Sales (Rs) = FC * SPPU
(SPPU – (VCPU+DP))

Q1 The following figures of sales and profit for two periods are available in respect of a
concern:
Sales Profit
Period I 130000 11000
Period II 150000 15000

You are required to find out :

1. Profit Volume Ratio
2. Fixed Cost
3. Break Even Point
4. Profit at an estimated sales of Rs 100000.
5. Sales required to earn a profit of Rs 20000.
Answer: (1) 4000/20000 * 100 = 20%
(2) Profit = Sales* PVR – FC
100
11000 = 130000 * 20 - FC
100
FC = Rs 15000
(3) 15000 / 20 *100 = 75000
 (4) Rs5000
(5) Sales (Rs) = FC + DP * 100 = Rs 175000
PVR

Q2 The following information relates to X Co Ltd:

Rs
Sales 500000
Variable Cost 375000
Fixed Cost 37500

You are required to find out :

1. Profit Volume Ratio 500000 – 375000 / 500000 *100 = 25%

2. Break Even Point 37500 / 25 *100 = 150000
3. Net profit from sale of Rs 700000 = 137500
4. Margin of safety when sales are Rs 600000 = 450000
5. Required sales to earn a profit of Rs 100000 = 550000

Q3 From the following data find out:

(i) Profit volume ratio

(ii) Break even point
(iii) Sales for 40% P/V Ratio
(iv) Margin of safety from the sales of Rs 3,00,000
(v) Net profit from the sales of Rs 3,00,000
(vi) Required sales for the net profit of Rs 70,000
(vii) Required sales for the net profit of Rs 70,000 after taxes, the
corporate income-tax rate being 60%, and
(viii) Additional sales required to cover an increase of Rs 3,000 per
annum in the sales manager’s salary.

Position of A limited is as follows:

Sales 2,00,000

Variable cost 1,50,000

Gross profit 50,000

Fixed overheads 15,000

Net Profit 35,000

Practical Problems
1. If P/V ratio is 60% and the Marginal cost of the product is ` 20. CALCULATE the
selling price?
2. The ratio of variable cost to sales is 70%. The break-even point occurs at 60% of
the capacity sales. Find the capacity sales when fixed costs are ` 90,000. Also
COMPUTE profit at 75% of the capacity sales.

3. A company has made a profit of ` 50,000 during the year. If the selling price and
marginal cost of the product are ` 15 and ` 12 per unit respectively, FIND OUT the
amount of margin of safety.
4. (a) If margin of safety is ` 2,40,000 (40% of sales) and P/V ratio is 30% of AB Ltd,
CALCULATE its (1) Break even sales, and (2) Amount of profit on sales of `
9,00,000.
(b) X Ltd. has earned a contribution of ` 2,00,000 and net profit of `1,50,000 of
sales of ` 8,00,000. What is its margin of safety?

5. A company sells its product at ` 15 per unit. In a period, if it produces and sells 8,000
units, it incurs a loss of ` 5 per unit. If the volume is raised to 20,000 units, it
earns a profit of ` 4 per unit. CALCULATE break-even point both in terms of Value as
well as in units.
1. You are given the following data:
Sales Profit

Year 2021-22 ` 1,20,000 8,000

Year 2022-23 ` 1,40,000 13,000

FIND OUT –

(i) P/V ratio,

(ii) B.E. Point,
(iii) Profit when sales are ` 1,80,000,
(iv) Sales required earn a profit of ` 12,000,
(v) Margin of safety in year 2022-23.
1 C 7 D 13 C 19 A 25 D
2 C 8 A 14 C 20 B 26 A
3 C 9 A 15 B 21 B 27 B
4 A 10 C 16 C 22 A
5 B 11 C 17 A 23 D
6 C 12 B 18 B 24 A
Dr Abhishek Maheshwari Page 15