Variable and Fixed Cost Behavior

A variable cost
changes in direct
proportion to changes
in the cost-driver level.
A fixed cost is
not immediately
affected by changes
in the cost-driver.
Think of variable
costs on a per-unit basis.
The per-unit variable
cost remains unchanged
regardless of changes in
the cost-driver.
Think of fixed costs
on a total-cost basis.
Total fixed costs remain
unchanged regardless of
changes in the cost-driver.
Relevant Range
The relevant range is the limit
of cost-driver activity level within which a
specific relationship between costs
and the cost driver is valid.
Even within the relevant range, a fixed
cost remains fixed only over a given
period of time Usually the budget period.
Fixed Costs and Relevant Range
20 40 60 80 100
$115,000
100,000
60,000
Total Cost-Driver Activity in Thousands
of Cases per Month
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M
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F
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Relevant range
$115,000
100,000
60,000
20 40 60 80 100
CVP Scenario
Per Unit Percentage of Sales
Selling price $1.50 100%
Variable cost of each item 1.20 80
Selling price less variable cost $ .30 20%

Monthly fixed expenses:
Rent $3,000
Wages for replenishing and
servicing 13,500
Other fixed expenses 1,500
Total fixed expenses per month $ 18,000

Cost-volume-profit (CVP) analysis is the study of the effects of output
volume on revenue (sales), expenses (costs), and net income (net profit).
Break-Even Point
The break-even point is the level of sales at which
revenue equals expenses and net income is zero.
Sales
- Variable expenses
- Fixed expenses
Zero net income (break-even point)

Contribution Margin Method
$18,000 fixed costs $.30
= 60,000 units (break even)
Contribution margin
Per Unit
Selling price $1.50
Variable costs 1.20
Contribution margin $ .30
Contribution margin ratio
Per Unit %
Selling price 100
Variable costs .80
Contribution margin .20
Contribution Margin Method
$18,000 fixed costs
20% (contribution-margin percentage)
= $90,000 of sales to break even
60,000 units $1.50 = $90,000
in sales to break even
Equation Method
Sales variable expenses fixed expenses = net income
$1.50N $1.20N $18,000 = 0
$.30N = $18,000
N = $18,000 $.30
N = 60,000 Units
Let N = number of units
to be sold to break even.
Equation Method
S .80S $18,000 = 0
.20S = $18,000
S = $18,000 .20
S = $90,000
Let S = sales in dollars
needed to break even.
Shortcut formulas:
Break-even volume in units = fixed expenses
unit contribution margin

Break-even volume in sales = fixed expenses
contribution margin ratio
Cost-Volume-Profit Graph
18,000
30,000
90,000
120,000
138,000
$150,000
0
10 20 30 40 50 60 70 80 90 100
Units (thousands)
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60,000
Total
Expenses
Sales
Net Income Area
Break-Even Point
60,000 units
or $90,000
Net Loss
Area
A
C
D
B
Fixed Expenses
Variable
Expenses
Net Income
Target Net Profit
Managers use CVP analysis
to determine the total sales,
in units and dollars, needed
To reach a target net profit.
Target sales
variable expenses
fixed expenses
target net income
$1,440 per month
is the minimum
acceptable net income.
Target sales volume in units =
(Fixed expenses + Target net income)
Contribution margin per unit
($18,000 + $1,440) $.30 = 64,800 units
Target Net Profit
Selling price $1.50
Variable costs 1.20
Contribution margin per unit $ .30
Target sales dollars = sales price X sales volume in units
Target sales dollars = $1.50 X 64,800 units = $97,200.
Sales volume in dollars = 18,000 + $1,440 = $97,200
.20
Target Net Profit
Target sales volume in dollars = Fixed expenses + target net income
contribution margin ratio
Contribution margin ratio
Per Unit %
Selling price 100
Variable costs .80
Contribution margin .20