Cost-volume-profit analysis, in short, CVP analysis is an important accounting parameter for any company to determine whether it is running in profits or losses. It gives an estimation about at what point of sales volume are the total expenses incurred by the company are neutralizing each other. In other words, the company is neither running in profit nor is at losses at this point. This point that is obtained from CVP analysis is called as the Break Even Point.
Before understanding how cost volume profit analysis is done with an example, let us see clearly why companies should use this method at all.
Importance of CVP Analysis
Irrespective of size of the business, it gets tough after a certain volume of the business activities to correctly estimate the expected level of sales volume that predicts whether the company is running financially in a safe zone. Most companies rely on market research and the company’s past records of sales, profits and losses to make an estimation about the current year’s sales.
This is where CVP analysis comes into picture. It helps a company to estimate the sales volume that brings the breakeven point. The company can know what level of sales must be done to reach a specified level of income.
Besides, break even point, companies also can get an idea about the following aspects using CVP analysis:
● Salaries of the staff, sales price and the cost of the material to be incurred.
● How price and variable cost are effected if sales volume changes.
Note that there is a term here – variable costs. Not just this, the discussion of CVP analysis is interlinked with the following important terms:
● Gross Profit Margin: This is calculated Continue Reading.....