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Principles of Accounting, Volume 2: Managerial Accounting

Summary

Principles of Accounting, Volume 2: Managerial AccountingSummary

Summary

3.1 Explain Contribution Margin and Calculate Contribution Margin per Unit, Contribution Margin Ratio, and Total Contribution Margin

  • Contribution margin can be used to calculate how much of every dollar in sales is available to cover fixed expenses and contribute to profit.
  • Contribution margin can be expressed on a per-unit basis, as a ratio, or in total.
  • A specialized income statement, the Contribution Margin Income Statement, can be useful in looking at total sales and total contribution margin at varying levels of activity.

3.2 Calculate a Break-Even Point in Units and Dollars

  • Break-even analysis is a tool that almost any business can use for planning and evaluation purposes. It helps identify a level of activity that is necessary before an organization starts to generate a profit.
  • A break-even point can be found on a per-unit basis or as a dollar amount, depending upon whether a per-unit contribution margin or a contribution margin ratio is applied.

3.3 Perform Break-Even Sensitivity Analysis for a Single Product Under Changing Business Situations

  • Cost-volume-profit analysis can be used to conduct a sensitivity analysis that shows what will happen if there are changes in any of the variables: sales price, units sold, variable cost per unit, or fixed costs.
  • The break-even point may or may not be impacted by changes in costs depending on the type of cost affected.

3.4 Perform Break-Even Sensitivity Analysis for a Multi-Product Environment Under Changing Business Situations

  • Companies provide multiple products, goods, and services to the consumer and, as result, need to calculate their break-even point based on the mix of the products, goods, and services.
  • In a multi-product environment, calculating the break-even point is more complex and is usually calculated using a composite unit, which represents the sales mix of the business.
  • If the sales mix of a company changes, then the break-even point changes, regardless of whether total sales dollars change or not.

3.5 Calculate and Interpret a Company’s Margin of Safety and Operating Leverage

  • Businesses determine a margin of safety (sales dollars beyond the break-even point). The higher the margin of safety is, the lower the risk is of not breaking even and incurring a loss.
  • Operating leverage is a measurement of how sensitive net operating income is to a percentage change in sales dollars. A high degree of operating leverage results from a cost structure that is heavily weighted in fixed costs.
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