Question

What is cost-volume-profit (CVP) analysis and how do companies use CVP information in decision making? Explain.

Answer 1

Cost-Volume-Profit analysis (CVP) :

Cost-volume-profit analysis is a managerial accounting technique that is concerned with the effect of sales volume and product costs on operating profit of a buiness. It deals with how operating profit is affected by changes in variable costs, fixed costs, selling price per unit and the sales mix of two or more different products.

CVP Analysis formula

The basic formula used in CVP analysis is derived from profit equation :

Px = Vx + FC + profit

Where,    P = Price per unit

   V = Variable cost per unit

   X = Total number of units produced and sold

   FC = Total fixed cost

CVP inormation in decision making :

Cost-volume-profit analysis helps managers understand the relationship between cost, volume and profit ; thus, it's vital tool in the decision making process in an organisation. CVP analysis influences the decision of managers when it comes to matters such as product selection mix, make or buy decisions, selection of the best channel of distribution, the type of marketing strategy to use, what pricing policy to follow and the best method of production.