Question

Discussion Board # 8 - Cost Volume Profit Analysis

1) Describe the cost behavior most firms face;

2) Describe the various tools management accountants use to measure cost behavior;

3) Discuss the importance of break-even points in accounting.

Answer 1

1

Cost behavior simply refers to how the cost of production change according to the level of activity changes. There are direct material cost, labour costs etc. Under cost behavior it analyse how these types of costs are affected to change in the production activity. In order to identify the cost bahavior , the management can apply various mathematical tools and techniques.

There are mainly 3 types of cost behavior

variable cost-are those cost which vary according to the production or volume changes.When production increases the cost also will increase. There is a positive relation among production volume and variable cost

Fixed cost are those cost which do not vary according to the production change. Even if the production is zero there is fixed cost. Production volume will not affect the amount of cost

Mixed cost- are the combination of fixed and variable cost.ie semi variable cost. The cost which are partially fixed and partially variable is called mixed cost.

2

Tools used by management accountants to measure cost behavior

1-DIRECT COSTING-It is a process of charging all direct costs(all variable cost and some fixed costs) to products, services, jobs etc. Indirect costs are not included here.They are adjusted against the profits of the period in which they arise

2-MARGINAL COSTING-It is the process of charging only variable costs. Marginal cost simply refers to the additional cost incurred for producing an additional unit.

3-ABSORPTION COSTING- It is the process of charging all costs like fixed and variable to the production. Hence it is called full costing method.

4-HISTORICAL COSTING- By name itself suggest it is the past cost, cost which are already incurred. It is also called sunk cost.it cannot be recover after they have been incurred.

STANDARD COSTING- It is a process of comparing the actual cost with the standard cost and analyse the variance among them and taking remedial actions.

3-IMPORTANCE OF BREAK EVEN POINTS IN ACCOUNTING

Break even point is the point where total costs are equal to total revenue. It is the foundation of break even analysis.Break even point is the point where there is no profit no loss.

Break even point in unit=fixed cost/contribution per unit

importance of BEP

BEP helps to forecast the sales and profits. The management can identify at what point the cost will be equals to profits. So it also helpful for the profit planning. Most of the decisions are based on the profit planning. so BEP is very much essential for that.Cost reduction is also possible through BEP. Here fixed costs are divided by the contribution( profit).BEP is very much helpful for understanding the effect of fixed cost and variable cost under production.