Lecture Accounting: What the numbers mean (5/e) - Chapter 12: Managerial accounting and cost-volume-profit relationships

After reading this chapter, you should be able to answer the following questions: What is the managerial planning and control cycle? What are the major differences between financial accounting and managerial accounting? What is the difference between variable and fixed cost behavior patterns, and what simplifying assumptions are made in this classification method?...

CHAPTER 12 MANAGERIAL ACCOUNTING AND COST-VOLUMEPROFIT RELATIONSHIPS McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Learning Objectives What is the managerial planning and control cycle? What are the major differences between financial accounting and managerial accounting? What is the difference between variable and fixed cost behavior patterns, and what simplifying assumptions are made in this classification method? McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Learning Objectives Why are fixed costs expressed on a per unit of activity basis misleading, and why may this result in faulty decisions? What kinds of costs are likely to have a variable cost behavior pattern, and what kinds of costs are likely to have a fixed costs behavior pattern? How can the high-low method be used to determine the cost formula for a cost that has a mixed behavior pattern? McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Learning Objectives What is the difference between the traditional income statement format and the contribution statement format? What is the importance of using the contribution margin format to analyze the impact of cost and sales volume changes on operating income? How is the contribution margin ratio calculated, and how can it be used in CVP analysis? McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Learning Objectives 10 How can changes in sales mix affect the projections using CVP analysis? 11 What are the meaning and significance of the break-even point, and how is the break-even point calculated? 12 What is the concept of operating leverage? McGrawưHill/Irwin âTheMcGrawưHillCompanies,Inc.,2002 Learning Objective ã What is the managerial planning and control cycle? McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Managerial Accounting Contrasted to Financial Accounting • Managerial accounting supports the internal planning decision made by management • Financial accounting has more of a score-keeping, historical orientation • Planning is a key part of the management process McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Revisit Plans Strategic, Operational, and Financial Planning Planning and Control Cycle Performance Analysis: Plans vs Actual Results (Controlling) McGraw­Hill/Irwin Implement Plans Data Collection and Performance Feedback Executing Operational Activities (Managing) ©The McGraw­Hill Companies, Inc., 2002 Planning and Control • The management process consists of planning, organizing, and controlling an entity’s activities • Control provides feedback in which actual results are compared to planned results, and if a variance exists, the plan or actions or both are changed McGrawưHill/Irwin âTheMcGrawưHillCompanies,Inc.,2002 Learning Objective ã What are the major differences between financial accounting and managerial accounting? McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Learning Objective • How is the contribution margin ratio calculated, and how can it be used in CVP analysis? McGrawưHill/Irwin âTheMcGrawưHillCompanies,Inc.,2002 Contribution Margin Ratio ã Contribution margin ratio is the ratio of contribution margin to revenues • Using either total dollars or dollars per unit, divide the contribution margin by the revenue • The result is a percentage McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Contribution Margin Model Per unit X Volume = Total Revenue $XX Variable expenses XX Contribution margin $XX Fixed expenses Operating income McGraw­Hill/Irwin x XX % = $XX X% XX $XX âTheMcGrawưHillCompanies,Inc.,2002 Using the Contribution Margin Model ã Steps in using the model are as follows: – Express revenue, variable expense, and contribution on a per unit basis – Multiply the contribution per unit by the volume to get the total contribution margin – Subtract fixed expenses from the total contribution margin to get operating income (Fixed expenses are NOT unitized!) McGrawưHill/Irwin âTheMcGrawưHillCompanies,Inc.,2002 Contribution Margin in Action ã Four relationships to notice as you study: – Revenue - Variable expenses = Contribution margin – Contribution margin / Revenue = Contribution margin ratio – Total contribution margin depends on the volume of activity – Contribution margin must cover fixed expenses before an operating income is earned McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Learning Objective 10 • How can changes in sales mix affect the projections using CVP analysis? McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Multiple Products and Sales Mix Considerations • When using the contribution margin model with more than one product, the sales mix must be considered • Sales mix is the relative proportion of total sales accounted for by different products • Different products usually have different contribution margins McGrawưHill/Irwin âTheMcGrawưHillCompanies,Inc.,2002 Learning Objective 11 ã What are the meaning and significance of the break-even point, and how is the breakeven point calculated? McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Break-Even Point Analysis • Break-even point is usually expressed as the amount of revenue that must be realized in order to have neither a profit nor a loss • Expresses minimum target revenue • Use the contribution margin model to determine the break-even point by setting operating income to zero McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Break-Even Point Formulas • Total revenues at break-even = • Fixed expenses Contribution margin ratio • Volume in units at bread-even = Fixed expenses Contribution margin per unit • Volume in units at break-even = McGraw­Hill/Irwin Total revenues required Revenue per unit âTheMcGrawưHillCompanies,Inc.,2002 Target Operating Income ã The revenues and units necessary may be determined as follows: • Total revenues for desired level of operating income = • Fixed expenses + Desired operating income Contribution margin ratio • Volume in units for desired level of operating income = • Fixed expenses + Desired operating income Contribution margin per unit McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Break-Even Graph Total revenues Break-even point Profit $000 Total expenses Variable expenses Loss Fixed expense Sales volume in units McGrawưHill/Irwin âTheMcGrawưHillCompanies,Inc.,2002 Learning Objective 12 ã What is the concept of operating leverage? McGrawưHill/Irwin âTheMcGrawưHillCompanies,Inc.,2002 Operating Leverage ã Operating income will change proportionately more than changes in revenues because fixed expenses not change with changes in volume • This magnification effect on operating income due to a change in revenues is called operating leverage McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 Operating Leverage Effects • The higher a firm’s contribution margin ratio, the greater its operating leverage • High operating leverage increases the risk that a small percentage decline in revenues will cause a large percentage decline in operating income McGraw­Hill/Irwin ©The McGraw­Hill Companies, Inc., 2002 ... Objectives What is the managerial planning and control cycle? What are the major differences between financial accounting and managerial accounting? What is the difference between variable and fixed... sales mix affect the projections using CVP analysis? 11 What are the meaning and significance of the break-even point, and how is the break-even point calculated? 12 What is the concept of operating... McGraw­Hill/Irwin ? ?The? ?McGraw­Hill Companies, Inc., 2002 Steps in Using the High-Low Method Compute the fixed rate by using the following formula and inserting the variable rate computed above and either the