Profit Center Analysis
Jack Davis, CPA, MBA
SDSU-CES, Area Management Specialist
Profits squeezed?
• Everyone knows their costs, don’t they?
• Do you know how these costs behave?
Word List
• Cost Behavior
• Variable Costs.
– Variable Costs per unit
are constant.
• Fixed Costs.
– Fixed costs per unit
vary with production
level.
• Mixed Costs.
– Semi-variable costs
change in total with
changes in production
level, but not
proportionately.
Terms to Recognize
• Cost volume profit
analysis
– Profit = Sales (S) –
Variable Costs (VC) –
Fixed Costs (FC)
• Contribution Margin
– Sales -- Variable Costs
– Contribution Margin
Ratio
• (Sales – Variable
Costs)÷ Sales
Breakeven Point
• Sales (in dollars) = Fixed Costs / Contribution
margin ratio
• Sales (units) = Fixed Costs / Contribution margin
per unit
Cost or
Revenue
($)
Quantity Produced
Break-Even Diagram
Cost or
Revenue
($)
Quantity Produced
Break-Even Diagram
Break Even Quantity
Break Even Quantity
Profit / Loss
Corridor
Variable
Costs
Cost or
Revenue
($)
Fixed Cost
Quantity Produced
Break-Even Diagram
Fixed Cost
Break Even Quantity
Increased Fixed Costs
Break Even Quantity
Break-Even Diagram
Profit / Loss
Corridor
Variable
Costs
Cost or
Revenue
($)
Fixed Cost
Quantity Produced
Management Hubs
• Profit Centers.
– Subunit that has responsibility for generating
revenue as well as for controlling costs.
• Cost Centers.
– Subunit that has responsibility for controlling
costs but does not sell product. i.e. service
departments.
Cost Allocation
Cost Objective
Cost Pools
Allocation base
Relates the cost pool to the cost objective
Profit Center Analysis
• Organize business into subunits, profit
center & cost centers.
• Track variable costs to profit centers.
– Control escalators
• Allocate asset use to subunits.
• Evaluate on contribution margin and
amount of capital invested.
Cost-Volume-Profit Diagnostics
Differential Analysis
• Decision method to chose among alternative
courses of action.
– Additional Processing
– Make or buy
– Drop enterprise
• Outsourcing
• Core competencies
Vocabulary
• Differential costs and
revenue
– The additional cost or
revenue incurred when
one alternative is
chosen over another.
• Sunk cost.
– Costs that are already
incurred & not
reversible.
• Opportunity Costs.
– The benefit given up
by selecting one
alternative over
another. i.e. Interest on
stored grain.
Process or Sell
Sell
Revenue
Less:
Prior Costs
Add. Costs
Gain (loss)
Additional
Processing
Differential
Rev. &
Costs
Produce or Purchase
Make
Cost to Buy
Variable
Costs
Fixed Costs
Total
Buy
Savings
(Costs)
(
)
Differential Analysis
Discontinued Operations
• Cost allocation death spiral.
– What will happen to common costs if
enterprise is dropped?
– They are allocated over remaining enterprises.
Which may make those enterprises seem
unprofitable.