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Cost, Volume, and Profits Formulas
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Axia College of University of Phoenix
Businesses require being profitable or else it would eventually fail. Accounting plays an
essential role in determining if the company will be successful and using well defined formulas
to find exact numbers will help figure what the company needs to do to accomplish its goals. The
accounting department would look at the cost-volume-profit analysis to address the different
components that changes the profitability of a business.
There are five components in the cost-volume-profit analysis. The five components include: (1)
volume activity, (2) unit selling prices, (3) variable cost per unit, (4) fixed cost per unit, and (5)
sales mix. Each component is important and means different things. The volume activity is
another word for sales. This is the number of units sold. The unit selling price is the number the
unit is sold for. For example, if a t-shirt is selling for $50.00 a pair, each shirt would then cost
$25.00. The unit selling price for each shirt would be $25.00. The variable cost per unit is the
expenses that are needed to make the unit. These include changing costs such as raw materials
and labor. Fixed cost per unit, is similar to the variable cost per unit but does not change in costs.
These are expenses that are assumed to be the same throughout the year which include fixed
costs like taxes and utilities. Since companies and stores sell different items at different prices,
there would be a mix of numbers in sales also called a sales mix.
The formula for contribution margin per unit, which is expressed as: unit selling priceunit variable costs, an increase of unit selling price would mean a higher contribution margin per
unit. For example, if JAV Co. sold computers for $1000 a unit and its variable cost per unit is
$600, the contribution margin per unit is $400. If JAV Co. were to sell their computers for $1100
a unit, that would increase the contribution margin per unit to $500.
When sales or volume are higher while fixed costs remain the same, the cost per unit
decreases. The volume of activity and fixed costs has an inverse relationship. For example, if
JAV Co. has fixed costs of $20,000 a month, and has produced 10,000 units, it would cost $2 per
unit. If JAV Co. were to increase the produced units to 20,000 units, it would only cost $1 per
unit.
Contribution ratio is used to find three areas. The first area is where the company is
running at a loss of profit. The second area is the break even point, or known as the point where
the company only breaks even from its income and expenses. The third area is the where the
company is running at profitable area, where its income exceeds its expenses. There contribution
ratio is defined as the: contribution margin per unit ÷ unit selling price. The contribution margin
per unit is defined as the: unit selling price – unit variable cost. These formulas are used to find
the break even point in dollars and in units expressed as: fixed costs ÷ unit contribution margin
(in units) and fixed costs ÷ unit contribution ratio (in dollars). For every unit sold, it will increase
income by the contribution margin. For every dollar sales, it will increase income by the
contribution ratio.
These numbers are essential to analyze the snapshot of a business. By decreasing costs
per units and increase sales, the company will eventually become a profitable business. If
however costs per unit is increased, and sales are decreased, the company will not be able to
sustain its operations. Being able to analyze costs will help the management of the business adapt
to changes.
References
Axia College of University of Phoenix. (2008). Cost-Volume-Profit Relationships. Retrieved
July 13, 2008, from Axia College, Week Five reading, aXcess, ACC 220- Survey of Accounting:
The Maze of Numbers.