Chapter 4 - Short-term decision making. After completing this chapter, students will be able to: Describe the differences among product, nonproduct, unit-related, batch-related, product-sustaining, and facility-sustaining costs; explain the purpose of, and perform, cost-volume-profit (CVP) analysis; define and analyze a short-term special order decision; explain and analyze a short-term outsourcing decision; discuss and analyze a short-term product mix decision. | Short-term Decision Making Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4- What is the CVP Model? Cost-volume-profit model (short-term) Use to explore relationships among costs, volumes, and profits Assumptions (linearity) Selling price is constant per unit Variable cost is constant per unit Fixed cost is constant in total Number of units produced = number of units sold 4- CVP Graph Breakeven point Loss area Profit area Units produced and sold $ Total Revenue Total Cost 4- How are the CVP Components Defined Mathematically? Total revenue = SP * Q Total cost = VC * Q + FC Breakeven = (SP * Q – VC * Q) – FC = 0 Where, Q = quantity produced and sold Contribution margin SP – VC Breakeven = CM * Q – FC = 0 Target profit before taxes CM * Q – FC = P Target profit after taxes CM * Q – FC = P/(1 – tax rate) 4- CVP Continued Change in selling price Increase—decreases breakeven Decrease—increases breakeven Change in variable cost Increase—increases breakeven Decrease—decreases breakeven Change in fixed cost Increase—increases breakeven Decrease—decreases breakeven Change in tax rate No impact on breakeven 4- What are Product and Nonproduct Costs? Product costs Incurred in connection with buying or making the product Nonproduct costs Incurred in connection with selling the product and administering (running) the company 4- What are the 3 Types of Product Costs? Direct materials Traceable Worth the cost of tracing Direct labor Cost of employees making the product Manufacturing overhead Indirect costs of production (indirect materials, indirect labor, and other manufacturing costs) 4- What are the Activity Levels Associated with Costs? Unit-related Vary with units produced or sold Batch-related Vary with batches (groups) regardless of the number of units in the batch Product-sustaining Vary with the number of product lines Facility-sustaining Fixed or capacity costs 4- Types and Activity Levels Product | Short-term Decision Making Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4- What is the CVP Model? Cost-volume-profit model (short-term) Use to explore relationships among costs, volumes, and profits Assumptions (linearity) Selling price is constant per unit Variable cost is constant per unit Fixed cost is constant in total Number of units produced = number of units sold 4- CVP Graph Breakeven point Loss area Profit area Units produced and sold $ Total Revenue Total Cost 4- How are the CVP Components Defined Mathematically? Total revenue = SP * Q Total cost = VC * Q + FC Breakeven = (SP * Q – VC * Q) – FC = 0 Where, Q = quantity produced and sold Contribution margin SP – VC Breakeven = CM * Q – FC = 0 Target profit before taxes CM * Q – FC = P Target profit after taxes CM * Q – FC = P/(1 – tax rate) 4- CVP Continued Change in selling price Increase—decreases breakeven Decrease—increases breakeven Change in variable cost .
