Cost volume profit analysis and break even analysis

Cost-Volume-Profit Analysis

Running head: COST-VOLUME-PROFIT ANALYSIS

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COST-VOLUME-PROFIT ANALYSIS

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TO: Management, Bargain Shoe Store

FROM: Senior Accountant

DATE: August 23, 2017

SUBJECT: Promotional Campaign Analysis

The promotional campaign developed by Mary Willis and the advertising department has been fully examined to include an analysis of the current and proposed break even points and margins of safety for Bargain Shoe Warehouse (BSW). Additionally, I have prepared a Cost-Volume-Profit income statement for current operations and for the proposed changes for management consideration.

Break Even Analysis

Mary proposed increasing fixed cost by 24,000 dollars through lighting upgrades and increasing display space. Under Mary’s plan, variable costs would remain unchanged and the price per pair of shoes would drop 5 percent to 38 dollars per pair. The break-even analysis concludes that BSW currently breaks even at 16,875 units sold, whereas, with Mary’s proposal, BSW would not break even until 21,000 units were sold which exceeds current sales by 1,000 units.

Break Even Analysis

Current Business Plan

Mary’s Business Plan

Fixed Costs

$ 270,000.00

$ 294,000.00

Variable Costs

$ 24.00

$ 24.00

Price

$ 40.00

$ 38.00

Break Even Point

16,875 units

21,000 units

Margin of Safety Analysis

Mary projects that sales will increase from 20,000 units currently to 24,000 units when the plan is implemented. As shown below BSW currently operates at a 16 percent margin of safety ratio which would reduce to 13 percent with Mary’s proposal. In other words, BSW could experience a reduction of 3,125 units sold, under the current business model, before operating at a loss, whereas, with Mary’s plan BSW could only suffer a reduction of 3,000 units sold of the projected increase of 4,000 units sold. If BSW’s sales remain constant even after implementing Mary’s business plan, then BSW would be operating at a tremendous loss.

Margin of Safety Analysis

Current Business Plan

Mary’s Business Plan

Units Sold

20,000.00

24,000.00

Actual Sales

$ 800,000.00

$ 912,000.00

Break Even Sales

$ 675,000.00

$ 798,000.00

Margin of Safety Ratio

16%

13%

Reduction in Units Sold

3,125 units

3,000 units

Cost-Volume-Profit Analysis

A Cost-Volume-Profit (CVP) analysis is a study that investigates the effect of cost and volume changes in cost and volume on a company’s profits (Kimmel, Weygandt, & Kieso, 2016). As shown in the CVP analysis below, BSW could more than double their net income with Mary’s business plan.

Cost-Volume-Profit Analysis

Current Business Plan

Mary’s Business Plan

Sales

$ 800,000.00

$ 912,000.00

Variable Costs

$ 480,000.00

$ 504,000.00

Contribution Margin

$ 320,000.00

$ 408,000.00

Fixed Costs

$ 270,000.00

$ 294,000.00

Net Income

$ 50,000.00

$ 114,000.00

Conclusion

The results of the three analyses performed reveals that if Mary’s business plan is based on solid evidence then BSW can more than double net income although there exist several concerns. First, BSW must increase sales by a minimum of 1,000 units sold to break even, if sales do not increase then BSW will operate at a huge loss. Second, changes in the margin of safety ratio are deemed negligible if projected sales are achieved, however, the margin of safety value would decline significantly should BSW experience only half the increase in sales that Mary projects. Third, if BSW experiences an increase in sales volume that is only half of what Mary projected then net income would drop to 38,000 dollars from its current value of 50,000 dollars. Given the potential increase in BSW’s net income by investing in upgrades and reducing the sales price of products it is recommended that Mary’s research be validated before implementing. If Mary’s sales projections cannot be validated, then it is recommended that her business plan not be implemented.

Senior Accountant

References

Kimmel, P. D., Weygandt, J. J., & Kieso, D. E. (2016). Accounting: Tools for business decision making (6th ed.). Hoboken, NJ: John Wiley & Sons.