Discuss about the cost- volume- profit of an enterprise.
CVP analysis is an analysis of “cost- volume- profit” of an enterprise that is a technique in management accounting for the evaluation and determination of sales volume and costs of production for derivation and analysis of operating profit of business. The variables that are considered for this analysis are fixed cost, variable costs and selling price per unit of the produced goods (Gean and Gean 2015). Further, for the measurement of CVP, an entity is required to follow certain assumptions stated as follows:
- All the costs of products should be separated as variable cost and fixed costs
- Per unit cost of sales and variable cost as well as total fixed cost should remain constant
- The total units produced by the company are sold. That is, concept of closing stock shall not be considered
In case of CVP analysis there is one more important concept- Contribution margin is considered. Contribution margin is the difference between sales value and variable cost of the product that should be more than the fixed cost in order to incur profit (Anderson and Leese 2016).
Any firm or organization formed to earn profit to maintain growth and sustainability but at the initial stage profit, earning is quite difficult but the organization is required to maintain break even between its cost and revenue and also to maintain the margin of safety (Kumar 2016).
In the given situation, the owner of the firm has set up business and started earning some profit but facing huge tax liability. On this issue, the owner’s accountant initiated to prepare monthly management accounts by charging higher fees so that the owner get an analysis for its product through CVP technique.
As discussed and stated the meaning of CVP analysis it can be interpreted that an organization or firm should adopt on a periodical basis so that the management can keep a track as well as evaluate the pricing and sales of its products in order to generate and maximize the profit (Kim 2015). Hence, suggestion of the accountant of the firm owner was viable but instead of monthly preparation owner can ask for quarterly preparation that also let her negotiate the fees structure in case the owner is not willing to pay on monthly basis, as it is quite higher.
Financial reporting concerns on the results of the business as a whole and management accounting information are a detailed reporting on the operating level of the enterprise. In this context, there are several differences between the two concepts (Ge, et al. 2015). Financial reporting focuses on reporting of the profitability of the entire business whereas the management accounting information is conducted to measure the problems arising in generating revenues and profits and ways to solve the issues. Another difference is that reporting on financial information requires following several principles and rules set up in the accounting standards but in case of management accounting there is no such standards to be followed. Financial reporting is measured and reported on historical concept as it presents the performance of the company relating to previous years while, the management accounting is reported on historical as well as future concept in terms of budgets and forecasts (Weygandt, Kimmel and Kieso 2015).
In the context to CVP analysis there exists certain benefits and drawback that are discussed in this section:
CVP analysis assists in decision-making process for the operation of business and services in respect to the selection of products, buying decision, fixation of selling price and selection of marketing process. This analysis helps the management of the company to strategize its business operation structure to maximize the profitability (Anderson and Leese 2016).
Another benefit of CVP analysis is control on costs in the production process of the organization. As the variables of CVP are variable costs and fixed costs, it provides different structure and effects on change of cost volume so that the production cost can be declined in order to maximize the profit generation (Gean and Gean 2015).
Some other benefits that CVP analysis provides are determination of price, planning of profits and measurements of budgets that are vital component of the enterprises to plan and set goals in order to achieve the targeted sales and profit and by reducing the production and manufacturing costs (Kim 2015).
Apart from the benefits, there are certain disadvantages of the CVP analysis that provides information for the companies involved in single product whereas it provides very limited details for multi product companies (Anderson and Leese 2016).
In regard to the given case, CVP analysis would assist the owner in measuring the problems that hinders the maximization of profit and helps in finding the ways to lower the tax liabilities more efficiently if the business deals with the single product(). The advice in this context can be given to adopt the CVP analysis on quarterly basis instead of monthly basis so that the there will be number of data available for budget forecast along with the saving in fees of cost accountant.
Anderson, J.A. and Leese, W.R., 2016. A Formula For The Units To Satisfy An Operation's Desired Rate Of Return In CVP Analysis-A Conceptual Approach. American Journal of Business Education (Online), 9(2), p.87.
Ge, W., Li, Z., Liu, Q. and McVay, S.E., 2015. Does Internal Control Over Financial Reporting Curb Corporate Corruption? Evidence from China.Evidence from China (December 16, 2015).
Gean, F. and Gean, V., 2015. The Desirability of an Integrated Learning Methodology for Enriching Cvp Analysis. Journal of Business and Accounting, 8(1), p.127.
Kim, S.H., 2015. Cost-Volume-Profit Analysis for a Multi-Product Company: Micro Approach. International Journal of Accounting and Financial Reporting,5(1), pp.23-35.
Kumar, R., 2016. Break Even Analysis: A Glance. International Journal of Research in Finance and Marketing, 6(2), pp.175-193.
Weygandt, J.J., Kimmel, P.D. and Kieso, D.E., 2015. Financial & Managerial Accounting. John Wiley & Sons.