cost n profit analysis
TRANSCRIPT
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Cost and profit analysis
Vibha Bhan Rahul Babar
Dhanashree Prasad Bhojane
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How it goes……
• Introduction• Classification• Cost function relationship • BEP• Evaluation of cases
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COST• Costs of a firm is incurred to
establish the production unit and to purchase different factors of production.i.e. TC = TFC + TVC
• However, nothing is fixed in the long run.
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Why…..
• The aim of the business is to maximize profits (Price- Cost).
• For this managers have to increase their revenues and minimize costs.
• The cost of production provides floor to pricing.
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Classification of cost
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COST RELATIONSHIP
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fig
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TFC
Output(Q)
01234567
TFC(rs)
1212121212121212
Total costs for firm X
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fig
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TFC
Output(Q)
01234567
TFC(rs)
1212121212121212
TVC(rs)
010162128406091
Total costs for firm X
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fig
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TVC
Output(Q)
01234567
TFC(rs)
1212121212121212
TVC(rs)
010162128406091
TFC
Total costs for firm X
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fig
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TVC
Output(Q)
01234567
TFC(rs)
1212121212121212
TVC(rs)
010162128406091
TFC
Total costs for firm X
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fig
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TVC
TFC
Output(Q)
01234567
TFC(rs)
1212121212121212
TVC(rs)
010162128406091
TC(rs)
12222833405272
103
Total costs for firm X
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fig
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TCOutput
(Q)
01234567
TFC(rs)
1212121212121212
TVC(rs)
010162128406091
TC(rs)
12222833405272
103
TVC
TFC
Total costs for firm X
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Average fixed cost
Average fixed cost (AFC) = TFC/Q
where TFC = fixed cost, Q = total number of units produced.
Unit fixed costs decline along with volume, following a rectangular hyperbola. As a result, the total unit cost of a product will decline as volume increases.
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Average Fixed costs
Q
Costs
AFC
O
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Average variable cost
Average variable cost (AVC) is the TVC of a firm divided by the total units of output (Q).
AVC = TVC/Q
Q
costs
Y
AVC
O
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Average cost
Average cost (AC) is the TC of a firm divided by the total units of output (Q).
AC = TC/Q = AFC + AVC
Q
costs
Z
AC
O
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Marginal Cost
The additional cost incurred to produce one additional unit of output is called the Marginal Cost (MC).
MC = ∆TC/ ∆Q
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Output (Q)
Co
sts
(rs)
MC
Marginal costsMarginal costs
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Output (Q)
Co
sts
AFC
AVC
MCAC
z
y
Short run average cost curve
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Long run cost curves
The Long run average cost (LRAC or LAC) curve illustrates - for a given quantity of production - the average cost per unit which a firm faces in the long run (i.e. when no factors of production is fixed).
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figOutputO
Co
sts
LRACEconomiesof scale
Constantcosts
Diseconomiesof scale
A typical long-run average cost curve
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fig
Deriving long-run average cost curves: plants of fixed size
SRAC3
Cos
ts
OutputO
SRAC4
SRAC5
5 factories
4 factories3 factories
2 factories
1 factory
SRAC1 SRAC2
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fig
LRAC
Cos
ts
OutputO
Deriving a long-run average cost curve: choice of factory size
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What is the break-even
point?
What is the break-even
point?
Revenues Costs=
Break-even
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Calculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even Point
At the break-even point, fixed costs and the contribution
margin are equal.
At the break-even point, fixed costs and the contribution
margin are equal.
Sales (? units) ?Variable costs ?Contribution margin 90,000 Fixed costs 90,000Income from operations 0
25 15
10
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Sales (25 x ? units) ?Variable costs (15 x ? units) ?Contribution margin 90,000 Fixed costs 90,000Income from operations 0
25 15
10
Break-even sales (units) =Unit contribution margin
Fixed costs90,000
109,000 units
Sales (25 x 9,000) 225,000Variable costs (15 x 9,000) 135,000Contribution margin 90,000Fixed costs 90,000Income from operations 0
PROOF!PROOF!PROOF!PROOF!
Calculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointIn UnitsIn Units
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Sales (250 x ? units) ?Variable costs (145 x ? units) ?Contribution margin ? Fixed costs 840,000Income from operations 0
250 145
105
Break-even sales (units) =Unit contribution margin
Fixed costs840,000
1058,000 units
Calculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointIn UnitsIn Units
The unit selling price is 250 and unit variable cost is 145. Fixed costs are 840,000.
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Sales (25 x ? units) ?Variable costs (15 x ? units) ?Contribution margin ? Fixed costs 840,000Income from operations 0
250 145
105
Break-even sales (units) =Unit contribution margin
Fixed costs840,000
1008,400 units
250 150
100
Next, assume Next, assume variable costs is variable costs is increased by 5.increased by 5.
Next, assume Next, assume variable costs is variable costs is increased by 5.increased by 5.
Calculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointIn UnitsIn Units
The unit selling price is 250 and unit variable cost is 145. Fixed costs are 840,000.
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Sales ?Variable costs ?Contribution margin ? Fixed costs 600,000Income from operations 0
Break-even sales (units) =Unit contribution margin
Fixed costs600,000
2030,000 units
50 30
20
Calculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointIn UnitsIn Units
A firm currently sells their product at 50 per unit and it has a related unit variable cost of
30. The fixed costs are 600,000.
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Sales ?Variable costs ?Contribution margin ? Fixed costs 600,000Income from operations 0
Break-even sales (units) =Unit contribution margin
Fixed costs600,000
3020,000 units
50 30
20
60 30
30
Calculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointCalculating the Break-Even PointIn UnitsIn Units
Management increases Management increases the selling price from the selling price from
rs50 to rs60.rs50 to rs60.
Management increases Management increases the selling price from the selling price from
rs50 to rs60.rs50 to rs60.
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Summary of Effects of Changes on Summary of Effects of Changes on Break-Even PointBreak-Even Point
Summary of Effects of Changes on Summary of Effects of Changes on Break-Even PointBreak-Even Point
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Target ProfitTarget ProfitTarget ProfitTarget Profit
Fixed costs are estimated at 200,000, and the desired profit is 100,000. The unit selling price is 75 and the unit variable cost is45. The firm
wishes to make a100,000 profit.
Sales (? units) ?Variable costs ?Contribution margin ? Fixed costs 200,000Income from operations 0
75 45
30
In Units
In Units
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Sales (? units) ?Variable costs ?Contribution margin ? Fixed costs 200,000Income from operations 0
Sales (units) =Unit contribution margin
Fixed costs + target profit200,000 + 100,000
3010,000 units
Target ProfitTarget ProfitTarget ProfitTarget Profit In Units
In Units
75 45
30
Target profit is Target profit is used here to refer used here to refer to “Income from to “Income from
operations.”operations.”
Target profit is Target profit is used here to refer used here to refer to “Income from to “Income from
operations.”operations.”
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75 45
30
Sales (10,000 units x 75) 750,000Variable costs (10,000 x 45) 450,000Contribution margin 300,000Fixed costs 200,000Income from operations 100,000
Proof that sales of 10,000 units Proof that sales of 10,000 units will provide a profit of 100,000.will provide a profit of 100,000.Proof that sales of 10,000 units Proof that sales of 10,000 units will provide a profit of 100,000.will provide a profit of 100,000.
Target ProfitTarget ProfitTarget ProfitTarget Profit
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Graphic Approach to Cost-Volume-Profit
Analysis
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Cost-Volume-Profit ChartCost-Volume-Profit ChartS
ales
an
d C
osts
(rs
000)
Sal
es a
nd
Cos
ts (
rs00
0)
0
Units of Sales (000)
500450400350300250200150100 50
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
60%60%
Total Sales
Variable Costs
1 2 3 4 5 6 7 8 9 10
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Cost-Volume-Profit ChartCost-Volume-Profit ChartSa
les
and
Cos
ts (
rs00
0)Sa
les
and
Cos
ts (
rs00
0)
0
Units of Sales (000)
500450400350300250200150100 50
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
60%60%
40%
Contribution Margin
100% 60%40%
1 2 3 4 5 6 7 8 9 10
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Cost-Volume-Profit ChartCost-Volume-Profit ChartSa
les
and
Cos
ts (
rs00
0)Sa
les
and
Cos
ts (
rs00
0)
0
Units of Sales (000)
500450400350300250200150100 50
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
Fixed CostsFixed Costs
100% 60%40%
TotalTotalCostsCosts
1 2 3 4 5 6 7 8 9 10
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Cost-Volume-Profit ChartCost-Volume-Profit ChartSa
les
and
Cos
ts (
rs00
0)Sa
les
and
Cos
ts (
rs00
0)
0
500450400350300250200150100 50
1 2 3 4 5 6 7 8 9 10
Break-Even Point
Units of Sales (000)
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
100% 60%40%
100,000
20= 5,000 units
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Cost-Volume-Profit ChartCost-Volume-Profit ChartSa
les
and
Cos
ts (
rs00
0)Sa
les
and
Cos
ts (
rs00
0)
0
Units of Sales (000)
500450400350300250200150100 50
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
Unit selling price 50Unit variable cost 30Unit contribution margin 20
Total fixed costs 100,000
100% 60%40%
Operating Profit Area
Operating Loss Area
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Sony Play station ( Case study )
PS3 PS42006 2013
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PAST SCENARIO
Earlier Models of PS4 incurred Losses. PS3 was launched in 2 types of models
Manufacturing Cost was $805 and $840Selling Price was $499 and $599
(Per Unit)
Loss of $305 and $245(Per Unit)
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REASON FOR LOSSES
Hardware parts Cost: Custom chips and others. Hardware parts weren’t cheap during that period of time.
Sales:
Low Price compare to cost.
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PRESENT SCENARIO
Abandoned custom components. Decided to use readily available components.
In turn adequate supply . Hardware prices dropped significantly after 2006.
Manufacturing Cost was $381Selling Price was $399
(Per Unit)
Profit of $18(Per Unit)
High Sales due to low selling price ( just above break even)
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Toyota
Three competitorsToyota Honda Nissan
TOYOTA has bigger portion of share than others in Japan
Aim of Toyota:Lower the Break even point by Improving
manufacturing process
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ProblemFinancial Crisis i.e. dropping Yen to dollars
(80 yen to $1)&
Low Sales in domestic market
Shifting production overseas or Lower Production Cost
(Nissan) (Toyota)
Possible Solution
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Strategy to lower cost of production
They tried to Aim 70% capacity utilization (12000 units daily).
Assumes yen value to dollars of 90 yens to $1
(Preparing for worst case in advance)
Based on this they build production strategy (flexible)
Changed Layout of production ( more compact)
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Forecasted fall of sale 17%
( more than predicted overall automobile market in Japan 9.9% )
Plans to produce 3.1 million units
and
sell 58% overseas.
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Expected Result
40% less capital spending
Annual expenditure $8.4 billion
( half of previous year)
Lower break even point as a result by
Increasing sales by overseas sale
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