Cost-Volume-Profit (CVP)Analysis
The cost-volume-profit (CVP) analysis is the measuring of the relationship between costs and profits in relation to the varying quantities of the goods or services produced. Managers have the responsibility of understanding how costs and volume of production affects the profits.To better understand CVP, we have to classify the various types of costs that are used to produce a given product or service. The two main types of costs include the fixed costs and the variable costs.
Fixed costs are the costs that do not change based on the volume of production. Sometimes when there is a significant change in the level of production these costs may change, but mostly they stay the same for a given volume of production. Examples of fixed costs include, rent, insurance, administrative salaries, taxes, etc.
Variable costs are the costs that change based on the volume of production. The variable costs change as a result of change in the quantity of the activity base. Examples of variable costs include direct labor and raw materials. When the level or volume of production changes, the variable costs change as a result.
When the volume of production changes, the changes of fixed and variable costs may change for both total costs and per-unit costs.
The following is the summary of how the changes occur.
Changes in Variable costs
• When volume increases, the variable per-unit costs do not change
• When volume increases, the variable total costs increases
• When the volume decreases, the variable per-unit costs do not change
• When the volume decreases, the variable total costs decreases
Changes in Fixed Costs
• When volume increases, the fixed per-unit costs decreases
• When volume increases, the fixed total costs do not change
• When the volume decreases, the fixed per-unit costs increases
• When the volume decreases, the fixed total costs do not change