CostVolumeProfit Relationships

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Cost/Volume/ProfitRelationships

• HRT 276 Chapter 3

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Thanks to

• The information in this presentation comes from
  Chapter 3
• Principles of Food, Beverage, and Labor Cost
  Controls
• By Paul R. Dittmer
• 7th Edition. 2003. New York John Wiley Sons

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Introduction

• Cost/Volume/Profit Relationships
• An understanding of these relationships is the
  KEY to fully comprehending cost control in F B
  operations
• Good is a relative term (so is favorable)
• Good relationships do not guarantee profit
• Higher and lower cost percentages are relative to
  the type, or specific, operation
• It Depends!

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Introduction

• The ratio of total costs to total sales cannot
  exceed 100 if profit is expected
• Think about the Cost over Sales formula
• 1/1 or 11 Ratio equates to zero profit

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Cost/Volume/Profit Equation

• There is a literal and figurative relationship
  between all sales, all costs, and profit
  potential
• Mathematically
• Sales COGS Labor Cost Overhead Cost
  Profit
• Sales Variable Cost Fixed Cost Profit
  this is the basic C/V/P Equation
• S VC FC P is used to abbreviate the basic
  equation

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Cost/Volume/Profit

• Keep in mind
• Normally, there is a relationship between
  variable costs and sales that remains constant
  (dollars change percents do not)
• Normally, fixed costs remain constant in dollars
  (but percentages change as sales change)
• Once acceptable levels are determined for costs,
  the costs must be controlled in order to achieve
  profit

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Variable Rate Contribution Rate

• VARIABLE RATE is the ratio of variable cost to
  dollar sales
• Variable Rate Variable Cost / Sales
• Or VR VC/S
• It is like the basic cost formula
• Variable rate is expressed in decimal form (think
  portion of a dollar)
• Variable cost is the variable rate expressed as a
  
• A variable rate of 0.36 is the same as 0.36 of a
  dollar or, for example, 36 food cost

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Variable Rate Contribution Rate

• CONTRIBUTION RATE is an expression of the
  difference between 1.00 and the variable rate
• CR 1 - VR
• For example 1.00 0.36 (VR) 0.64 (CR)
• Contribution rate may be equated to gross
  profit but it is NOT profit
• It is a way to express what remains after
  covering the variable costs
• It is what will help cover overhead (fixed) costs
• If something is left after fixed costs, profit is
  realized

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Break-Even Point

• BREAK-EVEN POINT the point when dollar sales are
  exactly enough to cover variable and fixed costs,
  but no profit is realized
• BE Break-Even Point
• BE occurs when sales costs
• In our Cost over Sales equation, it is the 1/1
  or 11 ratio
• Normally, it is expressed in dollars (sales
  dollars)
• Why will one more dollar in sales mean profit?

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Cost/Volume/Profit Calculations

• Other Formulae
• Sales (Fixed Costs Profit)/ Contribution Rate
• or S (FCP)/CR
• Use to determine the sales required to achieve a
  stated level of profit
• To determine BE, let P 0
• This will generate the sales dollars required to
  break-even

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Cost/Volume/Profit Calculations

• Other Formulae
• Variable Cost Sales x Variable Rate
• or VC S x VR
• Used to determine the portion of dollar sales
  that will remain after BE, that will not be
  profit
• Profit Sales x Contribution Rate
• or P S x VR
• Another version P Sales above BE sales x CR
• This will calculate the portion of dollar sales
  that will remain after BE, that will be profit

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Contribution Margin

• CONTRIBUTION RATE is an expression of the
  difference between 1.00 and the variable rate
  (CR decimal form)
• CONTRIBUTION MARGIN is an expression of the
  dollar amount remaining after variable costs from
  sales dollars (CM dollar form)

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Contribution Margin

• Think of each sales dollar divided into cents
• The amount needed to cover the variable cost of
  the item sold (VC)
• The amount that remains to cover fixed costs and
  provide profit (CM)
• In item terms
• Contribution Margin CM
• CM Selling Price Variable Cost of the Item
• CM is sometimes called gross margin or gross
  profit on sales

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Final Thoughts

• Understanding C/V/P relationship is key
• When CR or CR is ?, sales volume must ? to
  achieve the desired level of profit
• The opposite is true, on paper, as well
• Is more sales volume possible?
• There are only two ways to build sales!