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b. The margin of safety (See text Exhibit 9.13 p. 369) is the amount that sales can fall before
reaching the break–even point and, thus, provides a certain amount of “cushion” from losses.
c. The following formulas are applicable:
i. Margin of safety in units = Actual units – Break-even units
ii. Margin of safety in $ = Actual sales $ – Break-even sales $
2. Operating Leverage (See text Exhibits 9.14 p. 370 and 9.15 p. 371)
a. Operating leverage is the proportionate relationship between a company’s variable and fixed
costs.
b. Low operating leverage and a relatively low break-even point are found in companies that are
highly labor-intensive, experience high variable costs, and have low fixed costs.
c. High operating leverage and a relatively high break-even point are found in companies that
have low variable costs and high fixed costs.
i. Companies will face this type of cost structure and become more dependent on volume
d. The degree of operating leverage is a factor that indicates how a percentage change in
sales, from the existing or current level, will affect company profits; it is calculated as
contribution margin divided by net income; it is equal to (1 ÷ margin of safety percentage).
The calculation providing the degree of operating leverage factor is:
Degree of operating leverage = Contribution margin ÷ Profit before tax
Chapter 09: Break-Even Point and Cost-Volume-Profit Analysis IM 11
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iii. When the margin of safety is small, the degree of operating leverage is large:
LO.6: What are the underlying assumptions of CVP analysis?
G. Underlying Assumptions of CVP Analysis
costs, fixed costs, volume, and profits.
2. CVP is useful as a planning tool that can provide information about the impact on profits when
b. CVP is a tool that focuses on the short run partially because of the assumptions that underlie
the calculations.
3. The underlying assumptions are as follows:
a. the revenue and cost behavior patterns are constant per unit and linear within the relevant
range;
output;
d. mixed costs can be accurately separated into their fixed and variable elements;
different rates each year;
f. in a multiproduct firm, the sales mix will remain constant. If this assumption were not made,
no useful weighted average contribution margin could be calculated for the company; and
invalidating the first three assumptions.
4. Accountants have generally assumed that cost behavior, once classified, remains constant as
long as operations remain within the relevant range.
specifying drivers of costs.
Chapter 09: Break-Even Point and Cost-Volume-Profit Analysis IM 12
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publicly accessible website, in whole or in part.
ii. As production and sales volumes are less often viewed as cost drivers, companies will
begin to recognize that a “fixed cost” exists only in a short-term perspective and therefore
cost drivers for long-term variable costs must be specified in break-even and CVP
analyses.
iii. The CVP model will need to be expanded to include these additional drivers, and more
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7. (LO.3) A calculation used in a CVP analysis determines the break-even point. Once the break–
c. fixed costs per unit for each additional unit sold.
8. (LO.3) A company sells a product for $9.00 which has a variable manufacturing cost of $3.00 per
sales will be required?
a. $257,625
9. (LO.3) X Company sold a product last year that had a $5.00 unit contribution margin. A
significant change in the company’s production technology has caused a 10% increase in annual
a. 60%
b. 50%
c. 40%
10. (LO.3) A significant change in Y Company’s production technology caused its total fixed costs of
$6,708,716 to increase by 9%. However, the change caused a 20% unit cost decrease in direct
point?
a. 22,500 units
11. (LO.4) One Company sells two products, A and B. A has a unit contribution margin of $40 while
a. ($40 + $25) / 2
b. ($40 x 40,000) + ($25 x 60,000)
c. ($40 x 0.4) + ($25 x 0.6)
d. None of the above
12. (LO.5) For a profitable company, the amount by which sales can decline before losses occur is
known as the:
a. sales volume variance.
b. hurdle rate.
c. marginal income rate.
d. margin of safety.
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13. (LO.5) V Company sold 10,000 units of its product for $100 per unit. It’s unit variable costs are
degree of operating leverage?
a. 4.00
14. (LO.6) Which of the following is not an assumption of CVP analysis?
c. Sales exceed production.
d. Labor productivity and market conditions will not change.
15. (LO.6) Select the incorrect statement from the following.
a. If changes occur in selling price or cost, new computations must be made for break-even and
CVP analysis.
volume.
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Multiple Choice Solutions
1. c
2. d
3. a
4. d
5. a (CMA Adapted)
$6,600,000 / ($200 / $800) = $26,400,000
6. c (CMA Adapted)
Coming Year
Units sold 19,250
Unit Breakeven
100.00% Sales $ 9.00 $ 173,250
33.33% Variable costs (3.00) (57,750)
7. a (CMA Adapted)
8. b (CMA Adapted)
Coming Year
Units sold 26,250
Unit Projected
100.00% Sales $ 9.00 $ 236,250
9. a
10. a
Chapter 09: Break-Even Point and Cost-Volume-Profit Analysis IM 17
11. c