1. Underlying Assumptions of CVP Analysis
CVP analysis studies how changes in costs, volume, and prices affect a company’s total profits. It operates under several key assumptions:
- All costs can be cleanly split into either fixed or variable categories.
- Selling price per unit remains constant regardless of sales volume.
- Efficiency and productivity levels do not change.
- Inventories do not fluctuate; the number of units produced equals the number of units sold.
2. The Concept of Contribution Margin
Contribution margin is a core concept in marginal costing. It shows how much money from each sale is available to help cover the company’s fixed costs. Once fixed costs are fully covered, any remaining contribution goes directly toward net profit.
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Contribution per Unit = Selling Price per Unit − Variable Cost per Unit
Total Contribution = Total Revenue − Total Variable Costs
Total Contribution = Total Revenue − Total Variable Costs
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3. Contribution Margin Ratio (C/S Ratio)
The Contribution-to-Sales (C/S) ratio shows contribution as a percentage of revenue, making it easy to measure profit trends across different product lines.
C/S Ratio = (Contribution per Unit ÷ Selling Price per Unit) × 100
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