Cost, Profit and Cost Function - Essay Example

?Accounting Table of Contents Presentation 5 3 Introduction 3 Cost, Profit and Cost Function 3 Conclusion 4 Presentation 6 5 Introduction 5 Effect onProfits Changes in Volume, Costs and Prices 5 Conclusion 6 References 7 Presentation 5 Introduction The management of the company Bond Ltd. did not have adequate information regarding cost, profit and the various nuances of cost of the company, the profit and also cost functions. So in order to give them a complete understanding of the various methods of determining the cost function, relationship between cost and profit have been discusses, the basic concepts of cost function has been explained and then the methods for determining cost function has been evaluated. Cost, Profit and Cost Function There are many factors that are included in profit planning, such as cost, profitability and volume. Here the focus would be only on cost and profit. Cost is inversely proportional to profit, that means lower the cost, higher the profit (Jayapandian 2008, 393). The revenue curve is controlled by the customers, while the organization can only control the cost curve. The fluctuations in the variable cost changes the slope of the cost curve, but the increase of fixed cost may totally wipe out the profits of the company. Variable cost has high frequency of fluctuation than fixed costs. When the cost of the company equals its generated income, then it is termed as breakeven point. The margin above this point is the profit of the company (Kolitz, Quinn, and McAllister 2009, 301-303). Cost functions are nothing but economic formula that replicates the functions of the output and input prices. In a layman’s language we can say that it simply involves finding the cost of materials for production of a particular quantity of goods. Cost function is actually a mathematical explanation which estimates the changes in cost with the levels of change related to such cost. For example: actives involved in preparing the operating machines and production runs. Cost function can be explained through graphical representation in which measurement of activity levels, such as machine hours required or the total amount of goods produced in the given time can be assessed (Horngren 1967, 308). There are various methods of calculating cost function, such as engineering, visual fit, regression, and account analysis. The engineering analysis is past experienced based review of cost in a systematic manner. Visual fit as the name suggest is a representation of data in a scatter diagram. Regression analysis includes mathematical formula to ascertain the cost equation that fits the data best. High low method utilizes linear algebra for the determination of fixed and variable costs, but the results are not reliable. Lastly, account analysis deals with analyzing the accounting records and determining the behavioral patterns (Whittington and Delaney 2007, 398-399). Conclusion Cost and profit go hand in hand. Cost of the company needs to be reduced to increase profit. Cost functions include functions like planning and controlling the various activities of the organization and accurately estimates the projected fixed and variable cost. There are various methods that are utilized to estimate the cost function such as regression method, engineering method, account method, visual fit method, high-low method, etc. The usage of each of these methods depends on the data available and the type of analysis required by the manager. Presentation 6 Introduction In this presentation the relationship between volume, costs and price would be explained so as to show the effect of changes in each element on the other. Bond & ltd. wanted to project the changes in profit figures due to fluctuations in volume and cost. So in this presentation an explanation of all these terms would be sated for the management to understand the concepts carefully. Cost, profit and volume can be represented graphically and also in the form of equation. Graphical representation is easier for managers to understand, as they can easily understand the operating profit or loss by evaluating the different levels of sales. It is also sometimes called the break-even chart (Warren, Reeve, and Duchac 2008, 874). Effect on Profits Changes in Volume, Costs and Prices The cost volume and profit analysis is a very significant tool for the managers as it is simple and focuses mainly on the business factors. Managers calculate future cost, revenue and profit for planning and monitoring the operations. The cost-volume-profit analysis is used to identify the different levels of activities in operations, so as to avoid losses and achieve the targeted profits, make projections regarding future operations and also monitor the performance of the organization. The managers also utilize the cost volume and price analysis to assess the operational risk, by choosing an appropriate cost structure (Shim, and Siegel 1998, 55). Let us consider the basic equation of profit: Profit=Revenue-Cost If we segregate the cost into variable cost and fixed cost, we can express profit as: Profit=revenue-fixed cost-variable cost Managers conduct a break-even analysis because they want to measure the level of activities required to attain the breakeven. The breakeven point is the level at which the revenue levels the fixed and variable cost. Here the profit is zero (Khan, and Jain 2000, 13.4). The cost volume price analysis also helps in computing the target of income from sales. The limitation of this analysis is that it can be utilized for short-run and marginal analysis. The assumptions in this case are that the revenue and the variable cost are constant. This is helpful for small deviations from the present production and the sales. For a long-term analysis activity based costing is appropriate. There are many ways to measure the financial health of a company with respect to its sales figures. The cost volume price model is simply a financial model that considers sales volume as its major cost driver (Khan, and Jain 2008, 12.2). Conclusion Cost-volume-profit model is also described as the CVP model. It is a financial representation that demonstrates how alteration in sales volume, costs and prices will influence profits. CVP study is used for forecasting, planning, and for decision-making functions. A CVP model is used to estimate a break even sales volume. CVP analysis is also used to understand the sales volume essential to achieve a particular target profit. References Horngren, Charles. T. 1967. Cost Accounting: A Managerial Emphasis. 2nd ed. New Delhi: Pearson Education India Jayapandian, S., 2008. Accounting for Managers. 2nd ed. New Delhi: Ane Books Pvt Ltd. Khan, M. Y., and P. K. Jain. 2000. Cost Accounting. New Delhi: Tata McGraw-Hill Education. Khan, M. Y., and P. K. Jain. 2008. Cost Accounting and Financial Management for CA Professional Competence Examination. 3rd ed. New Delhi: Tata McGraw-Hill Education. Kolitz, D. L., A. B. Quinn, and G. A. McAllister. 2009. A Concepts-Based Introduction to Financial Accounting. 4th ed. Lansdowne: Juta and Company Ltd. Shim, Jae K., and Joel Siegel. 1998. Schaum's Outline of Managerial Accounting. 2nd ed. New York: McGraw-Hill Professional. Warren, Carl S., James M. Reeve, and Jonathan Duchac. 2008. Financial and Managerial Accounting. 10th ed. Connecticut: Cengage Learning. Whittington, O. Ray., and Patrick R. Delaney. 2007. Wiley CPA Exam Review 2008: Business Environment and Concepts. 5th ed. New Jersey: John Wiley and Sons. Read More