The CVP analysis is a methodology used by the management to measure the future performance volume of an organization ( Drury, 2013) . The process also determines the costs to be incurred in the production as well as sale made to generate profit ( Drury, 2013) . In most cases, CVP analysis included numeric calculations and equations that determine how future returns are affected by total costs and volume of sales ( Drury, 2013) . The analysis is usually related to managerial accounting conducted before the production period so as to assess the cost of raw materials and other costs related to the manufacturing department. Budgeting is needed to have figures to use when conducting the CVP analysis and decide the breakeven point of the company ( Drury, 2013) . Cost volume profit analysis can present in a graph as illustrated below.
Case study: Swiss Chocolate Manufacturing Company
After conducting a CVP analysis for the Swiss Chocolate Company, the results indicate a positive margin of safety for the upcoming production period. Steve Smith, the company analyst, presents a report stating that the company will not achieve its sales volume target. That means the company will not make the enough sales to generate enough profit and hit the annual target. As a result, Rick with the authority of the business vice president has been advised to make suggestions on the how the company might save on costs to attain maximum profit. Rick’s obligation is to inform the company on how different types of costs affect the analysis. He will also make suggestions on the company can save on costs as well as how the various parts of supply chain shall be affected.
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CVP analysis has two classifications of cost Gean & Gean, 2015) . They include Variable as well as fixed costs. For the fixed costs, they rarely fluctuate within a production period ( Gean & Gean, 2015) . Once they have set at the beginning of the year, they tend to stay fixed throughout the year. A perfect example of such costs is rent paid to lease the production unit premises Gean & Gean, 2015) . It remains fixed throughout the period no matter the changes that occur in the volume of production. On the other hand, variable costs change from time to time as the volume of output units increase or decrease Gean & Gean, 2015) . These costs include but not limited to labor and cost for raw materials. Indeed, the high the volume of outputs, the higher the variable costs.
In the case of Swiss Chocolate Company, the degree of leverage is said to be high and a number of sales low. That means the company will have high fixed costs compared to the variable costs Gean & Gean, 2015) . According to Rick, this situation is posing a high risk of the firm. If Swiss Chocolate experiences an error in the forecast, it will lead to a huge difference between the figures in the budget and the actual cash flow. That will affect the ability of the company to perform better in future Gean & Gean, 2015) . Therefore, Swiss Chocolate Limited should try and reduce the fixed costs and increase number of sales to control the risk. It is advisable for the company to operate on low leverage since there is a lower risk of the company collapsing in case of an error occurring in the forecasted budget.
Rick White when asked suggest on which costs to reduce, he must consider the different types of fixed costs incurred by the company Gean & Gean, 2015) . In that case, depreciation, salaries, and utility costs are the ones to reduce in this situation. Reason being, these are the most likely adjustable fixed costs without depending on other external factors. Swiss Company should cut off a portion of the salaries paid to workers or else reduce the number of employees Gean & Gean, 2015) . Additionally, the depreciation cost can be adjusted accordingly to avoid high expenses incurred on depreciation. Contrary to that, some of the fixed costs like rent and interest expenses cannot be easily changed since they primary depend on the other factors like the owner of the premises decision ( Gean& Gean, 2015) . Therefore, allocating the deducted costs to variable costs will increase the volume of sales hence raising the profit margin.
According to Michael Porter’s analogy of value chain, the primary activities part of Swiss Company will be affected. That is because sections under this part of the value chain will be impacted by Rick’s decision of reducing fixed costs. For example, the operating and cost of services will change. Supporting activities part in the value chain will also be slightly affected by the decision since the human resource section will be affected by the reduction of salaries. The procurement section will also be included when increasing the cost of raw materials to lower the operating leverage ( Miller & Mork, 2013) . Swiss Chocolate Company shall be entitled to some benefits in future after cutting the fixed costs. These future results include reduced expenses of production hence increasing the revenue gained from a single unit of output. Secondly, the company will increase its profitability ratio in future. That will lead to the third impact of raising its credibility. With such a trend, the company is expected to record a developmental growth as more investors desire to key in their finances.
References
Drury, C. M. (2013). Management and cost accounting . Springer.
Gean, F., & Gean, V. (2015). The Desirability of an Integrated Learning Methodology for Enriching CVP Analysis. Journal of Business and Accounting , 8 (1), 127.
Miller, H. G., & Mork, P. (2013). From data to decisions: a value chain for big data. IT Professional , 15 (1), 57-59.
