Management Accounting chapter 7

Financial model

Accurate, reliable simulation of relations among relevant costs, benefits, value and risk that are useful for supporting business decisions

Break-even point

Point in the volume of activity at which the organisation’s revenues and expenses are equal

CVP

Cost-volume-profit, a financial model in which only the driver of costs, revenues, and profits is the quantity of product or service produced and sold (prices, variable/throughput costs, quantities, and committed/fixed costs)

Operating leverage

Reflects risk of missing sales targets

High operating leverage

Indicative of high committed costs (e.g. interest), a relatively small change in sales can lead to a loss

Low operating leverage

Indicative of low committed costs (e.g. interest), more of the costs are variable in nature

WAUCM

Weighted Average Unit Contribution Margin is the average contribution margin from all production produced and sold at a given sales mix

Insight from activity-based costing:

Costs may be a function of multiple activities, not merely sales volume

Sensitivity analysis

An examination of the changes in outcomes caused by changes in each of a model’s parameters

Model elasticity

The ratio percentage change in outcome (profit) to the percentage change in an input parameter (>1 change has significant effect on profit) (<1 change has negligible effect on profit)

Scenario analysis

Realistic combination of changed parameters

Best case scenario

Realistic combination of highest prices and quantities along with the lowest costs

Most likely case scenario

Realistic combination of the most likely prices and quantities along with the most likely costs

Worst case scenario

Realistic combination of lowest prices and quantities along with the highest costs

Managing scarce resources

Contribution margin per unit should be maximised

Life cycle costing

Tracks costs attributable to each product or service from start to finish

Sales mix

Calculation that determines the proportion of each product a business sells relative to total sales

Price discrimination (illegal)

Quoting different prices to different customers for the same prodcut, with intent to harm competition

Predatory pricing (illegal)

Temporarily setting a price below cost to broaden demand and injure competition