COST-VOLUME-PROFIT ANALYSIS AS A MANAGEMENT TOOL FOR DECISION MAKING
1.1 BACKGROUND OF THE STUDY:
Orjih (2001), defined cost-volume-profit analysis as “specific way of presenting and studying the inter-relationship between costs, volumes and profits”. According to him, it provides information to management in a most lucid and precise manner. It establishes a relationship between revenues and costs with respect to volumes. It indicates the level of sales at which costs and revenue are in equilibrium. This equilibrium point is commonly known as Break even point. The break-even point is the point of sales volume at which total revenues is equal to total costs. It is a point of zero profit.
According to Brown et al (1997), “some industries today are encountering problems raised by expansion through increased sales and the introduction of new products. Many on the other hand are facing problem of contraction due to the introduction of substitute materials, products or reduced demand for their products. Whichever is the case, it is vitally important that management should be in a clear position to plan for these changing levels of activity”.
Apart from the problem of contraction and expansion, during the period of economic depression, a business may be faced with the alternative of closing down or selling its products at a price below the total cost. Also profit planning and control is made more difficult by the changes in the general pattern of demand for the type of products offered and the action of competitors.
In order to solve the problem created by the above situations, profit planning, cost control and decision making require an understanding of the characteristics of costs and their behaviour at different operating levels. One of the most important tools developed by accountants to assist management in meeting these challenges is cost-volume-profit analysis.
1.2 STATEMENT OF THE PROBLEM:
This study entitled “cost-volume-profit analysis as a management tool for decision making” goes to suggest how the application of cost-volume-profit analysis has helped managers in making decisions of the firm to ensure its growth and survival.
The challenges facing management are enormous particularly during this period of economic depression and they are as follows:
- Management is faced with the problem of how to make use of the available scarce resources in order to achieve the objective of profit maximization.
- Advanced state of competition and rivalry where only the fittest enterprises survive.
- Shortage of funds to buy the needed raw materials.
- Low capacity utilization.