A Comparative Study on the Application of Cost Volume Profit Analysis in Management Decisions of Manufacturing Organizations: A Study of Chikason Groundnut Oil Company and 7up Bottling Company

ABSTRACT

The study examined the Application of Cost Volume Profit Analysis in Management Decisions of Manufacturing Organization. Adopting a comparative survey design, primary source of data using questionnaire as instrument of data collection, sample size of 255 derived from population size of 700 using Taro Yamane formula and a regression method of data analysis; the findings of the study showed that cost volume profit analysis is essential in managerial decision of an organization. Findings also showed that unit variable cost, marginal cost, unit per sale and total revenue affect manufacturing organization and for such manufacturing firms applies the knowledge of cost volume profit analysis in their managerial decision. Therefore, the study recommends that Manufacturing organizations should effectively analysis the cost volume profit before embarking on any managerial decision. Managers of manufacturing organization should always implement results obtained from their cost volumes analysis in order to ensure that the firm do not lose in their level of profit making and manufacturing organizations in their cost volume analysis should make sure that all their chains of production is effectively analysed to ascertain where improvement is needed when embarking on managerial decision.

  CHAPTER ONE

INTRODUCTION

1.1  Background of the Study

Cost–Volume–Profit (C–V–P) analysis is the analysis of the cost evolution models, which points out the relations between cost, production volume and profit. Cost-Volume-Profit (CVP) analysis from the accounting profession perception, is a managerial accounting technique that is concerned with the effect of sales volume and product costs on operating profit of a business.  According to Hilton, (2000:312),cost-volume-profit (CVP) analysis focuses on the number of units sold as the sole cost and revenue driver. In other words, sales revenue is assumed to be linear in terms of quantity of the units sold.

Conceptually, conventional linear cost-volume-profit (CVP) analysis is a simplified, short term planning technique that evolved as a practical version of the theoretical model of a firm (Marshall, A. 1890). From an accounting perspective it is compatible with the direct, or variable costing method of inventory valuation. To use the CVP model, a company must separate total costs into fixed and variable categories. The only activities that are allowed to affect variable costs in traditional cost-volume-profit analysis are production output and sales. Accordingly, fixed costs are those costs that do not vary with changes in the activity level. Hence, fixed costs are not constant. By definition, fixed simply means that these costs are not driven by short run changes in production or sales volume. Although explicit recognition of non-production volume related cost drivers is a key concept in activity based costing, the idea is ignored in the conventional linear CVP model.It is important to recognize that the concept of fixed and variable costs is a short run concept. All costs tend to vary in the long run as the company adds to its’ capacity to produce and distribute products and services.

In a traditional Cost volume Profit analysis, costs are sharply categorized as fixed or variable with respect to the number of units sold. Therefore, under traditional Cost volume Profit analysis, variable costs increase only as the number of units sold increases. The Cost–Volume–Profit analysis is useful in forecasting as well as in managerial control.

This cost volume profit analysis which a financial model is a  good  simplified representation of the critical factors in a projected course of action facilitating exploration, prediction and control of the financial repercussion of organizations decisions. Thus, it allows an organization to test the interaction of economic variables in a variety of settings. It requires analysts to develop a set of equations that represent a company’s operating and financial relationships such as, the relationship of variable costs to sales, inventory turnover ratios, and the relative proportion of various products sold. An analyst can construct an appropriate financial model and in a matter of seconds, predict the outcome of various scenarios. It therefore has the advantage that allows an organization to study the impact of a possible business action by reviewing the potential results before that action really occurs (Hilton, Mahar and Selto, 2000). It is important to state that the Cost Volume Profit model is not restricted to profit seeking enterprises because the word profit  it also apply to non-profit  making organization  (Adeniyi, 2004).  But for the purpose of this study, it will be looking at only profit making organization and how cost volume profit analysis it have been of benefit to profit making firms .

Cost volume analysis helps managers in making decisions in such areas like pricing, profit planning, setting standard cost, capital investment decisions, marketing decisions, cost management decisions and others. One of the responsibilities of managers is to pass decisions on various issues concerning their organizations. Decision-making is a process whereby managers respond to opportunities and threats. In this process managers analyse alternatives to deal with opportunities and threats and finally pass decisions about goals and strategies. Managerial decision- making relies heavily on the availability of relevant, reliable and timely information which is also made possible by cost volume analysis of the organization. To this end, managers depend on the company’s management information system to obtain relevant, reliable and timely information needed to base decisions. The accounting information system is a sub-system of the overall management information system that generates information to be used in a managerial decision making. The system provides management with quantitative and non-quantitative data and information which can advantageously be used by management in making decisions. One of the many reports that can be generated from a management accounting system and that would be supplied for management to aid managerial decision-making and control is cost analysis report.

Cost analysis is defined as the allocation of costs to provide estimates of what a programme’s costs and benefits are likely to be, before it is implemented. Cost analysis is vital for managerial decision making in various organizations – profit-oriented and non-profit organizations. In profit-oriented organizations, cost and cost analysis reports are useful in various management decision making areas: product costing and pricing, cost management, special (tactical) decisions, profit planning, capital investment decisions, standard setting, product/ customer profitability. In non-profit organizations cost analysis also provides useful input for cost-sharing decision, cost management (containment), cost-recovery pricing decisions, etc. In such organizations cost analysis is part of good programme budgeting and accounting practices, which allow managers to determine accurate cost of providing a given unit of service (Kettner, Moroney, and Martin, 1990).

1.2 Statement of the Problem

In many manufacturing corporations, finding the right structure to support their decision making and execution of the company targets is a great challenge (Bartlett &Ghoshal, 1990). The complexity of the businesses causes great challenges for decision‐making and structures of corporations. The complexity in business leads to complex structures, which may result in role ambiguity and lack of accountability in decision‐making. Matrix structures are often burdened by these challenges (e.g. Sy& D’Annunzio, 2005). Since
manymanufacturing
corporations
 are dealing
 with increasingly
 complex
 and
 competitive
 business
environments
and
need
toleverage
vast
amount
of
resources
with
the
lightest
possible
personnel.
The best possible means of taking appropriate decision often times becomes a great problem if the cost of production is not properly  analysed since
organizational
structures
are
relevant challenges
 for
 all multinational
manufacturing  corporations (Sy
&
 D’Annunzio,
 2005).
Moreover
 according
 to  various
scholars (Salonen,2011);
Oliva
&
Kallenberg,(2003);
 Galbraith
 (2002)  the
 commoditization
 and
 declining
 margins
 of
 the
 manufacturing
business
is a problem which is adding
pressure
to
many
of
the
multinational
manufacturing
 companies
to
develop
service
transition
strategies.
These
strategies
are
developed
to
support
the
weakening
core
manufacturing
business
in order  to
 sustain
 competitive advantage of the firm (Salonen,
 2011).
 All
 in
 all, the global
 competitive
environment
is a challenge to manufacturing organization which isforcing
companies
to
make
most
out
of
scarce
resources
and
to
be
able
toadapt
fast
to
new
circumstances around them. In
today’s
world
flexibility
and
ability
to
be
responsive
to
changes
have-become
ever
 more
important (Galbraith,
2002).

According
to
Sy
&
D’
Annunzio
(2005), the
small
and
 task
oriented
units of manufacturing, need
to
be
leveraged
to
increase
the
efficiency
of
the
organization. In a case where  multinational
 manufacturing
 company , has adapted cross functional
 organizational
 structure
 and
 is
 managing
 its
 businesses in
 a
 matrix
 organization 
as
projects to
increase
efficiency.
However ,the
complexity
of
the
matrix
structure
 is
 currently
 causing
 challenges
 resulting
 in
 role
 ambiguity,
 lack
 of
 accountability,
silo
focus and lack of adequate profit margin.
In addition to
requirements
for
flexibility ,an 
organization
is
under
strategic
transformation.
Successful
transformation
 requires
re‐evaluation
of
 the
current
corporate
structure,
decision making
culture

processes which  is made much easier when a company analyses it manufacturing cost through volume cost profit analysis process. Due to this challenges which has become a serious problem in manufacturing sectors, this study will examine  the  comparative  study of volume cost profit analysis  in management  decisions of manufacturing  organization.

1.3 Objectives of the Study

In order to give direction and meaning to this study, the main objective of this study will be to investigate the application of cost volume  profit analysis in management decisions of manufacturing organization. Other specific objectives are to examine

1. The extent total cost analysis of a firm affect/ helps in a firms  management decision.
2. The extent Unit variable cost affects manufacturing organization managerial decision.
3. The extent marginal cost affects profit of manufacturing organization and their managerial decision.
4. How total revenue of manufacturing organization affect its managerial decisions.

1.4 Research Question

The following research questions posed will be examined in the study.

1. What extent do total cost analysis help a firm in its managerial decision?
2. What extent does Unit variable cost affects manufacturing organization managerial decision?
3. To what extent have marginal cost affect the profit of a manufacturing organization and their managerial decisions?
4. How does total revenue generated by manufacturing organization affect its managerial decisions?

1.5 Research Hypotheses

The following hypothesis designed will be used to test the   findings of the study as follows.

H_01:  Total cost analysis does not significantly affect managerial decision of an organization.

H_02: Unit variable cost of a manufacturing organization does not significantly affect managerial decisions of the firm.

H_03: Marginal cost of a firm does not significantly affect profit and manufacturing organization managerial decisions.

H_04: Total revenue generated by manufacturing organization does not significantly affect managerial decision of the firm.

1.6 Significance Of The Study

The study is significant in that it will outline different factors that can influence effective managerial decisions. It will   examine how cost analysis, unit variable cost, marginal cost and total revenue generated by a firm affect the level of a firm’s managerial decision. The study will also highlight them various ways to analyses the variables of production and how effective the analysis of those variables are in  managerial decisions of a firm. The finding of the study will be of benefit to various manufacturing companies in their decision making policies and at the same time enable firms known the need of volume cost profit analysis. The study will also highlight some of the loophole of volume cost profit analysis and how to overcome these loopholes in other achieve effective cost of production and profit making margins of the firm. The study will also be of use to both profit making organization and non-profit making organization   for effective organization managerial decision. It will further serve as  a source of reference to follower researcher.

1. 7 Scope of The Study

The scope of the study will be covering a comparative application  of volume cost profit  organization. The study will also focus on   two quoted companies namely Dangote sugars and 7up Nigeria plc.  The scope will also be covering the  nature of volume cost  profit analysis of these   organization and the reasons for the nature of such analysis.

1.8 Definition of Term

• Activity-Based-Costing (ABC): This tracing cost of resources to activities and then to products and services based on the use of activities.
• Cost Behaviour: Cost behaviour considers how a given cost reacts in total to change in output of production. There are at least three different ways in which cost behave viz variable fixed and mixed.
• Break Even: The point at which total revenue equals total cost and the company makes no profit or loss.
• Cost-Volume-Profit Analysis (CVP) – This represents the application of marginal costing that seeks to study the relationship between cost, volume and profit.
• Fixed Cost: These are costs which do not change in total with changes in level of output. Example, interest, audit fees, rent.
• Variable Cost: These are costs that vary in line with output. They are referred to as activity based cost because of the level of activity undertaken.
• Sale Mix: The properties of unit of product sold in a multiple production company.

Contribution Margin: This is the difference between revenue (sales) and variable cost in total, as total reven

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