Importance of understanding cost changes
Introduction
Introduction
The report outlines the importance of having a good understanding of the cost changes. The two commonly used methods used to derive the cost function are the econometric method and accounting method. The report gives details on how the CVP analysis technique has been used to get prices of diverse range of products and services. The CVP analysis is based on certain assumptions which are extensively covered in the report. This report is intended to help in improving the efficiency of carrying out operations in both small and large business organisations.
Different methods were used in collecting data for the study. The methods were chose depending on its mode of data collection, suitability and cost efficiency. The approach assisted in the data collection process to acquire the most appropriate method to conduct the research. The entire report is based on process of administering questionnaires, interviews, recording, observation and taking of small notes.
Results
Issue 3
Part A
For efficient running of Gouna, Andy Birk has to be able to properly understand the cost changes on the prices of items sold or services offered. This will help him in controlling the number of items purchased and the current stock balance of a given or particular financial period. The knowledge of understanding the cost changes would enable Andy Birk to effectively plan for the amount of goods that should be purchased. It is also very useful in calculating the Gouna Company’s break-even point (Anderson & Leese, 2016). Therefore it is prudent to state that it would foster for financial stability of Gouna Company.
Part B
The analysis is attributed to a variety of challenges that affect the accuracy of the financial position of the company. It was not possible for Gouna Company to obtain very accurate due to lack of cooperation from the respondents. The respondents made it difficult to gather the information. Some of the people did not fill in the questionnaires appropriately (Hoque, 2012). The use of questionnaire does not give accurate information necessary for the report due to the fact that some of the respondents do not give an honest opinion on the Gouna’s financial position. In other instances, the respondents do not have full knowledge of the CVP method therefore giving misleading information. It is not easy to get an appointment to interview some of the managers in the in Gouna Company where CVP is applied. This is because of their tight schedules. It is very expensive and tiresome to conduct the study as it involves travelling from one place to another in order to collect data.
Issue 4
Part A
Gouna Company uses varied methods in establishing the prices of the items that they are trading on. The financial authority of Gouna Company has the mandate of identifying the most suitable method of preparing its financial statement. According to recent research, it is evident that Gouna Company requires a stable and reliable financial system to be in a better position of creating true and fair financial position at a given fiscal year. Generally, there are three main methods which are applied by most business enterprises. The method comprises the accounting method, econometric method.
Accounting method
Accounting method is the method that is commonly used by the accountants. Using this method involves the organisation of data to determine the output relationship and grouping in the total cost into fixed cost, variable cost and semi-variable cost. These components are then obtained differently, the semi variable costs which are specified for a given magnitude of the output. The average variable cost and the fixed cost are determined on the basis of experience and inspection. The total cost, the average cost and the marginal cost for each given level are obtained by carrying out some arithmetic operations on the values. It is a bit complex for one to maintain a complete breakdown of cost over a given duration to reach the cost output relationship.
Econometric method
Under this method, the older data on cost and output are used to obtain the cost output relationship. Regression tactics are applied in this case to investigate the cost output relationship. The relationship of cost and output assist the management team in decision making process. The two variables can also be used to establish the productivity levels of the organization. The data might appear in the form of the time series for many companies. The cost function can be a short run or long run depending on the type of data being used. a firm whose capacity output has not changed much during the sample period is used In time series data. In this case, the cost function would be on a short run basis. Unlike the situation in which cross section of data of several firms with varying sizes, or the time series data of the company as a whole is used, the approximated cost function will be a long run. In order to determine the cost function, it can be carried out in three basic steps (Gean & Gean, 2015) . The procedure begins by finding the determinants of cost, and then the functional form of the cost function is specified. The functional form is chosen and then basic regression technique is applied to estimate the chosen functional form Cost volume product analysis commonly is applied in establishing how changes in cost volume affect the company's operating income and the net income. It can perform using a formula but before doing certain assumptions must be taken. These are; all costs are categorised as variable or fixed, the sales price per unit and total fixed cost are constant and all units are sold.
Formula
PX = vx +FC + profit
Where;
P is price per unit
v is the variable cost per unit
x is the total number of units produced and sold
FC is the total fixed cost
Part B
The use of fixed cost in a calculation of the CVP may pose great problems in the Gouna Company. It becomes very difficult to maintain a more stable stream of income relative to the incomes and the number of sales volumes of the organization. When one decides to spread fixed costs over larger production runs. It causes a decrease in the per unit fixed costs. It is assumed that in the break-even analysis all cost can be classified as fixed or variable cost but this is not true in the reality because the cost behaviour might not remain constant, it is also difficult to say the relevant range for our needed volume. The assumptions are taken while estimating the CVP can lead to underestimating a products cost while overstating its profitability, therefore, it is important to know whether the company is profitable as a whole, this is because the total variable cost goes up and down in direct proportion to units produced.
Discussion
Pricing of goods and has been one of the major challenges that is faced most business personnel and companies. To reduce this kind of a headache, a method of analysis that can be conveniently used was formulated known as the Cost Volume Profit; this is a method of analysis that enables one to adequately and effectively control the prices of his goods and services. This method may not give a very accurate price of an item due to some reasons such as the errors incurred from the assumptions made. In spite of all these, the method is still able to give a price that is approximate to that trending in the market.
Conclusion
In the study, it is clearly evident that for one to achieve any given amount of success in a business, he or she should have a good understanding of the cost behaviour of the products and services. It would enhance the organizations planning for the stocked goods and the amount of money required to purchase the items. Through proper planning one is able to solve the problem of a deficit that may be experienced while doing the sales. The knowledge of the cost behave also enables one to actualize good control of the business activities, address fluctuations in commodity prices. In the pricing of the products and services, the use of cost volume profit (CVP) in the pricing of the goods and services has been applauded. It is attributed to its capacity to incorporate it in the organization’s operation. In addition, its effectiveness with which it estimates the price of a given commodity. The CVP analysis can be carried out in three major ways hence on can just decide on which method to use depending on his understanding an ease to use it. In the pricing of the products and services, the use of cost volume profit (CVP) in the pricing of the goods and services has been applauded. It is attributed to its capacity to incorporate it in the organization’s operation.
Bibliography
Anderson, J. A., & Leese, W. R. (2016). A Formula For The Units To Satisfy An Operation's Desired Rate Of Return In CVP Analysis-A Conceptual Approach. American Journal of Business Education (Online), 9(2), 87. Retrieve from: http://search.proquest.com/openview/877052669c70991dd51c6c5833ca3cea/1?pq-origsite=gscholar&cbl=2026882
Gean, F., & Gean, V. (2015). The Desirability of an Integrated Learning Methodology for Enriching Cvp Analysis. Journal of Business and Accounting, 8(1), 127. Retrieve from: http://search.proquest.com/openview/00247f0264bd10c4031456010283c8f4/1?pq-origsite=gscholar
Hoque, Z. (2012). Cost-volume-profit (CVP) analysis. Handbook of cost & management accounting, 19-24.Retrived from: https://books.google.co.ke/books?hl=en&lr=&id=-Wh0PQv0iYUC&oi=fnd&pg=PA19&dq=Hoque,+Z.+%282012%29.+Cost-volume-profit+%28CVP%29+analysis.+Handbook+of+cost+%26+management+accounting,+19-24.&ots=zCOAZg-SF1&sig=7-oIHnv1BG5gVVyV2uPaLn5FVME&redir_esc=y#v=onepage&q&f=false
van der Werff, E., & Steg, L. (2015). One model to predict them all: predicting energy behaviours with the norm activation model. Energy Research & Social Science, 6, 8-14.Retrived from: http://www.sciencedirect.com/science/article/pii/S2214629614001212
