COST PROFIT VOLUME ANALYSIS AS A CATALYST FOR MANAGEMENT PLANNING, CONTROL, AND DECSION MAKING OF MANUFACTURING COMPANY (CASE STUDY OF WAPCO CEMENT PLC, SAGAMU OGUN STATE).
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COST PROFIT
VOLUME ANALYSIS AS A CATALYST FOR MANAGEMENT PLANNING, CONTROL, AND DECSION
MAKING OF MANUFACTURING COMPANY (CASE STUDY OF WAPCO CEMENT PLC, SAGAMU OGUN
STATE).
CHAPTER ONE
INTRODUCTION
1.1. BACKGROUND TO THE STUDY
The success
of a business is generally attributable in great measure of the ability of its
management personal to cope with probable conditions of the future. Short range
as well as long-term plans must be made accomplished through sound management
evaluation and good decisions.
Management
has been defined as a process of planning, controlling, organizing, directing
and coordinating the affair of an organization. This process demand decision
making at every stage. Where there is a problem and choice of action not just
to the satisfactory of management but for the optimal goods of the firm. This optimal choice provides solution to the
problem. The data provided must be used in reaching or deciding an end. In
reaching this end, there is a powerful tool for planning and decision making
that is required which is cost volume profit analysis. Cost volume profit
analysis (CVPA) is a systematic method of examining the relationship between
change in activity and change in total sales revenue, expenses and net profit.
“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. Whenever is the case, it is vitally important that
management should be in a clear position to plan for these changing levels of
activity”, In order to solve the problem created by the above situation profit
planning, cost and decision making require an understanding of the characteristics
of costs and their behaviour at different operating levels. One of the most
important tools develop by accountants to assist management in meeting the
challenges is the cost volume-profit-analysis (C.V.P) otherwise known as the
behaviour analysis.
Cost volume
profit analysis is a management tool used when the problems of CVP implications
arise in the firm, the problem includes to make or buy decisions, product
appraisal, add or drop decisions product planning and promotional mix,
distribution channels and profit planning decisions.
Cost volume
profit analysis serves as an indispensable aspect of management decision making
because it enables Managers of this manufacturing companies to estimate future
revenues, costs, and profits to help them plan and monitor operations. They
also use cost-volume-profit (CVP) analysis to identify the levels of operating
activity needed to avoid losses, achieve targeted profits, plan future
operations, and monitor organizational performance. Managers also analyze operational
risk as they choose an appropriate cost structure.
The
researcher notices that, the output of a firm is restricted to the current
operating capacity in the short run. This input can be increase other cannot,
but it takes time to expand the capacity of plant and machinery. This output is
limited in the short run because plant facilities cannot be expanded which
enable a firm to take time to reduce it capacity. A firm must operate on a
relatively constant stock of production resources because most of the costs and
prices of a firm product will have already been determined, and the major area
of uncertainty will be the sale volume. The researcher also notices that,
profitability will therefore be most sensitive to sale volume in the short run.
Hence, cost volume profit analysis thus highlights the effects of changes in
sale volume on the level of profit in the short run. CVP Analysis is also one
of the tools that could be applied to identify organization targets of
opportunity or potential areas of weakness by matching the organization
breakeven.
Though
organizational management have a goal of maximizing their wealth, however,
given that no obvious, single course of action leads to fulfillment of that
goal, managers must choose a specific course of action and develop plans and
controls to pursue that course. Because planning is future oriented,
uncertainty exists and information helps reduce that uncertainty. Controlling
is making actual performance align with plans, and information is necessary in
that process. Much of the information manager’s use to plan and control reflects
relationships among product cost, selling prices, and sales volumes.
Research in
the field of CVP Analysis up-to-date, has been mainly preoccupied with the
accounting systems of large manufacturing and merchandizing companies, while
studies of organizations in the service sector was directed specifically at
non-profit organizations in the public sector, At this stage, there are few
empirical data and analyses on the reliance of CVP analysis in manufacturing
companies.
In all business
enterprise, the implementation of cost volume profit analysis is very important
and can never be over emphasized and to achieve this goal, target and
objectives, it is beckoned on the decision of the managers.
It is the
contention that the researcher therefore seeks to investigate the reliance of
cost volume profit analysis as an aid in effective management decision making
in a manufacturing industry.
1.2. STATEMENT OF THE PROBLEM
The major
problem encountered by manufacturing industries when cost-volume-profit
analysis stands as a basis for decision making is managerial inefficiency and
this includes ignorance of this concept i.e. inability of the management to
employ it in their decision making and also not knowing the importance of cost
volume-profit analysis .i.e. most manufacturing industries are not relevant in
their decision making process.
Secondly,
most manufacturing industries in Nigeria do not determine the extent to which
cost-volume profit analysis affect their various decisions.
Thirdly,
manufacturing industries are also faced with the problem of how to make use of
the available scare resources in order to achieve the objective of profit
maximization.
Fourthly,
another major problem manufacturing industries in Nigeriaencountered, is when
the application of cost volume-profit analysis techniques are meant to apply,
they don’t apply it in their enhancement of managerial efficiency of
manufacturing industries.
Despite
that, the information provided by the accountant in the company should be
sufficient for decision making to determine the estimate to produce. The
accountant/production manager must know the inflation rate with respect of the
company’s capital investments as regards the profitability structure of the
variable component that are being incurred. The problem now is whether the
company know what cost they are incurred in order for them to produce the
estimated value which they are setting for themselves. It would be difficult to
imagine any organization achieving and sustaining effectiveness without cost
volume profit analysis.
Finally, the
economy is not the same today as it has been in the past decade. The exchange
rate of naira to foreign currencies and the price fixed for manufacturing goods
and services greatly affect the profits to be made on the part of the
manufacturers. If prices are not well fixed compared with the sale needed and
cost incurred, it will pose a problem hence.
It is
against this backdrop that this research tends to argues that cost volume
profit analysis serves as effective tool in management decision making of
manufacturing companies.
1.3. OBJECTIVES OF THE STUDY
Profit
planning and control are essential ingredients or a successful management at
all levels. Infact the efficiency of management is ensured by the amount of
profits in a given accounting year.
The major
objective of this research work is to assess the extent of reliance on CVP
analysis for effective management decision making in manufacturing company.
Other
specific objectives of the study include:
Evaluate the usefulness of cost volume
profit analysis in planning, controlling and evaluating the objective of the
organization.
Assess the adoption of cost volume profit
analysis in management financial decision making.
Evaluate the financial decisions for
determining the profit of a particular product.
Determine the barriers affecting the
implementation of CVP analysis for management decision making.
Ascertain the effect of CVP analysis on the
financial performance of manufacturing industries.
Evaluate the extent to which the use of
cost-volume-profit technique has helped in achieving the profit maximization.
Analyze the basic assumptions of CVP
analysis to know their effect on firms especially those of the manufacturing
sector.
1.4. FORMULATION OF HYPOTHESIS
Hypothesis
is an assumption or a concession made for the sales of argument in order to
draw out and test its logical consequence. In carrying out this research work
these conceptual statements are made to serve as a guide on which the work will
be anchored.It is often stated in null form. It includes:
Hypothesis
One:
The
application of CVP analysis graphs and ratios do not enhance profitability,
productivity and efficiency decisions in manufacturing firms.
Hypothesis
Two:
The
applications of CVP analysis are not necessary in the effective control and
management of costs.
General
statement of the Hypothesis can be deduced thus; “That there is no significant
relationship between CVP analysis and management financial decision making in
manufacturing company.
1.5.
SIGNIFICANCE OF THE STUDY
Above all,
for an organization to succeed, it needs accurate planning and decision making.
Therefore this research work will be of paramount importance to all
manufacturing company, their manager and production staff of the company, as it
willassist the management of various manufacturing firms by providing them
a simple tool that can be used for
making decision, it will also provide a clearer understanding on how to
identify the most profitable mix, discover the effective decision tool that can
be used in determining the profit of a particular product, Ascertain which of
their products result in large profit margin, opportunity to knowing changes in
cost, which occur as a result of shift in policy concerning products, produced.
Academically,
this research study will also educate students more on the application of cost
volume profit analysis, as it will also serve as a reference material to other
researcher who may carryout similar work in the nearest future. i.e. both the
researchers, student, analyst, lecturers will all benefit from this research
studies.
1.6. SCOPE
OF THE STUDY
This
research study shall tend to focus on understanding how cost, volume, and profit
interact. It shall also seeks to give a clearer understanding on how these
relationships helps in predicting future conditions (planning) as well as in
explaining, evaluating, and acting on results (controlling).
It shall
alsotend to presents the concepts of margin of safety and degree of operating
leverage. Information provided by these models helps managers focus on the
implications that volume changes would have on organizational profitability.
This study
shall hovers around the reliance of CVP analysis for effective management
financial decision making in Wapco Cement Plc, Sagamu Plc.
The research
work will be carried out in Ogun State metropolis due to the schedule of the
researchers.
1.7.
LIMITATIONS OF THE STUDY
For all
research study, there must exist cases of setback, hindrances, difficulties
encountered, limitations and which needs to be acknowledged in the study.
The
limitations of the study are as given below:
1. Financial
Constraint/Time: The study cannot be expanded to cover other industrial areas
due to available fund and time. Cost volume profit analysis itself has a wider
scope, which needs a greater amount of time for a careful study. Considering
other academic activities, the researcher had a very limited time to carry out
this research.
b).
Information Obtained: The researcher is limited to available information
obtained from the management and staff of the case study, due to the distance
of the case study company from my school.The distance between the researcher
and the case company posed serious hitch to the smooth carrying out of this
project.
c).
Literature: The researcher notices that the libraries around are too poor as
far as accounting textbooks, journals and magazines are concerned. It was not
easy to obtain secondary data from the library as a result of the few books
available to treat this research topic. Also, most updated textbooks are not at
my disposal either, due to the poor library services or my personal poor
finance.
1.8.DEFINITION
OF TERMS
In other not
to confuse the reader of this project and remove any doubt as to the intended
meaning of the word and terms used in the study. The researcher has certain words and terms as
follows:
1.
BREAK-EVEN ANALYSIS: This is the term given to the study of the
interrelationships between cost, volume and profit at various levels of
activity, which produces neither profit nor loss.
COSTS: These are operating expenses to the
business.
REVENUE: is the income derived from selling
goods and services.
ASSETS: These are possession or wealth of a
person, group of persons, company, corporation or government and such
possession or wealth or property do have monetary value.
LIABILITIES: A liability is the amount of
money or value which a person or persons, or an organization owes to outsiders
or other persons.
COST ACCOUNTING: It is the establishment of
budgets, standard costs and actual cost of operations, processes, activities or
products, and the analysis of variance, profitability, or the social use of
funds.
COST VOLUME PROFIT ANALYSIS: It is used to examine the behaviour of total
revenue, total cost, and operating income as changes occur in the output level,
the selling price, the variable cost per unit or the fixed cost of a product.
CONTRIBUTION MARGIN RATIO: These are ratios
that are used to represent the amount of revenue minus variable cost that
contributes to covering fixed cost.
COST VOLUME CHART (CVPC): A chart that
helps in the enrichment of understanding of the inter-relationship of all
factors affecting profit especially cost behaviour patterns over ranges of
volume.
FIXED COST (FC): The cost that fixed in
total amount over a period of production, but varies per unit of output with
the level of production changes.
VARIABLE COST (VC): The cost that directly
affects production by varying the level of production but constantly remains
fixed per unit of output.
BREAK-EVEN POINT (BEP): The point of
activity where total cost are equal and the firm neither making profit nor
loss.
MARGIN OF SAFETY (MOS): This is the excess
of budgeted sales over the break even sales –volume
GROSS PROFIT RATIO (GPR): This is the
commonest measure of profitability. The gross profit margin measures the
efficiency with which the firm produces each unit. Its products by discounting
all operating expenses.
NET PROFIT RATIO (NPR): The net profit
margin measures the percentage of sales remaining after expenses including taxes
have been deducted.
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