Contribution, Break-Even and Decision Analysis

Introduction and context

Brand managers increasingly make decisions that appear qualitative—such as whether to increase media spending, launch a premium variant, change a distribution channel, or outsource fulfilment—but these decisions have measurable financial consequences. Financial accounting records what has happened; contribution and decision analysis help managers evaluate what may happen under alternative actions.

This chapter develops a managerial framework for analysing the relationship among selling price, variable cost, fixed cost, sales volume, profit and risk. It focuses on contribution margin, cost–volume–profit (CVP) analysis, break-even analysis, operating leverage, relevant costing, product-mix decisions, channel selection, outsourcing and marketing-campaign evaluation.

The analysis is especially important in brand management because brand decisions frequently involve:

• high fixed investments in research, creative development, technology and brand-building;
• variable selling costs such as commissions, fulfilment, payment fees and promotional discounts;
• multiple products, customer segments and channels;
• uncertain demand and competitor response; and
• trade-offs between short-term contribution and long-term brand equity.

The techniques in this chapter are decision-support tools. They do not replace strategic judgement, customer insight, brand positioning or risk assessment. Their value lies in making assumptions explicit and showing how financial outcomes change when those assumptions change.

Learning objectives

By the end of this chapter, the reader should be able to:

1. Explain contribution margin and distinguish variable, fixed, committed, discretionary, avoidable and unavoidable costs.
2. Calculate unit contribution, contribution margin ratio, break-even volume, target-profit volume and margin of safety.
3. Apply CVP analysis to single-product and multi-product settings.
4. Interpret operating leverage and evaluate profit sensitivity to changes in sales.
5. Use relevant-cost analysis for pricing, product mix, channel, outsourcing and campaign decisions.
6. Apply sensitivity and scenario analysis to uncertain assumptions.
7. Recognise the limitations, ethical risks and strategic implications of short-term financial models.

1. Cost behaviour and the logic of contribution

1.1 Variable and fixed costs

A variable cost changes in total as the level of activity changes, within a relevant range. Examples include packaging per unit, sales commissions calculated as a percentage of revenue, payment-processing fees and delivery cost per order. A fixed cost remains constant in total over a specified activity range and time period. Examples include a warehouse lease, an annual software licence and the salary of a brand director.

The distinction is behavioural rather than merely descriptive. A cost may be fixed for one decision horizon but variable over a longer horizon. For example, a media-retainer contract may be fixed for six months but avoidable when the contract expires. Likewise, a fulfilment centre may have a fixed base charge plus a variable charge per shipment.

Total cost can be represented by:

where C is total cost, F is total fixed cost, v is variable cost per unit, and Q is units sold or produced. The equation assumes a linear cost relationship within a relevant range, constant unit variable cost, and a fixed-cost level that does not change within that range.

Total revenue is:

where p is selling price per unit. Operating profit before financing and tax is:

Therefore:

The term p − v is unit contribution margin. It is the amount from each unit available first to cover fixed costs and then to generate profit.

1.2 Contribution margin

Contribution margin (CM) is revenue less variable costs:

where V is total variable cost. For a single product:

The contribution margin ratio (CM ratio), also called the profit-volume ratio, is:

It expresses the proportion of each revenue unit available to cover fixed costs and profit. If price is $100 and variable cost is $60, unit contribution is $40 and the CM ratio is 40%.

Contribution is not the same as gross profit under every reporting system. Gross profit commonly means sales less cost of goods sold, whereas contribution subtracts all costs that vary with the decision-relevant activity, including selling or fulfilment costs where appropriate. Managers must define the cost boundary consistently.

1.3 Relevant cost classifications

For decisions, accounting classification alone is insufficient. The following distinctions are important:

A cost can be fixed in total and still be relevant. For example, an additional annual brand manager salary caused by launching a product is fixed but relevant. Conversely, a variable cost already incurred and unaffected by the decision is irrelevant.

2. Break-even and target-profit analysis

2.1 Break-even point in units

At break-even, operating profit equals zero. Using the profit equation:

Solving for Q gives:

This formula applies to a single product or to a stable sales mix represented by a weighted-average contribution margin. It assumes constant price and variable cost per unit, linear cost behaviour, and that all units produced are sold if production is relevant.

Worked Example 1: Single-product break-even

A premium skincare brand sells a serum for $80. Variable cost per unit is $32, and annual fixed operating cost is $480,000.

Unit contribution:

$80 − $32 = $48

Break-even volume:

$480,000 ÷ $48 = 10,000 units

Break-even revenue is:

The CM ratio is $48 ÷ $80 = 0.60, so:

$480,000 ÷ 0.60 = $800,000

The brand must therefore sell 10,000 units or generate $800,000 in revenue to cover all operating costs. Sales above that level generate operating profit of $48 per additional unit, assuming the model remains valid.

2.2 Target-profit volume

If management seeks a target operating profit T, the required volume is:

If the target is after-tax profit, the tax treatment must be specified. When tax rate is t and no other complications apply, the required pre-tax profit is T ÷ (1 − t). Thus:

This simplified tax formula assumes a constant tax rate, no tax losses, no tax credits and no differences between accounting and taxable profit.

Using the skincare example, the volume required for $240,000 pre-tax operating profit is:

($480,000 + $240,000) ÷ $48 = 15,000 units.

2.3 Margin of safety

The margin of safety measures how far expected or actual sales exceed break-even sales:

The margin-of-safety ratio is:

If budgeted volume is 14,000 units and break-even volume is 10,000 units, the margin of safety is 4,000 units or 28.6% of budgeted volume. A low margin of safety signals vulnerability to demand shortfalls, price reductions or cost inflation.

3. Cost–volume–profit analysis

CVP analysis examines how profit changes as price, volume, variable cost and fixed cost change. For a single product:

A useful extension includes sales commissions or percentage-based distribution costs within v. If variable cost is expressed as a percentage c of selling price, then unit contribution is p(1 − c).

3.1 Assumptions of CVP analysis

Traditional CVP analysis generally assumes:

1. selling price per unit is constant;
2. variable cost per unit is constant;
3. total fixed cost is constant within the relevant range;
4. sales volume is the principal activity driver;
5. production and sales volumes are equal, or inventory effects are immaterial;
6. product mix is constant in a multi-product business; and
7. costs and revenues can be separated reliably into fixed and variable components.

These assumptions are useful approximations, not universal facts. Digital advertising may display increasing marginal cost, influencer fees may be tiered, discounts may change price at volume thresholds, and capacity expansion may create step-fixed costs.

3.2 Multi-product CVP

When products have different prices and contribution margins, break-even depends on the sales mix. Let wᵢ be the proportion of total units represented by product i and CMᵢ its unit contribution. Weighted-average unit contribution is:

where the weights sum to 1. Break-even total units are:

This result is meaningful only if the assumed mix remains stable. A revenue-weighted approach may be preferable when management forecasts a constant mix by revenue rather than by units. In practice, analysts should report the assumed mix explicitly and test alternative mixes.

Worked Example 2: Product mix

A brand sells two products:

Weighted-average CM is:

(0.70 × $20) + (0.30 × $45) = $27.50

If fixed cost is $550,000, break-even total units are:

$550,000 ÷ $27.50 = 20,000 units.

At the planned mix, this corresponds to 14,000 core units and 6,000 premium units. If the mix shifts toward the premium product, break-even volume falls; if it shifts toward the core product, break-even volume rises. However, the premium product may have limited demand or capacity, so its higher contribution cannot automatically be treated as freely scalable.

3.3 Graphical interpretation

In a conventional CVP graph, the revenue line begins at zero and rises with slope p. The total-cost line begins at fixed cost F and rises with slope v. Their intersection is the break-even point. The vertical distance between revenue and total cost at any volume represents profit or loss. The model is linear only over the relevant range.

4. Operating leverage and risk

Operating leverage arises when a business uses fixed costs to generate contribution. The degree of operating leverage (DOL) at a particular sales volume is:

where operating profit is CM − F. Equivalently, for a single product:

DOL approximates the percentage change in operating profit resulting from a 1% change in sales volume, assuming price, variable cost and fixed cost remain unchanged:

The approximation becomes less reliable for large changes and near break-even, where operating profit is small and DOL becomes very high. High operating leverage magnifies both gains and losses. A campaign-led business with large fixed creative, technology and media commitments may therefore have attractive upside but substantial downside if demand underperforms.

Worked Example 3: Operating leverage

A brand generates contribution of $900,000 and has fixed cost of $600,000. Operating profit is $300,000.

DOL = $900,000 ÷ $300,000 = 3.0

A 5% increase in sales volume, with unchanged unit economics, is expected to increase operating profit by approximately 15%. Conversely, a 5% decline is expected to reduce operating profit by approximately 15%. The absolute effect is not symmetrical if price, discounts or capacity constraints change at different volumes.

5. Relevant costing for managerial decisions

5.1 The decision rule

A decision should be evaluated using incremental benefits and incremental relevant costs. A general expression is:

An alternative is financially preferable when its incremental profit exceeds that of the next-best alternative, after considering opportunity costs and strategic effects.

Managers should exclude sunk costs and costs that do not change. They should include opportunity costs whenever a scarce resource has an alternative use. This prevents two common errors: allocating unavoidable overhead to a decision as if it were avoidable, and accepting a low-margin option that displaces a higher-margin opportunity.

5.2 Special-order pricing

A special order may be accepted below the normal price if:

• the order generates positive incremental contribution;
• sufficient capacity exists;
• regular customers will not demand the lower price;
• the order does not damage brand positioning or channel relationships; and
• additional quality, service, legal or compliance obligations are included.

Suppose a limited corporate order offers $28 per unit. Variable cost is $18, and spare capacity exists. The incremental contribution is $10 per unit. If 4,000 units are ordered, incremental profit is $40,000 before any additional fixed or fulfilment costs. The order should not be accepted merely because it covers allocated overhead; the key question is whether it adds contribution and does not create unacceptable strategic harm.

5.3 Product discontinuation

A product should not automatically be discontinued because it reports an accounting loss after allocated fixed costs. The relevant calculation is:

If contribution lost exceeds avoidable fixed cost, discontinuation reduces profit. Allocated common fixed costs that continue after discontinuation are irrelevant to the short-term decision.

5.4 Product mix under a constrained resource

When a resource is scarce—such as machine hours, creative-team hours, shelf space or warehouse capacity—the appropriate ranking measure is contribution per unit of the constrained resource:

The product with the highest contribution per scarce hour or square metre should normally receive priority, subject to demand, contractual, regulatory and strategic constraints.

Worked Example 4: Scarce creative capacity

A brand team has 1,200 available design hours. Product A contributes $30 and requires 2 hours per unit. Product B contributes $45 and requires 4 hours per unit.

A contributes $30 ÷ 2 = $15 per design hour. B contributes $45 ÷ 4 = $11.25 per design hour. If demand is sufficient, A should receive priority despite B having the higher contribution per unit. If A demand is capped, remaining capacity can be allocated to B.

6. Channel and outsourcing decisions

6.1 Channel selection

Channel profitability should be assessed using channel-specific revenue and relevant costs. A direct-to-consumer channel may avoid retailer margin but incur paid acquisition, fulfilment, returns, customer service and payment costs. A wholesale channel may have a lower net selling price but lower fulfilment and acquisition costs.

For channel j:

Net revenue should reflect discounts, rebates, returns and allowances. Analysts should avoid comparing gross list prices across channels.

Customer lifetime value may be relevant where acquisition spending produces repeat purchases. A simplified contribution-based estimate is:

where r is the chosen discount rate and t indexes future periods. This model requires assumptions about retention, purchase frequency, contribution, service cost and cash timing. It should not be presented as a precise fact when the assumptions are uncertain.

6.2 Make-or-buy and outsourcing

Outsourcing is financially attractive when the supplier price is lower than the avoidable internal cost plus the opportunity cost of internal capacity:

Unavoidable fixed costs should not be included merely because they are allocated to the internal activity. Qualitative factors include quality control, data security, intellectual property, resilience, labour standards, dependence on suppliers, speed and brand experience.

Worked Example 5: Fulfilment outsourcing

Internal fulfilment costs per order are $7 variable cost. A supervisor costing $60,000 annually can be eliminated if outsourcing is adopted. The business processes 20,000 orders. The supplier charges $8.50 per order and outsourcing adds $10,000 of annual contract-management cost.

Avoidable internal cost is:

(20,000 × $7) + $60,000 = $200,000

Outsourcing cost is:

(20,000 × $8.50) + $10,000 = $180,000

The apparent saving is $20,000. The decision is financially favourable before considering quality, service-level penalties, transition costs and strategic risk. If the supervisor’s salary is unavoidable after outsourcing, the relevant internal cost falls to $140,000 and outsourcing would be $40,000 worse financially.

7. Campaign decisions and marketing accountability

A marketing campaign should be evaluated through incremental contribution rather than revenue alone. If campaign-attributable incremental units are ΔQ, unit contribution is CM, and incremental campaign cost is ΔM, then:

The campaign breaks even on incremental units when:

If the campaign changes price or product mix, contribution must be calculated under the new conditions. If it attracts customers who would have purchased anyway, measured incremental volume overstates campaign effectiveness. Proper evaluation therefore requires a credible counterfactual, such as a controlled test market, matched geographic control group or statistically adjusted experiment.

Brand-building campaigns create additional difficulty because their benefits may occur beyond the immediate accounting period. Short-term contribution analysis should be supplemented with indicators such as aided awareness, consideration, repeat purchase, price tolerance and long-term customer value. These measures must not be used to justify unprofitable activity without explicit strategic reasoning and governance.

8. Sensitivity, scenario and break-even analysis under uncertainty

A single break-even number can create false confidence. Sensitivity analysis changes one assumption at a time to identify the variables that most affect the result. Scenario analysis changes several linked assumptions together—for example, a downside scenario may combine lower volume, higher discounting and higher fulfilment costs.

For a single product:

The formula shows that break-even volume rises when fixed cost or variable cost rises, and falls when price or contribution rises. However, price changes may also change demand. If demand is a function D(p), then profit becomes:

A higher price does not necessarily improve profit because D(p) may decline. In brand management, price elasticity, competitor reaction, perceived value and channel response must accompany the arithmetic.

A useful sensitivity table might include:

Managers should identify threshold values. For example, the maximum variable cost compatible with a target volume and profit is:

This is useful in supplier negotiation and budget control. It is valid only when price, volume, fixed cost and target profit are treated as specified constants.

9. Illustrative integrated case: Luma Activewear

Background

Luma Activewear is an illustrative mid-sized brand planning the launch of a premium recycled-fabric jacket. Management must choose a launch price, distribution mix and campaign budget while deciding whether fulfilment should remain internal.

Problem

The jacket has a proposed retail price of $150. Variable manufacturing cost is $62, payment and fulfilment cost for direct orders is $13, and the direct channel requires a 6% selling commission. The campaign and launch team create fixed incremental cost of $720,000. Management expects 12,000 direct units and 8,000 wholesale units. Wholesale units generate a net revenue of $94 and variable cost of $62 plus $5 fulfilment cost. The direct channel has no retailer margin but bears the direct-order costs.

Analysis

For direct sales, commission is 0.06 × $150 = $9. Unit variable cost is therefore:

$62 + $13 + $9 = $84

Direct contribution is:

$150 − $84 = $66

For wholesale sales, unit variable cost is $62 + $5 = $67, so wholesale contribution is:

$94 − $67 = $27.

Expected total contribution is:

(12,000 × $66) + (8,000 × $27) = $1,008,000.

Expected incremental operating profit is:

$1,008,000 − $720,000 = $288,000.

The planned sales mix is 60% direct and 40% wholesale by units. Weighted-average contribution is:

(0.60 × $66) + (0.40 × $27) = $50.40.

Break-even total units under this mix are:

$720,000 ÷ $50.40 ≈ 14,286 units.

The planned total of 20,000 units provides a margin of safety of approximately 5,714 units, or 28.6% of planned unit volume.

Alternative decisions

Suppose management considers shifting 4,000 units from wholesale to direct sales, with total volume unchanged. The contribution increase is:

4,000 × ($66 − $27) = $156,000.

This appears attractive, but the shift may require additional digital acquisition spending, customer service and returns capacity. If those incremental costs exceed $156,000, the shift does not improve profit. It may also create channel conflict if wholesale partners perceive direct pricing as unfair.

Suppose an external fulfilment provider offers a lower variable charge but requires a non-cancellable annual contract. The relevant comparison must include avoidable internal supervision, transition cost, service penalties and any capacity released for other products. Allocated warehouse rent that continues after outsourcing is excluded from the short-term comparison.

Outcome and recommendation

The base plan is financially viable, but the recommendation should be conditional rather than absolute. Luma should:

1. approve the launch only if the campaign has a credible path to at least 14,286 mixed-channel units;
2. monitor direct and wholesale contribution separately;
3. set a discount ceiling based on the minimum acceptable contribution;
4. test direct-channel acquisition before committing the full budget;
5. negotiate fulfilment using service-level and termination clauses; and
6. report brand and channel effects alongside short-term contribution.

Learning points

The case demonstrates that revenue ranking can be misleading: direct sales produce more contribution per unit, but wholesale may provide efficient reach and lower acquisition requirements. A mix assumption is central to break-even analysis. Finally, outsourcing and campaign decisions require incremental analysis, not simple comparisons of reported or allocated costs.

10. Limitations, governance and professional practice

10.1 Model limitations

Contribution models can mislead when costs are nonlinear, capacity is constrained, products are complementary, demand is uncertain or fixed costs change in steps. A price reduction may increase volume but weaken premium positioning. A campaign may build memory structures that are not captured in immediate contribution. A product may serve as a traffic driver for profitable complementary products.

The analyst should therefore document:

• the decision horizon;
• the relevant range;
• the definition of revenue and variable cost;
• the sales-mix assumption;
• capacity and demand constraints;
• treatment of taxes, financing and working capital;
• excluded strategic or qualitative factors; and
• sensitivity ranges and evidence quality.

10.2 Ethical and governance considerations

Managers must not manipulate contribution calculations by selectively excluding costs, inflating attributed campaign sales or treating optimistic assumptions as facts. Channel profitability models should respect customer privacy and applicable data-protection rules. Customer-level profitability analysis should avoid discriminatory pricing or exclusionary practices. Supplier selection should consider labour conditions, environmental claims and modern-slavery risks, not merely quoted unit cost.

Internal controls should require documented assumptions, approval of material model changes, reconciliation to accounting records and post-decision review. A post-audit compares predicted and actual volume, price, variable cost, fixed cost and strategic outcomes. This improves future forecasts and reduces incentive-driven bias.

10.3 Technology and AI

Spreadsheets, enterprise systems and analytics platforms can automate scenario analysis and channel-level contribution reporting. AI can assist with demand forecasting, price experimentation and customer segmentation, but outputs depend on data quality and model design. AI-generated forecasts should be stress-tested for bias, leakage, unstable relationships and inappropriate extrapolation. The financial model remains accountable to managers who understand the assumptions and consequences.

Best-practice checklist

Before approving a pricing, product, channel, outsourcing or campaign decision, the manager should ask:

1. What revenue is genuinely incremental?
2. Which costs change because of the decision?
3. Are any opportunity costs or capacity constraints omitted?
4. Is the sales mix explicit and realistic?
5. What is the break-even volume and margin of safety?
6. How sensitive is profit to price, volume and variable cost?
7. Could the decision damage brand equity, channel trust or customer experience?
8. What evidence will establish the counterfactual outcome?
9. Who owns the assumptions and post-decision review?

Chapter Summary

Contribution analysis separates revenue from variable cost and identifies the amount available to cover fixed costs and profit. Unit contribution is selling price less variable cost, while the contribution margin ratio expresses contribution as a percentage of revenue. Break-even volume equals fixed cost divided by unit contribution, and target-profit analysis adds the required profit to fixed cost.

CVP analysis provides a structured view of the effects of price, cost and volume, but depends on assumptions such as linear cost behaviour, constant price and stable product mix. In multi-product businesses, weighted-average contribution is used, and the assumed mix must be disclosed. Margin of safety indicates protection against falling sales, while operating leverage shows how fixed-cost intensity magnifies changes in operating profit.

Relevant costing focuses on future costs and benefits that differ between alternatives. Sunk and unavoidable costs are excluded; avoidable costs and opportunity costs are included. These principles support special-order pricing, product discontinuation, constrained-resource product mix, channel selection and outsourcing decisions. Campaign decisions should be based on incremental contribution and a credible counterfactual, not revenue alone.

Sensitivity and scenario analysis expose the risks embedded in assumptions. Financial analysis should be integrated with demand evidence, brand strategy, channel relationships, ethics, governance and post-decision review. The strongest managerial decision is not necessarily the one with the highest short-term contribution; it is the one that creates acceptable economic and strategic value under realistic uncertainty.

Key Terms

Contribution margin: Revenue less variable cost.

Unit contribution: Selling price per unit less variable cost per unit.

Contribution margin ratio: Contribution margin divided by revenue.

Cost–volume–profit analysis: Analysis of the relationship among costs, sales volume, price and profit.

Break-even point: Sales volume or revenue at which operating profit is zero.

Target-profit volume: Sales volume required to achieve a specified profit.

Margin of safety: Excess of actual or budgeted sales over break-even sales.

Operating leverage: The extent to which fixed costs cause operating profit to respond to changes in sales.

Degree of operating leverage: Contribution divided by operating profit.

Relevant cost: Future cost that differs between decision alternatives.

Avoidable cost: Cost that can be eliminated by choosing an alternative.

Unavoidable cost: Cost that remains regardless of the decision.

Opportunity cost: Benefit forgone when a resource is used for one alternative rather than its next-best use.

Sunk cost: Past cost that cannot be changed by a current decision.

Sales mix: Relative proportions in which multiple products or channels are sold.

Weighted-average contribution: Average contribution based on specified product or channel weights.

Constrained resource: Resource whose limited availability restricts activity.

Incremental profit: Additional revenue less additional relevant cost.

Sensitivity analysis: Examination of the effect of changing one assumption.

Scenario analysis: Examination of outcomes under coordinated sets of assumptions.

Review Questions

5 Short Answer Questions

1. Define unit contribution and explain why it is important in break-even analysis.
2. Distinguish an avoidable cost from an unavoidable cost.
3. State two assumptions underlying traditional CVP analysis.
4. What does the margin of safety measure?
5. Why can a product with a higher unit contribution be ranked below another product when capacity is constrained?

5 Long Answer Questions

1. Explain the relationship among contribution margin, fixed cost, break-even volume and operating profit, using equations and an illustrative example.
2. Discuss the assumptions and limitations of multi-product CVP analysis.
3. Explain how operating leverage affects both risk and opportunity in a brand-led business.
4. Compare the relevant-cost approach to outsourcing with an approach based on allocated accounting cost.
5. Discuss how campaign profitability should be evaluated when brand-building effects occur over several periods.

3 Analytical / Application Questions

1. A product sells for $120, has variable cost of $72 and requires fixed cost of $360,000. Calculate unit contribution, contribution margin ratio, break-even units and the units required for a $120,000 pre-tax operating profit.
2. A company sells Products A and B in a 2:1 unit mix. A contributes $18 per unit and B contributes $42 per unit. Fixed cost is $390,000. Calculate weighted-average contribution and break-even total units, then discuss how the result changes if the mix shifts toward B.
3. A brand is considering outsourcing fulfilment. Internal variable cost is $6 per order, avoidable annual supervision cost is $45,000, and 18,000 orders are expected. The supplier charges $8 per order and requires $12,000 of additional contract-management cost. Calculate the financial difference and identify at least four qualitative factors that should influence the final decision.

Multiple Choice Questions with Answers

Question 1

A product sells for $80 and has a variable cost of $32. What is its unit contribution?

A. $32

B. $48

C. $80

D. $112

Correct Answer: B. $48

Question 2

If fixed cost is $300,000 and unit contribution is $25, what is break-even volume?

A. 7,500 units

B. 12,000 units

C. 25,000 units

D. 75,000 units

Correct Answer: C. 25,000 units

Question 3

Which cost is generally excluded from a short-term relevant-cost analysis?

A. Additional fulfilment cost

B. Avoidable supervisor salary

C. Opportunity cost of scarce capacity

D. Sunk cost of a previous campaign

Correct Answer: D. Sunk cost of a previous campaign

Question 4

A business has contribution of $600,000 and operating profit of $200,000. Its degree of operating leverage is:

A. 0.33

B. 2.0

C. 3.0

D. 4.0

Correct Answer: C. 3.0

Question 5

When a resource is constrained, products should generally be ranked by:

A. Selling price per unit

B. Unit contribution only

C. Contribution per unit of constrained resource

D. Allocated fixed cost per unit

Correct Answer: C. Contribution per unit of constrained resource

Question 6

A campaign costs $50,000 and produces unit contribution of $10. How many incremental units are required for campaign break-even?

A. 500 units

B. 5,000 units

C. 50,000 units

D. 500,000 units

Correct Answer: B. 5,000 units

Question 7

Which statement about margin of safety is correct?

A. It measures fixed cost as a percentage of revenue.

B. It measures how far sales exceed break-even sales.

C. It equals variable cost divided by selling price.

D. It is always equal to operating profit.

Correct Answer: B. It measures how far sales exceed break-even sales.

Question 8

In a two-product CVP model, weighted-average contribution depends directly on:

A. The assumed sales mix and each product’s contribution

B. Only the product with the highest price

C. Total fixed cost and sunk cost

D. The tax rate alone

Correct Answer: A. The assumed sales mix and each product’s contribution

Question 9

A supplier’s price should be compared with internal cost for outsourcing using primarily:

A. All allocated corporate overhead

B. Avoidable internal cost plus opportunity cost

C. Historical cost only

D. Sunk product-development cost

Correct Answer: B. Avoidable internal cost plus opportunity cost

Question 10

If selling price is $100 and variable cost is $60, the contribution margin ratio is:

A. 20%

B. 40%

C. 60%

D. 160%

Correct Answer: B. 40%