Cost Analysis and Break-Even Point

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Questions and Answers

Explain how understanding the behavior of fixed costs is crucial when a business is experiencing a downturn in sales volume.

Fixed costs remain constant regardless of sales volume, so in a downturn, they can represent a larger proportion of total costs and significantly impact profitability.

A small bakery is considering expanding its product line. How can the bakery use average cost data to inform its decision about which new product to introduce?

The bakery can calculate the average cost for each potential new product and compare it to the expected selling price to estimate profitability and determine which product offers the best potential return.

Discuss how a business might use cost data, alongside break-even analysis, to decide whether to launch a new product with a higher selling price than its existing products.

The business can use cost data to calculate the break-even point for the new product and assess whether the potential sales volume at the higher price will exceed this point, making the launch viable.

Describe a situation where a business might intentionally operate below its break-even point for a short period. What strategic reasons might justify this?

A business might operate below the break-even point during a promotional period, such as a sale, to attract new customers or increase market share. This can be justified if it leads to long-term customer loyalty and increased profitability. Signup and view all the answers

How can a manager use break-even analysis to determine the impact of an increase in fixed costs, such as rent, on the number of units a business needs to sell?

An increase in fixed costs will raise the break-even point. Re-calculating the break-even point using the new fixed costs will show the manager how many more units need to be sold to cover the increased costs. Signup and view all the answers

Explain how neglecting to account for potential diseconomies of scale could lead to inaccurate cost predictions as a business expands rapidly.

If diseconomies of scale (e.g., communication breakdowns, coordination issues) arise, costs may increase unexpectedly as a business grows, rendering initial cost predictions inaccurate. Signup and view all the answers

A manufacturing company is considering automating a portion of its production process. How would this likely shift the balance between fixed and variable costs, and what implications would this have for the company’s break-even point?

Automation typically increases fixed costs (e.g., equipment, software) while decreasing variable costs (e.g., labor). The break-even point may increase depending on the magnitude of change. Signup and view all the answers

Contrast how a financial economy of scale and a technical economy of scale each contribute to reducing a business's overall costs, providing a specific example for each.

Financial economies allow larger firms to access capital at lower interest rates (e.g., securing a large loan with favorable terms), whereas technical economies involve using specialized equipment and processes to increase efficiency (e.g., implementing robotic assembly lines). Signup and view all the answers

Flashcards

What is 'Cost'?

Money spent to produce a good or service.

What are Fixed Costs?

Costs that stay constant regardless of how much you produce.