Profit-volume chart definition
/What is a Profit-Volume Chart?
A profit-volume chart is a graphical representation of the relationship between the sales and profits of a business. The concept is especially useful for determining an organization’s breakeven point, where the sales level generates a profit of exactly zero. For example, a firm has $5,000 in fixed costs and earns $20 per unit in profit; it would need to sell 250 units to reach breakeven (calculated as $5,000 fixed costs divided by $20 profit per unit). A sample profit-volume chart appears in the following exhibit.
Advantages of a Profit-Volume Chart
Breakeven information is critical for adjusting the expenditure and margin levels of a business to improve the probability that it will earn a profit. A profit-volume chart can also be used to estimate the profit that will likely be earned based on a certain sales level.
The managers of a business should have an especially high familiarity with the entity's profit-volume chart when the firm has a high fixed cost level. The reason is that the company must attain a high sales volume just to earn enough money to cover fixed costs. If sales drop below this breakeven level, a high fixed-cost business could lose a substantial amount of money.
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Disadvantages of a Profit-Volume Chart
The profit-volume chart can be excessively simplistic for a business that offers a broad range of products, each one with a different margin. In this situation, it may make more sense to develop a separate profit-volume chart for each product line, on the assumption that margins are roughly the same within each product line.