Question

How would break even and cost volume profit analysis differ in a nonprofit setting as opposed to a for profit environment?
2. How can cost volume profit analysis be used in nonprofit organizations? Provide at least one hypothetical example.
3. The concept of operating leverage is typically applied to for-profit organizations. How are the key concepts underlying operating leverage (ratio of fixed to variable costs) relevant to nonprofit organizations? In 3-5 sentences, explain the importance of operating leverage to a nonprofit Executive Director.

Answer 1

1. A profit for entity does cvp analysis based on selling price, variable cost, contribution margin and fixed cost. Whereas in case of non profit organisation there is no selling price since there is no sales. But a non profit organisation can have variable cost and fixed cost in running the organisation. Hence cvp analysis and break even analysis can be applied conceptually to both types of entities. In case of non profit entity the donations received help in computing breakeven point and cost volume profit analysis.

2. Cost volume profit analysis is use of variable cost and fixed cost and its relation with activity levels. It helps in understanding how cost is managed and controlled. In case of non profit organisation revenue is the contribution received from the donors for running the purpose of firm. The following costs can be variable cost (Assuming non profit organisation helping destitute)

· Cost of meal provided per person

· Cost of consumables consumed- dress, daily use items etc

· Labours engaged on daily basis in maintenance of facility

The following can be fixed cost:

· Depreciation of buildings

· Management and non management salaries

· Annual maintenance cost

To apply CVP analysis the donations received should cover the both variable cost and fixed cost of managing and running the organisation. The difference between donation received and variable cost is Contribution margin. The contribution margin helps in recovery of fixed costs.

3. Operating leverage helps in understanding the relation of variable cost and fixed cost. The higher the fixed cost higher is the operating leverage. In case of non profit organisation if the fixed costs are higher to mange than variable cost of running it will have a high operating leverage. A higher operating leverage can lead to losses if there is no sufficient contribution received to meet the expense. On the other hand an entity having a lower fixed cost will have lower operating leverage and can run with lower contributions.