Target Profit Analysis:
Contents:

Definition
and explanation

Example

Review problem
Management desires to achieve a specific amount of
profit at the end of a business period. The net
operating income or profit that management desires
to achieve at the end of a business period is called
target profit. To get a target profit management
needs to know the business activities for that
period.
Cost
volume profit (CVP) equations and formulas can be
used to determine the sales volume needed to achieve
a target profit.
To
understand the calculation of target profit consider
the following example:
 Sales price
per unit = $250
 Variable cost
per unit = $150
 Total fixed
expenses = $35,000
 Target Profit
= $40,000
 Q = Number
(Quantity) of units sold
Required:
How many units will have to be sold to earn a
profit of $40,000?
Solution:
The CVP Equation Method:
Under
CVP equation approach, we can find the number of
units to be sold to obtain target profit by solving
the equation where profits are equal to target
profit (that is $40,000).
Sales =
Variable expenses + Fixed expenses + Profit
$250Q = $150 +
$35,000 + $40,000
$100Q =
$75,000
Q = $75,000 /
$100 per unit
Q = 750 Units 
Thus
the target profit can be achieved by selling 750
units per month, which represents $187,500 in total
sales ($250 × 750 units). This equation is also
extensively used to calculate break even point. When
break even point is calculated the value of profit
in the equation is taken equal to ZERO.
The Contribution Margin Approach:
A
second approach involves expanding the
contribution
margin formula to include the target profit.
Unit
sales to attain target profit = (Fixed expenses +
Target Profit) ÷ Unit contribution margin
This approach gives
the same answer as the equation method since it is
simply a short cut version of the equation method.
similarly the dollar sales needed to attain the
target profit can be computed as follows:
Dollar sales
to attain the target profit = [(Fixed
expenses + Target profit) ÷ CM ratio]
= ($35,000 +
$40,000) ÷ 0.40
$75,000 ÷ 0.4
= $187,500
No. of units
to be sold = $187,500 / $250
=750 units 
Voltar
Company manufactures and sells a telephone answering
machine. The Company's
contribution margin income statement for the
most recent year is given below:

Total 
Per
Unit 
Percent of Sales 
Sales
(20,000 units) 
$1,200,000 
$60 
100% 
Less
variable expenses 
900,000 
45 
?% 




Contribution margin 
300,000 
$15 
?% 
Less
fixed expenses 
240,000 






Net
operating income 
$60,000 







Management is
anxious to improve the company's profit performance.
Assume that next year management wants the company
to earn a minimum profit of $90,000. How many units
will have to be sold to meet the target profit
figure?
Solution:
Equation Method:
Sales =
Variable expenses + Fixed expenses + Profits
$60Q = $45Q +
$240,000 + $90,000
$15Q =
$3330,000
Q = $3330,000
/ $15 Per unit
Q = 22,000
Units 
Contribution Margin Method:
(Fixed
expenses + Target profit) / Contribution
margin per unit
($240,000 +
$90,000) / $15 Per unit
22,000 Units 
Relevant Articles:
