Traditionally, there are two things which are calculated while performing the cost volume profit analysis. These are calculating the contribution margin and contribution margin ratio. (Navaro, 2005)
Contribution Margin = Sales – Variable costs
Contribution Margin Ratio = Contribution / Sales
The above calculations therefore focus on the overall fixed and variable costs of the firm while at the same time providing insight into how the costs vary with the output. However, when this technique was developed, firms were more labor intensive and had different manufacturing costs break up. The new firms have more constant costs which normally do not wary because most of the modern organizations are now capital intensive organizations with fixed labor costs. For example, a supervisor may be paid the same wages regardless of the fact that whether the machine works at its full capacity or not. As such many argue that the maximization of the contribution margin may no longer be relevant for the modern organizations. (Luther, and O’Donovan., 1998)...
Further, since the capital intensive firms have higher fixed cost ratio in their total cost structure therefore capital intensive firms may not be able to clearly identity their breakeven point based on the CVP analysis as this may be misleading. In a capital intensive firm, more costs goes to the management and operations of the capital intensive equipment with little costs going towards the labor and other overheads. The excessive contribution by the manufacturing overheads therefore makes it irrelevant for the capital intensive firms to actually use the CVP analysis. 2) The traditional theory on corporate finance and accounting suggests that the major task of the managers is to ensure that their actions result into the generation of value for the shareholders. Thus the common objective of the firm or the business has been focused upon the profit maximization and the maximization of the shareholders’ value. Any business activity which does not result into the above two therefore may not be considered as the real objectives of the firm. The traditional accounting therefore seems to portray only the above basic aims of the firm i.e. capturing how value and profitability can be maximized and based on these principles different accounting estimates and procedures are made. The latest trends however suggest that the firm’s only objective cannot be limited to just the maximization of the profits or the shareholders’ value. Now firms also being viewed as larger part of the society with different other objectives too including sustainability of the environment as well as corporate social responsibility.( Islam, and Dellaportas,