Cost Volume Profit

Margin of Safety

Topic Menu
Content Contributors
Christian Bien Portrait_edited.jpg

Priya Kaur

Christian Bien Portrait_edited.jpg

Christian Bien

Learning Objectives

tutorial.png

one.png
What is the Margin of Safety?
Slide1.jpeg

The Margin of Safety refers to the amount of sales that are above the break-even point. 

  • High Margin of Safety: This indicates that the sales amount well exceeds the breakeven point. The Company has a relatively safe position at making a profit. 

  • Low Margin of Safety: This indicates that the sales amount is at or near the breakeven point. The Company is in a dangerous position as a slight decline in sales volumes could result in a loss.

What is safe and dangerous is dependent on the Company size and relative position to its competitors. 


Calculation of Margin of Safety: 

To Calculate the Margin of Safety in Units: Margin of Safety (Units) = Sales (Units) - Break-Even Point (Units) 


To Calculate the Margin of Safety in Dollars: Margin of Safety Dollars = Sales (Dollars) - Breakeven (Dollars) 


To calculate the Margin of Safety as a Percentage: Margin of Safety % = (Margin of Safety in Dollars) / (Actual/Budgeted Sales)

two.png
Worked Example: Margin of Safety
Slide2.jpeg

Worked Example

MecBooks are a Computer Manufacturing Company. They sell their computers for a sale price of $1000 and expect to sell 250 units this year. 


The variable costs for each unit are $800 and the fixed costs for the year is $25,000.


Calculate the Margin of Safety in dollars and as a percentage. 


Solution: 

This question requires three separate parts, calculation of the contribution margin, calculation of the breakeven point and then a calculation of the margin of safety. 


Step 1: Calculate the Contribution Margin 

Recall from previous pages, that the contribution margin formula is as follows: Contribution Margin = Sales Price Per Unit - Variable Cost Per Unit The sale price is $1000 in the question and variable costs are $800. Therefore the Contribution Margin is: Contribution Margin = $1000 - $800 = $200 per unit 


Step 2: Calculate the Breakeven Point 

Recall from previous pages, that the breakeven point formula is as follows: 

Breakeven Point (Units) = Fixed Costs / Contribution Margin 

The Fixed Costs are $25,000 and the Contribution Margin has been calculated in Step 1 as $200. Therefore the Breakeven Point is: Breakeven Point (Units) = $25,000 / $200 = 125 units 


Step 3: Calculate the Margin of Safety 

As stated in above, the Margin of Safety formula is as follows: 

Margin of Safety = Sales (Units) - Break-Even Point (Units) 

The expected sales is 250 units and the breakeven point is 125 units. 

Therefore, the Margin of Safety is: Margin of Safety = 250 units - 125 units = 125 units 

Hence, the Margin of Safety in Dollars is: 125 units * $1,000 per unit sale price = $125,000 


To calculate the Margin of Safety as a Percentage: Margin of Safety % = (Margin of Safety in Dollars) / (Actual/Budgeted Sales) Budgeted sales was 250 units at $1,000 each. 


Hence Budgeted sales is 250 * $1,000 = $250,000. Hence Margin of Safety as a percentage is: Margin of Safety % = $125,000 / $250,000 Margin of Safety % = 50%

two.png
Slide2.jpeg
two.png
Slide2.jpeg
two.png
Slide2.jpeg
two.png
Slide2.jpeg
two.png
Slide2.jpeg
two.png
Slide2.jpeg
Contribution Margin
Breakeven Point
Margin of Safety
Closing Product Line Decision
Make or Buy Decision
Special Order Decisions
Students Walking Up Stairs_edited.jpg

Registrations Now Open for Empowered Academy

A Free Student-Centred Revision Program

Logo-New-Large.png