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As you may know from Chapter 11, CVP analysis looks and costs, revenues and volumes to determine things like at what output level a business will break even or make a certain profit. This post provides a simple example of the effects of volume on the viability of a business.

Recently, a local authority in Dublin, Ireland announced plans to build a large sewage treatment in the north of the city. As part of this, a vegetable farmer in the area will lose 35 of his 120 or so acres to the plant. I listened to a radio broadcast where the farmer simply said this is too much land to lose and his operation becomes uneconomic.

Let’s think about this briefly in CVP terms.  If we assume a stable price for the farmer’s products and stable variable costs (seeds, labour, fuel, fertilisers for example), then it would seem that a loss of about 25% of capacity would reduce the farmer from a profit scenario to a loss one.  I am not an agricultural expert, but I would assume that the fixed costs consist largely of the equipment and buildings needed to operate the farm.  If the land area is reduced (i.e. capacity is reduced), then the farmer simply does not have enough land left to produce enough revenue to cover these fixed costs and make a profit.

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