 with each level of production, but we might have some people that are salary too and their wages aren't gonna do anything if we go up in terms of the amount that we produce. And therefore, if we were to increase production and think about, well, what would happen if we sold this many units next year or this many units and we had a set of increasing number of units that we could possibly sell and we wanna just run a bunch of projections on that, it would be difficult for us to do that if we group costs this way by what they're for rather than the behavior of how they act because then we're gonna have to go into these and say, okay, well, how is that gonna increase or decrease wages? And it's difficult to know that because of the structure. So that's gonna be leading us to the idea of grouping costs by behavior. What we want to know is that if we sell, for example, coffee cups, if there's an increase in the number of coffee cups, what's gonna be the increase in net income? To do that, we need to structure our income statement differently or at least to do that a lot more easily. We could structure our income statement differently. Another common question for managerial accounting is if we're thinking about the rent or the fixed cost, let's say the rent, if we wanna know how many units we have to sell in order to pay the rent, words, how many number of units must we sell in order to cover the fixed cost of the rent? These are types of questions we consider in a CVP type of analysis. How does it work? What's the major process that we're gonna use in a CVP type of analysis? We're gonna take the expenses and we're gonna break them up not by what they do. We're not gonna group them by selling an admin or a cost of goods sold, but by how they act. So we're gonna break up the expenses by how they act. We want to break up all the expenses into two categories, fixed costs and variable costs. So we want to see all the expenses and break them up into fixed type costs and variable type costs. Now a lot of costs, this will be easy for us to do. If we think about a salaried employee, they typically are gonna have a fixed type of cost. And we're thinking about the rent. The rent is what it is. It's gonna be fixed no matter how many units that we sell. And there's gonna be some things that are variable. If we're talking about direct materials into our inventory, typically as we produce more, then it will go up at our standard rate as we increase the level of production. Note however that the CVP analysis does make us or force us to take those types of costs that don't line up specifically into fixed or variable and break them up in some way. So that's gonna be one of the problems that we have with a CVP type of analysis. We wanna break everything up as if they by their nature behave as fixed or variable type costs. Not all costs do. Many do not, which means that we're gonna have to make some type of estimates in order to do so. And what's gonna be the payoff of doing that? And once we do that, then we can make these projections much easier. In essence then, we wanna break our normal type of income statement into a contribution margin type of income statement. So we're gonna have the same bottom line, the same net income, but we're gonna get there a little bit differently. We're gonna group things a little bit differently or a lot differently. We're not grouping by what these expenses do for us, we're grouping by how they behave. So in the variable costs, for example, we have the direct materials, we've got the direct wages and the sales commission. Notice that sales commission is totally different than say cost of goods sold, which is what the other two items are in. In a normal income statement, we wouldn't group this way because they are serving different purposes. Although it's for revenue generation, they serve different purposes, different categories within that goal. But in a contribution margin, we group them in this format because they behave similar, and that will help us with projections as we'll see. That'll give us the total variable costs. Then we'll click the revenue minus the total variable costs. We call that the contribution margin. Again, you'll never see a contribution margin in generally accepted accounting principles. It's not in a normal income statement. You're probably considering about this stage in the income statement is something called gross profit on a normal income statement, revenue minus cost of goods sold, sales minus cost of goods sold. That is not this number. They're not the same at all here because remember variable costs, they're not by what the costs is for, they are by the behavior. And then we have the fixed costs. These are the costs that don't change with the level of production. In our case, we got the taxes, we got the maintenance on the factory depreciation, lease, administrative salaries, rent, and then the rent on the office as well as the rent on the administrative office. Those giving us the fixed costs. If we subtract out, then the contribution margin minus the fixed costs, we get the income before taxes, then the tax calculation, then the net income. So again, bottom line, the same as a standard income statement, the approach different. As you can see here, it doesn't really show you exactly why we would do this yet, but when we consider how to think about projections in the future, we'll see that this format will be much more useful and easy for us to work with.