17221442 marginal costing

8/8/2019 17221442 Marginal Costing

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Marginal Costing and Absorption

Costingy There are mainly two techniques of determining cost

and profit:-

y Marginal CostingyAbsorption Costing

These are not methods of costing like job costing orprocess costing.


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Marginal Costing:y CIMA defines marginal costing as the accounting

system in which variable costs are charged to the cost

units and fixed costs of the period are written-off infull against the aggregate contribution.


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ABSORPTION COSTINGy Absorption costing is a costing technique, which does

not recognise the difference between fixed costs and

variable costs, all the manufacturing costs areabsorbed in the cost of the products produced.

Absorption costing is a traditional approach and is alsoknown as Conventional Costing.


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Characteristics of Marginal Costingy Segregation of Costs into fixed and variable elements.

y Marginal Costs as products costs.

y Fixed costs as period costs.yValuation of inventory(on the basis of variable

manufacturing cost only)

y Contribution (sales variable cost ).


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Variable CostsyVariable costs are costs such as raw materials, direct

labor, direct expenses and energy, commission on sales

units etc, that vary or change directly with the amountof product produced and sold.


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Differences between Marginal

Costing and Absorption Costingy Marginal costing differs from absorption costing on

the ground of difference in valuation of closing stock.

Marginal costing techniques values closing stock atmarginal cost where as it is valued at total cost ofproduction in absorption costing techniques.


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Uses of Marginal Costing in

Decision making:

y Helps in Fixation of selling price

yHelps in selecting a suitable produce mix formaximum profit.

y Determining Break Even point.

y Choosing from the available alternative method of

production the one which gives highest contribution orcontribution per limiting factor.

y Make or buy decision on the basis of highercontribution

y Taking a decision as regard to adding a new product inthe market.


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Decisions Based on

Marginal Costingy To plan their operations, manufacturing firms must

decide:

y

How many units they expect to selly How many units to produce

y How much to spend to produce and sell these units

y At what price they must sell the units to make the profit

they wanty To make these decisions, firms may calculate the

break-even point.


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Break-Even Pointy The break-even point is the point at which income

from sales equals the total cost of producing andselling goods.

y It is the point at which the business will neither make aprofit nor suffer a loss.

yWhen sales exceed the break-even point, there is aprofit.

yWhen sales are less than the break-even point, there isa loss.


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Finding the Break-Even Pointy To find the break-even point, you need to know three

things:

y

Fixed costs for manufacturing the producty Variable costs for manufacturing each unit of the

product

y Expected selling price of each unit of the product


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Break-Even Point in Sales Rs

Break-Even Point in Rs.

= Break-Even Point in Units Sales Price per Unit

or

Fixed costP/V ratio


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Break Even point in unitsy Break Even point in units

= Fixed CostContribution per unit


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Marginal cost equation

S V = F P

Where S = Sales V = Variable costF = Fixed cost P = profit


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Break-Even (or cost volume profit)

Analysis

y It establishes the relationship of costs, volume and

profit in broader sense break even analysis is onewhich determines the profit earned at any point orlevel of output. In narrow sense it is to determine thebreak even point (no-profit, no-loss) from where

profits accrue.


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Contribution and P/V ratio

Contribution

- The amount contributed towards fixedexpenses and profit i.e., sales less variable cost.

Profit / Volume ration (P/V Ratio)

- Studies the profitability of operations of a

business and establishes the relationship betweencontribution and sales.


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To improve the P/V

- Reduce variable costs

- Increase the selling price- Produce products having higher P/V ratio


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Margin of Safety

y It is the level of sale over and above the break even

point.MoS =Sales - BEP


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decrease in selling price results iny Reduction in sales volume

y Reduction in contribution

y Reduction in P/V ratioy Increase in break-even sales volume

y Shortening of margin of safety


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List of Formulae:

y 1) Variable expenses per unit

= change in costchange in output

2) Marginal cost equation

Sales Variable Cost = Fixed cost profit /loss

3) Contribution = Sales variable cost.

4) P/V ratio = contribution ( x 100 if or percentage)

sales


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Continue5) Variable Cost = Sales x (1- P/V ratio)

6) Profit = (Sales x P/V ratio) Fixed cost

7) Sales to earn desired profit =Fixed expenses + Desired profit

Selling price per unit Variable cost per unit


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Continuey 10) Margin of safety = Actual sales Break Even sales

or profit

P/V ratioy 11) P/V ratio =

change in profit ( x 100 for %)

change in sales


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Break Even Chart:

y It provides pictorial view of the relationship

between costs, volume & profit, it shows the Breakeven points and also indicates the estimated profit/ loss at various levels of output. Break Evenchart is a point at which the total cost line and thetotal sales line intersect.

Profit volume chart:

y It represent profit volume relationship, it showsprofit/loss at different volumes of sales

17221442 marginal costing

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