marginal

costing

Why do we study Marginal Costing?

What do we study in Marginal Costing?

Marginal Cost Marginal Costing Direct Costing Absorption Costing Contribution Profit Volume Analysis Limiting Factor/key factor Break Even Analysis Profit Volume Chart

What do we study in Marginal Costing? and Why do we Study MC?

Marginal Cost Marginal Costing Direct Costing Absorption Costing Contribution Profit Volume Analysis Limiting Factor/key factor Break Even Analysis Profit Volume Chart

Management Decision Making

Marginal Cost

Marginal cost is amount at any given volume of out put by which aggregate costs are changed.. if volume of output is increased or decreased by one unit

Marginal Cost
Marginal
cost is amount at any given volume of out put by which aggregate costs are changed if volume of output is increased or decreased by one unit

Marginal Cost 100 x150= 15000 Fixed Cost = 5000 total 20000

1) Manufacture 100 radio 1)Variable costs Rs150p. u Fixed cost Rs 5000 2) If Manufacture 101 radios

Marginal cost 150 x101=15150 Fixed Cost = 5000 TOTAL 20150

additional Cost=Rs 150

Marginal Costing

marginal costing is

ascertainment of marginal cost by differentiating between fixed and variable costs and of the effect of changes in volume or type of output

Marginal Costing

What Could be effects of Changes In volume or Type of output

Marginal Costing

What Could be effects of Changes In volume or Type of output

1 lakh units To 2 lakh units

Marginal Costing
From One Model of Car to Another From One Size of product to another

What Could be effects of Changes In volume or Type of output

Marginal Costing ---Characteristics

Fixed & Variable Costs

Inventory Valuation

MC Costs as Products Costs

Contribution

Marginal Costing & Profit

Fixed Costs as Period Costs

Pricing

Marginal Costing ---Characteristics

Segregation Fixed & Variable Costs

Semi-variable costs are segregated into fixed & variable

Marginal Costing ---Characteristics

Marginal Costs as Products Costs

Only Variable costs are charged to products

Marginal Costing ---Characteristics

Fixed Costs as Period Costs

Fixed costs treated Period costs Charged to costing P & L Account

Marginal Costing ---Characteristics

Inventory Valuation

WIP & F goods are Valued at Marginal Cost

Marginal Costing ---Characteristics

S-V=C

Contribution
Profitability judged on Contribution made

Marginal Costing ---Characteristics

Pricing

Pricing is based on Contribution & Marginal Costs

 Marginal costing is also termed as variable costing, a technique of costing which includes only variable manufacturing costs , in the form of direct materials, direct labour, and variable manufacturing overheads while determining the cost per unit of a product.

 The net profit shown by marginal costing and absorption costing techniques may not be the same due to the different treatment of fixed manufacturing overheads Marginal costing technique treats fixed manufacturing overheads as period costs, where as in absorption costing technique these are absorbed into the cost of goods produced and are only charged against profit in the period in which those goods are sold.

 The normal level of activity for the current year is 60,000 units, and fixed costs are incurred evenly throughout the year. There were no stocks of the product at the start of the quarter, in which 16,500 units were made and 13,500 units were sold. Actual fixed costs were the same as budgeted.

Marginal Costing ---Characteristics

A Sales Less VC Contribution Fixed Cost Profit -

B -

C -

Total ----------------Marginal Costing & Profit

Marginal Costing ---

Marginal Costing Profit

Sales of A

Sales of B

Sales of C

less Marginal cost Of A = Contribution of A

less Marginal cost Of B = Contribution of B

Total Contribution of A,B& C less Total Fixed Cost =

less Marginal cost Of C = Contribution of C

Profit/loss

Absorption Costing

Absorption cost is a total cost technique Under which total cost i.e. fixed & variable is charged to production. Inventory is also valued at total cost.

Absorption-Marginal Costing--differences

Fixed & Variable Costs

Valuation Of stock

Measurement Of Profitability

Absorption-Marginal Costing--differences

Marginal Costing

Absorption Costing

Fixed & Variable Costs

Only variable cost FC charged to P/L

Both F & V Costs Are charged

Absorption-Marginal Costing--differences

Valuation Of stock
WIP & FS at Marginal Cost

Total Cost

Absorption-Marginal Costing--differences

Measurement Of Profitability

C=S-V

P=S-V-F

Comparative Cost Statement

Cost Statement- Marginal Costing-production=sales

Sales (40,000 units @ Rs.15 per unit) Less: cost of goods manufactured: Material and Labor cost Variable manufacturing overheads

(Rs.) 6,00,000

Sales (40,000 units @ Rs.15 per unit)

6,00,000

3,20,000 80,000

Contribution Less: fixed overheads other fixed overheads Net income

50,000 1,00,000

4,00,000 2,00,000 1,50,000 50,000

Less: cost of goods manufactured: Material and Labor cost Variable manufacturing overheads Fixed manufacturing overheads

3,20,000 80,000 50,000 4,50,000 1,50,000

Gross profit Less: other fixed overheads Net income

1,00,000

50,000

Production 1 lakh units ;Sales 80,000 units; Selling price/unit Rs.15 ;Direct material Rs.2,50,000 Direct labour Rs.3,00,000 ; Factory overheads:
- Variable - Fixed -Variable -fixed Rs.1,00,000 Rs. 2,50,000 Rs.1,00,000 Rs.2,00,000

Selling and distribution

Cost Statement- production> sales

absorption
Sales (80,000 units @ Rs.15 per unit) Less: cost of goods Material Labor cost Factory overheads : Variable : fixed (Rs.) 12,00,000

Marginal costing
Sales (80,000 units @ Rs.15 per unit) (Rs.) 12,00,00 0

2,50,000 3,00,000 1,00,000 2,50,000 9,00,000

Less: cost of goods Material Labor cost Factory overheads : Variable

2,50,000 3,00,000 1,00,000 6,50,000

Less: closing stock Less: closing stock (20000/100000*Rs.9,00,000 other fixed overheads Gross profit Less : Selling and distribution: Variable : fixed Net profit (20000/100000*Rs.6,50,000 1,80,000 7,20,000 4,80,000 2,00,000 1,00,000 1,30,000 5,20,000 1,00,000 6,20,000 3,00,000 1,80,000 contribution Less : fixed FOH fixed S&D Net profit 1,30,000 2,50,000 2,00,000 4,50,000 5,80,000 4,80,000

Selling and distribution: Variable

Cost Statement- production> sales

absorption
Sales (80,000 units @ Rs.15 per unit) Less: cost of goods Material Labor cost Factory overheads : Variable : fixed (Rs.) 12,00,000

Marginal costing
Sales (80,000 units @ Rs.15 per unit) (Rs.) 12,00,00 0

2,50,000 3,00,000 1,00,000 2,50,000 9,00,000

Less: cost of goods Material Labor cost Factory overheads : Variable

2,50,000 3,00,000 1,00,000 6,50,000

Less: closing stock Less: closing stock (20000/100000*Rs.9,00,000 other fixed overheads Gross profit Less : Selling and distribution: Variable : fixed Net profit (20000/100000*Rs.6,50,000 1,80,000 7,20,000 4,80,000 2,00,000 1,00,000 1,30,000 5,20,000 1,00,000 6,20,000 3,00,000 1,80,000 contribution Less : fixed FOH fixed S&D Net profit 1,30,000 2,50,000 2,00,000 4,50,000 5,80,000 4,80,000

Selling and distribution: Variable

 Opening stock 10,000 units (valued at marginal cost of Rs.61900 and total cost Rs.72000) Units produced 60000 units: closing stock 4000 units; units sold 66000 units; variable cost Rs.357000; FOH (f) Rs.70200;selling costsfixed Rs.50000; variable Rs.340000; selling price per unit Rs.20

Concept Of Contribution

Contribution is the difference between sales And the marginal (Variable) cost

Contribution =sales-variable cost C= S-V Contribution = Fixed Cost+ Profit C= F+P

Therefore

S-V = F+P

Contribution is the difference between sales And the marginal (Variable) cost

S-V=F+P

If any 3 factors in the equation are known The 4th could be found out
P=S-V-F P=C-F F=C-P S=F+P+V V=S-C.

PROFIT ? C=S-V
Sales =Rs 12,000 V Cost=RS 7,000 F Cost=Rs 4,000 =12,000-7000=5000

SALES? S=C+V =5,000+7,000 =Rs 12,000

P=C-F
=5,000-4000 =Rs 1,000

F COST? F=C-P =5,000-1,000 =Rs 4,000

V Cost? V=S-C
=12,000-5000 =Rs 7,000

Sales =Rs 12,000 V Cost=RS 7,000 F Cost=Rs 4,000

Profit Volume Ratio (PV Ratio)

(Expresses the relation of Contribution to sales)

Sales= Rs 10,000
P/V Ratio =Contribution Sales = C/S =S-V/S V Cost=Rs 8,000

C = S XP/V Ratio C S = -------P/V Ratio P/V Ratio=c/s =S-V/S =10,000-8000/10,000 =20%

Profit Volume Ratio (PV Ratio)

When PV Ratio is Given

C= SXPV Ratio

C= 10000X20% =Rs 20,000

Profit Volume Ratio (PV Ratio)

P/V Ratio =

Change in Contribution --------------------------------Change in Sales Change in profit ----------------------Change in Sales

Another Method

Year 2005

sales 20,000

net profit 1000

1600-1000 =-------------------x 100 22000-20000 600 = -----------x100=30% 2,0000

2006

22,000

1600

What Could be the Uses of PV Ratio?

Break Even Point Profit at Given Sales

Vol required to earn given Profit

How Improvement in PV Ratio Could be Achieved?

Increasing Selling Price

Reducing Variable Cost

Changing Sales Mix

Limiting Or Key Factor

a factor in short supply

Limiting Or Key Factor

a factor in the activities of an undertaking which at a point of time or over a period will limit the volume of out put

Limiting Or Key Factor

What Could be the Limiting Factors ?

Labour Materials Power Sales Capacity Machines .

Cost- Volume- Profit Analysis

Cost- Volume- Profit Analysis

Cost Of Production Selling Prices Volume Produced /Sold

Cost- Volume- Profit Analysis

Break Even Analysis Profit Volume Chart

Cost- Volume- Profit Analysis

Break Even Analysis

A point of no profit no loss

A point where revenue equals cost

What are BEP---assumptions

All costs are fixed or variable VC remains Constant Total FC remains Constant Selling Price dont change With Volume Synchronisation of Prod & Sales No Change in Productivity per workers

Cost- Volume- Profit Analysis

Break Even Analysis Methods
Algebraic Method Graphic Method

Cost- Volume- Profit Analysis

Fixed Cost BEP (Units) = --------------Contribution PU
ALGEBRAIC METHOD

= F S-V

Fixed Cost BEP (Rs ) = ----------------x Sales Contribution Fixed Cost = -----------------P/V Ratio

BEP (Rs)

Cost- Volume- Profit Analysis

Fixed Cost BEP (Units) = --------------Contribution PU
ALGEBRAIC METHOD

= F S-V

Fixed Cost BEP (Rs ) = ----------------x Sales Contribution Fixed Cost = -----------------P/V Ratio
F Cost=Rs 12000 S Price=Rs12 pu V Cost =Rs 9 pu Find BEP

BEP (Rs)

Cost- Volume- Profit Analysis

Other Uses
F Cost=Rs 12000 S Price=Rs12 pu V Cost =Rs 9 pu Profit when sales are

Profit at diff. Sales Vol.

a) Rs 60,000 b) Rs 1,00,000

Sales at Desired Profit

Cost- Volume- Profit Analysis

F Cost=Rs 12000 S Price=Rs12 pu V Cost =Rs 9 pu Profit when sales are C P/V Ratio= ----- = 3/12=25% S a) Rs 60,000 b) Rs 1,00,000

Profit at diff. Sales Vol.

WHEN SALES=Rs 60,000

contribution=salesxp/vratio =60000x25% =Rs 15000 Profit =contribution-fixed cost =15000-12000 =Rs3000

Cost- Volume- Profit Analysis

Other Uses
F Cost=Rs 12000 S Price=Rs12 pu V Cost =Rs 9 pu Sales if desired profit a) Rs 6000 b) Rs 15,000

Sales at Desired Profit

F Cost +Desired Profit Sales= ------------------------------P/V Ratio

Cost- Volume- Profit Analysis

Sales at Desired Profit
F Cost +Desired Profit Sales= ------------------------------P/V Ratio F Cost=Rs 12000 S Price=Rs12 pu V Cost =Rs 9 pu Sales if desired profit a) Rs 6000 b) Rs 15,000

12,000+6000 a)Sales= --------------25%

=Rs 72,000

CVP Analysis -question

P ltd has earned a profit of Rs 1.80 lakh on sales of Rs 30 lakhs and V Cost of Rs 21 lakhs. work out a)BEP b)BEP When V Cost decreases by5% c)BEP at present level when selling price reduced by5%

CVP Analysis S-V P/V Ratio=-------S 3000000-2100000 = -----------------------3000000 =30% Sales =VC+FC+P 3000000=2100000+FC+180000 FC =Rs 720000 7,20,000 BEP= ------------30%
=Rs 2400000

CVP Analysis -question

b) When V Cost increases by 5% New Variable Cost=2100000+5% =22,05,000 PV Ratio 3000000-2205000 3000000 =26.5%

BEP

=7,20,000/ 26.5% =Rs 27,16,981

CVP Analysis -question

c)When Selling Price reduced by 5% New SP=30000005% =Rs 28,50,000 Contribution=28,50,000-21,00,000 =Rs7,50,000 PV Ratio =7500000/2850000 =26.32%

FC+PROFIT Desired Sales= ------------------ = 720000+1800000 PV Ratio 26.32%

=Rs 34,19,453( appx)

BEP
Graphical Presentation

Break-Even Analysis
Remember: A higher price or lower price does not mean that break even will never be reached! The BE point depends on the sales needed to generate revenue to cover costs

Break-Even Analysis
Importance of Price Elasticity of Demand: Higher prices might mean fewer sales to break-even

Lower prices might encourage more customers but higher volume needed before sufficient revenue generated to break-even

Break-Even Analysis
Links of BE to pricing strategies and elasticity

Penetration pricing high volume, low price more sales to break even

Break-Even Analysis
Links of BE to pricing strategies and elasticity

Market Skimming high price low volumes fewer sales to break even

Break-Even Analysis
Links of BE to pricing strategies and elasticity

Elasticity what is likely to happen to sales when prices are increased or decreased?

 Sabre Products Ltd. makes and sells a single product. The variable cost is $3/unit and the variable cost of selling is $1/unit. Fixed costs total $6,000 and the unit sales price is $6. Sabre Products Ltd. budgets to make and sell 3,600 units in the next year. Draw a breakeven chart, and a P/V graph, each showing the expected amount of output and sales required to breakeven, and the safety margin in the budget.

Marginal Costing Cost Volume Chart

Construction Of PV Chart

1 select a scale on Horizontal axis---sales 2 Select a scale on Vertical axis- FC & Profit 3 Plot FC & Profit 4 Diagonal line crosses sales line at BEP

PV Chart Information

Fixed Cost =Rs 5000 Sales =Rs 20000(p.u RS 20) V Cost= Rs 10000 (p.u Rs10) Find PV Ratio, BEP, Profit?