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ZERO BASED BUDGETING
INTRODUCTION TO ZERO BASED BUDGETING
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From Rahul Sharma
TOPICS
1.Marginal costing2.Marginal cost3.Relationship b/w marginal costing and economies of scale4.Relevance of marginal private and social costs in marginalcost theory5.Features of marginal costing system6.Advantages of marginal costing system7.Disadvantages of marginal costing system8.Marginal costing as a management accounting tool9.Elements of decision making10.Relevant costs of decision making11.Basic decision making indicators in marginal costing
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Profit volume ratio
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Cash volume profit analysis
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Break-even analysis
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Margin of safety
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Shut down point12.Cash position and forecast13.Profit and loss forecast14.Profit planning
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MARGINAL COSTING AS A COSTING SYSTEM
Marginal Costing is a type of flexible standard costing thatseparates fixed costs from proportional costs in relation to theoutput quantity of the objects. In particular, Marginal Costing is acomprehensive and sophisticated method of planning andmonitoring costs based on resource drivers. Selecting the resourcedrivers and separating the costs into fixed and proportionalcomponents ensures that cost fluctuations caused by changes inoperating levels, as defined by marginal analysis, are accuratelypredicted as changes in authorized costs and incorporated intovariance analysis. This form of internal management accounting has become widelyaccepted in business practice over the last 50 years. During thistime, however, the demands placed on costing systems by costmanagement requirements have changed radically.
MARGINAL COST
marginal cost
is the change intotal cost that arises when the quantity produced changes by one unit. It isthe cost of producing one more unit of a good.
Mathematically, themarginal cost (MC) function is expressed as the firstderivativeof thetotal cost(TC) function with respect to quantity (Q). Note thatthe marginal cost may change with volume, and so at each level of production, the marginal cost is the cost of the next unit produced.A typical Marginal Cost Curve
In general terms, marginal cost at each level of production includesany additional costs required to produce the next unit. If producingadditional vehicles requires, for example, building a new factory, themarginal cost of those
extra
vehicles includes the cost of the newfactory. In practice, the analysis is segregated into short and long-run cases, and over the longest run, all costs are marginal. At eachlevel of production and time period being considered, marginal costsinclude all costs which vary with the level of production, and othercosts are considered fixed costs.A number of other factors can affect marginal cost and itsapplicability to real world problems. Some of these may beconsidered market failures. These may includeinformationasymmetries, the presence of negative or positiveexternalities,
transaction costs,price discriminationand others.
RELATION BETWEEN MARGINAL COST AND ECONOMIES OFSCALE
•
Production may be subject toeconomies of scale(ordiseconomies of scale).Increasing returns to scaleare said to
exist if additional units can be produced for less than theprevious unit, that is, average cost is falling.
•
This can only occur if average cost at any given level of production is higher than the marginal cost.
•
Conversely, there may be levels of production where marginalcost is higher than average cost, and average cost will rise foreachunit of productionafter that point. This type of production function is generally known as diminishingmarginal productivity: at low levels of production,productivity gains are easy and marginal costs falling, but productivitygains become smaller as production increases; eventually,marginal costs rise because increasing output (with existingcapital, labour or organization) becomes more expensive. Forthis generic case, minimum average cost occurs at the pointwhere average cost and marginal cost are equal (whenplotted, the two curves intersect); this point will
not
be at theminimum for marginal cost if fixed costs are greater than zero.
Short and long run marginal costs and economies of scale
The former takes as unchanged, for example, the capital equipmentand overhead of the producer, any change in its productioninvolving only changes in the inputs of labour, materials and energy.
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Marginal Costing
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