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**Marginal Costing and Cost Volume Profit Analysis
**

Meaning Marginal Cost: The tenn Marginal Cost refers to the amount at any given volume of output by which the aggregate costs are charged if the volume of output is changed by one unit. Accordingly, it means that the added or additional cost of an extra unit of output. Marginal cost may also be defined as the "cost of producing one additional unit of product." Thus, the concept marginal cost indicates wherever there is a change in the volume of output, certainly there will be some change in the total cost. It is concerned with the changes in variable costs. Fixed cost is treated as a period cost and is transferred to Profit and Loss Account. Marginal Costing: Marginal Costing may be defined as "the ascertainment by differentiating between fixed cost and variable cost, of marginal cost and of the effect on profit of changes in volume or type of output." With marginal costing procedure costs are separated into fixed and variable cost. According to J. Batty, Marginal costing is "a technique of cost accounting pays special attention to the behaviour of costs with changes in the volume of output." This definition lays emphasis on the ascertainment of marginal costs and also the effect of changes in volume or type of output on the company's profit.

**FEATURES OF MARGINAL COSTING
**

(1)

All elements of costs are classified into fixed and variable costs. Marginal costing is a technique of cost control and decision making. Variable costs are charged as the cost of production. Valuation of stock of work in progress and finished goods is done on the basis of variable costs. Profit is calculated by deducting the fixed cost from the contribution, i.e., excess of selling price over marginal cost of sales. Profitability of various levels of activity is detennined by cost volume profit analysis.

(2) (3) (4) (5) (6)

Marginal Costing and Cost Volume Profit Analysis

537

Absorption Costing Absorption costing is also termed as Full Costing or Total Costing or Conventional Costing. It is a technique of cost ascertainment. Under this method both fixed and variable costs are charged to product or process or operation. Accordingly, the cost of the product is determined after considering both fixed and variable costs. Absorption Costing Vs Marginal Costing: The following are the important differences between Absorption Costing and Marginal Costing:

(1)

Under Absorption Costing all fixed and variable costs are recovered from production while under Marginal Costing only variable costs are charged to production. Under Absorption Costing valuation of stock of work in progress and finished goods is done on the basis of total costs of both fixed cost and variable cost. While in Marginal Costing valuation of stOl!k of work in progress and finished goods at total variable cost only. Absorption Costing focuses its attention on long-term decision making while under Marginal Costing guidance for short-term decision making. Absorption Costing lays emphasis on production, operation or process while Marginal Costing focuses on selling and pricing aspects.

(2)

(3) (4)

Differential Costing Differential Costing is also termed as Relevant Costing or Incremental Analysis. Differential Costing is a technique useful for cost control and decision making. According to ICMA London differential costing "is a technique based on preparation of adhoc information in which only cost and income differences between two alternatives / courses of actions are taken into consideration." Marginal Costing and Differential Costing: The following are the differences between Marginal Costing and Differential Costing:

(1)

Differential Costing can be made in the case of both Absorption Costing as well as Marginal Costing While Marginal Costing excludes the entire fixed cost, some of the fixed costs may be taken into account as being relevant for the purpose of Differential Cost Analysis. Marginal Costing may be embodied in the accounting system whereas Differential Cost are worked separately as analysis statements. In Marginal costing, margin of contribution and contribution ratios are the main yardstick for the performance evaluation and for decision making. In Differential Cost Analysis. differential costs are compared with the incremental or decremental revenues as the case may be.

(2) (3) (4)

Advantages of Marginal Costing (or) Important Decision Making Areas of Marginal Costing The following are the important decision making areas where marginal costing technique is used : (I) Pricing decisions in special circumstances : (a) Pricing in periods of recession; (b) Use of differential selling prices.

Limitations of Marginal Costing (1) (2) (3) (4) (5) (6) (7) It may be very difficult to segregation of all costs into fixed and variable costs. (b) Product substitution. volume and profit relationship. Change Vs status quo. Decisions as to whether to sell in the export market or in the home market. (c) Product discontinuance. With the development of advanced technology fixed expenses are proportionally increased. Accordingly. (10) Break-Even Analysis.538 A Textbook of Financial Cost and Management Accounting. The elimination of fixed overheads leads to difficulty in determination of selling price. Marginal Costing does not provide any standard for the evaluation of performance which is provided by standard costing and budgetary control. output and the resultant profit. sales revenues. Shutdown or continue decisions or alternative use of production facilities. but in the long run all costs are variable. (8) (9) COST VOLUME PROFIT ANALYSIS Cost Volume Profit Analysis (C V P) is a systematic method of examining the relationship between changes in the volume of output and changes in total sales revenue. It will reflect in true profit. It does nnt con:::ider other functional aspects. Product mix decisions like for example : (a) Selection of optimal product mix. (2) (3) (4) (5) (6) (7) (8) (9) Acceptance of offer and submission of tenders. contract industries etc. Under Marginal Costing semi variable and semi fixed costs cannot be segregated accurately. Make or buy decisions. it is the analysis of the relationship existing amongst costs. a study of the following is essential : (1) Marginal Cost Formula Break-Even Analysis (2) . Therefore. expenses (costs) and net profit. Marginal Costing technique cannot be suitablf> for all type of industries. the exclusion of fixed cost is less effective. For example. In other words. Marginal Costing focuses its attention on sales aspect. it is difficult to apply in ship-building. To know the cost. contribution and profits are determined on the basis of sales volume. Whether to expand or contract. Retain or replace a machine. Under marginal costing elimination of fixed costs results in the under valuation of stock of work in progress and finished goods. It assumes that the fixed costs are controllable.

contribution will first covered fixed cost and then the balance amount is added to Net profit. sales area etc. Marginal Cost Equation The Following are the main important equations of Marginal Cost : Sales = Variable Cost + Fixed Expenses ± Profit I Loss (or) Sales .Fixed Expenses Profit Sales .Variable Cost = Fixed Cost + Profit = = . (3) (4) (5) (6) It helps in the determination of break-even point and the level of output required to earn a desired profit. The PN ratio serves as a measure of efficiency of each product.Variable Cost = Contribution Contribution = Fixed Cost + Profit The above equation brings the fact that in order to earn profit the contribution must be more than fixed expenses. factory. To avoid any loss.Marginal Costing and Cost Volume Profit Analysis 539 (3) (4) Profit Volume Ratio (or) PN Ratio Profit Graph Key Factors and Sales Mix (5) (6) Objectives of Cost Volume Profit Analysis The following are the important objectives of cost volume profit analysis: (1) (2) Cost volume is a powerful tool for decision making." Contribution enables to meet fixed costs and profit. It enables the management to establish what will happen to the financial results if a specified level of activity or volume fluctuates. and thus helps the management to choose a most profitable line of business.Marginal Cost Contribution = Sales .Variable Cost Contribution Fixed Expenses + Profit Contribution . the contribution must be equal to fixed cost. Contribution can be represented as: Contribution = Sales .Variable Cost = Fixed Cost ± Profit or Loss (or) Sales . It makes use of the principles of Marginal Costing. Thus. It also termed as "Gross Margin. Contribution The term Contribution refers to the difference between Sales and Marginal Cost of Sales. It helps us to forecast the level of sales required to maintain a given amount of profit at different levels of prices.

2.5. 5.000 Rs.00.00. 10 Output level 1.C+P S-V. volume and profit at various level of activity.(l.000 units Solution: Contribution = = = = = = = = = Contribution Rs. A concern is said to break-even when its total sales are equal to its total costs.00.00. This is a point where contribution is equal to fixed cost.000 .:: Fixed Cost P = Profit V = Variable Cost Illustration: 1 From the following information.Rs. calculate the amount of profit using marginal cost technique: Fixed cost Rs. 3.OOO Fixed Cost + Profit 3. The term Break-Even Analysis is used to measure inter relationship between costs.00.000 Rs.000 Profit Profit Selling Price .00.OOO x 5) 10.OO.OO.Fixed Cost Rs. It is a point of no profit no loss. The break-even point can be calculated by the following formula: Break-Even Point in Units (1) Break-Even Point in Units =-------Contribution per unit Total Fixed Cost (or) B E P (in units) = F C Total Fixed Cost SeIling Price Per unit Variable Cost Per unit (2) Break-Even Point in Units = .000 Break-Even Analysis: Break-Even Analysis is also called Cost Volume Profit Analysis.000 Variable cost per unit Rs.C C=F. 5. In other words.C+P C-F.C=F.00. 5 Selling price per unit Rs.000 . the break-even point where income is equal to expenditure {or) total sales equal to total cost.C=P Where: C = Contribution S = Sales F .00.Marginal Cost (1.00.000 + Profit Contribution .540 A Textbook of Financial Cost and Management Accounting (or) C=S-V.000 x 10) .00.5. 3.

Variable Cost (or) FxS = S-V Fixed Cost Variable Cost 1Sales (or) (2) Break-Even Sales = = 1- F V S Fixed Cost (3) Break-Even Sales = P I V Ratio Contribution x 100 Sales Profit Volume Ratio (PI V ratio) = Illustration: 2 From the following particulars find out break-even point: Fixed Expenses Rs.Rs. 20 . 5 = = = Rs. 15 = Selling Price per unit . 4. .00.000 units BE P in Sales 20.000 5 20. 15 Solution: Fixed Cost Break-Even Point in Units Contribution per unit = Contribution per unit Rs.000 x Rs.00. 1.Marginal Costing alld Cost Volume Profit Analysis 541 Break-Even Point in Sales Volume Fixed Cost x Sales (J) Break-Even Sales = Sales . the relative profitability of different products. It is used to measure the relationship of contribution. 1.00.000 Selling price Per unit Rs. 20 Variable cost per unit Rs.000 Profit Volume Ratio (P I V Ratio) Profit Volume Ratio is also called as Contribution Sales Ratio (or) Marginal Income Ratio (or) Variable Profit Ratio.Variable Cost per unit = B E P (in units) = Rs. processes or departments. 20 = Rs.

Variable Cost x 100 (2) PI V Ratio = x 100 (or) Sales Fixed Cost + Profit S-V x 100 S F+P x 100 S (3) PI V Ratio = x 100 (or) Sales When we find out the P I V Ratio..20. 5. Rs.... Break-Even Point can be calculated by the following fonnula : (a) B E P (Sales volume) = ----PI V Ratio Fixed Cost (b) Fixed Cost = B E P x P I V Ratio (c) Sales required in units to maintain a desired profit: Fixed Cost + Desired Profit PIV (or) Ratio =. 5.x 100 Sales Contribution Total Sales Selling price per unit = = Sales ..000 100 60 1..00. 100 .542 A Textbook of Financial Cost and Management Accounting The following fonnula for calculating the P I V ratio is given below: (I) PI V Ratio Contribution = (or) C S Sales Sales . Rs.Variable Cost Rs.000 Solution: (1) P / V Ratio Contribution = .000 Rs. calculate New Break-Even Point: Total sales Selling price per unit Variable cost per unit Fixed cost Rs.PI V Ratio Required Contribution New Contribution per unit F+P (or) = (d) Contribution = Sales x P I V Ratio (e) Variable Cost = Sales ( 1 .P I V Ratio) Illustration: 3 From the following information calculate : (I) P I V Ratio (2) Break-Even Point (3) If the selling price is reduced to Rs. 80.00. Rs..

000 .000 100 Rs.000 Variable Cost 60% You are required to calculate: (1) (2) (3) P I V Ratio Fixed Cost Sales volume to earn a profit of Rs. 5.20.00.000 40 100 = :.Variable Cost Rs.000 100 .000 = 1.20. 2. 5.00. 1.00.000 x 100 PI V Ratio = = :. 80 : Sales = = = = = 5.vt Volume Profit Analysis 543 5. 3.000 Solution: Sales Variable Cost Variable Cost = = = Rs.000 Fixed Cost Contribution per unit (or) Fixed Cost Selling Price .000 Rs.00.20.00.000 Profit Rs.Marginal Costing and Co. 4.000 60% 60 .000 100 Sales in units Contribution = = 5000 units = = Rs. 5..000 .00.00. 3.00.000 40 Rs. 50.(5000 x 60) Rs.000 Rs.000 x 80 Break-Even Point (in units) Break-Even Point in Sales = = 80 .00.000 Fixed Cost P I V Ratio Rs.20.000 units x Rs. 80 Rs.00. 2.Rs.00. 3.:: x 100 = 40% (2) Break-Even Point in sales = 1.00.000 = Rs. 2.:: (3) If the Selling price is reduced to Rs.x 2.20.000 40% 1. 1.000 units Illustration: 4 Sales Rs. 20.50 4.20.000 30 =4. 2.00.

00.000 80. 80.000 Fixed Cost + Desired Profit P / V Ratio Rs.00.000 Rs. 60. 50. 50.00. 60. 20.000 x 100 = 40% = = Sales Fixed Cost + Profit (or) Sales .10. 20. 1. 1.20. 1.Rs.000 + Rs.000 Break-even point = Rs.000 Sales . 2.000 Fixed Cost 2. 60 per unit Solution: (a) Break-Even Point = = = Fixed Cost PlY Ratio Fixed Cost P I V Ratio Break-Even Point 8.20.75.Rs.000.000 (3) Sales volume to earn a profit of Rs.000 2. calculate : (a) P / V Ratio (b) Profit when sales are Rs. 40.Variable Cost Sales 2.000 Fixed Cost + Profit Fixed Cost + Rs.00.000 .000 = Rs.000 .000 = 40% Rs.000 Variable cost = Rs. 1.000 x 100 20.000 x 100 x 100 = (2) Contribution Contribution Contribution 80. 8.10.000 . and (c) New break-even point if selling price is reduced by 10% Fixed cost = Rs. 80.20.000 = Rs.1. 20000 Rs. 2.000 = = 40 100 Rs.544 A Textbook of Financial Cost and Management Accounting = (1) P / V Ratio Rs.Variable Cost Rs.000 = 40% .000 = x 100 40 Illustration: 5 From the following particulars.

000). The sales manager is convinced that by improving the quality of ingredients (increasing variable cost to Rs. 24. chocolate.002. sales volume could be doubled. produces a chocolate almond bar.002. not fully satisfied with the profit performance of chocolate bar.15. labour) total Rs.000 (c) New break-even point if the selling price is reduced by 10%. 8. almonds. The CEO of MNP Ltd.000 to 8.60 x 100 = 33. what is the maximum amount that can be spent on advertising.00. If the company CEO's goal is to increase this year's profits by 50% over last year's. The variable cost for each bar (sugar.00. Each bar sells for Rs.33% = 90 Fixed Cost New Break-Even Point = New P I V Ratio 8. 30. 60 Per unit Selling Price .000 . 90 (100 . Required (I) The sales manager is confident that an advertising campaign could double sales volume. The total fixed cost are Rs. increase the selling price Increase the selling price Combination of three. 8.40 33.000 = Rs.000 = New Break-Even Point = Rs. Answer the following questions: (a) How much the selling price be increased to maintain the same break-even point? (b) What will be the new price. 16. Assume that the company improves the quality of its ingredients.. 10.000 bars were sold.000 Rs. He has also indicated that a price increase would not affect the (4) . 15) and by advertising the improved quality (advertisement amount would be increased by Rs.000 bars. 20. was considering the following options to increase the profitability : (I) (II) (III) (IV) Increase advertising Improve the quality of ingredients and.00. it will be Rs.33% = Rs.e.40 Illustration: 6 MNP Ltd.50.Rs. During the year. if the company wants to increase the old contribution margin ratio by 50%? (2) (3) The company has decided to increase its selling price to Rs.000 x 40% . The sales volume drops from 10.10) Variable Cost New PI V Ratio = = Rs. 24. 8.000.Fixed Cost Rs. 100. 40. i.Variable Cost x 100 Selling Price 90 . wrapper.00. If the selling price is Rs.000 Profit = = = Sales x P I V Ratio .00. now it is reduced by 10%. 40. 50. Was the decision to increase the price a good one? Compute the sales volume that would be needed at the new price for the company to earn the same profit at last year. 25.Marginal Costing and Cost Volume Profit Analysis 545 (b) Profit when sales are Rs. simultaneously. thus increasing variable cost to Rs. 12.Rs.

00. 52. 7.50.50 4.546 A Textbook of Financial Cost and Management Accounting ability to double sales volume as long as the price increase is not more than 20% of the current selling price.000 Rs.000 Rs.00.00.00.50. 82.00.50.000 units x 7.00.00.22.00 Rs.00.00.000 67.000 7. Rs.50 x 20.000 bars) Less: Desired Operating Profits Less: Fixed Cost (other than Incremental } Advertising) Maximum amount that can be spent on } Advertisement = = = = = = = = = = = = = = Rs.000 x Rs.50 Rs.20.000 S .50 Less : Fixed Cost Profit (1) Desired Profit Rs.000 Rs.00.00.50 20 = .50 2.000 = = S 4.000 Rs.000 4. 12.00.000 Rs.50 Let S =Desired Selling Price 4.50 . 15 per bar Fixed Cost Selling Price .00.000 Rs.15 30.000 bars (2) (a) Variable cost increased to Break-Even Point (Most recent year) = 30. Is the sales manager's plan feasible? What selling price would you choose? Why? (CA.000 1.12. increased by = Rs.. 45.Rs.'.000 Rs.50 Contribution (Rs.7.x 100 =12.50% .00. PE.000 Sales .00.000 20 .50. 75. Rs.000 =7.000 = 3.00. S Selling Price.50 67.50. 45.00.50 + 15 = Rs. 1. 30. 22. Rs. Compute the selling price that would be needed to achieve the goal of increasing profits by 50%. 2002) Solution: Contribution Analysis of operating result of a most recent year: Selling price Less : Variable Cost Contribution For 10.Variable Cost 30. 30.Variable Cost 30.

30. 7. .Variable Cost Per bar Rs.375 depends on the assessment of above two factors. 147. 45.000 = 12 . 70 lakhs: Desired Sales Qty.375 = Rs.000 .75% Rs. if Co.00.50 = Rs.22. (b) New Price.000 S 20.000 Rs.00.00.000 Rs.2857 Rs.50) 43. wants to increase old contribution margin ratio by 50% Old contribution margin ratio Desired to increase at 56.375 2. 70.12.5 lakhs S .00. 80 lakhs S Let desired selling price be Then desired Selling price needed to achieve profit goals of Rs.Variable Cost Per unit Rs.50 .000 bars Fixed Cost + Desired Profit = S .25 8. S Yes.'.000 + Rs.25% = = = = = = = = = = = 7.00.Variable Cost Rs.50 Rs.30 lakhs to Rs. 30.12.50.x 100 = 37.5 lakhs 20.375 + 15 .875% is required Is market so big? Will competitors not follow aggressive strategy when it hurts them? (2) The choice of selling price of Rs.00.00.Rs.22.12.00. 15 0.4375 Rs.50% 20 (37. (4) Variable cost per bar = Rs.000 bars. Sales manager's plan seems feasible As price increase of to achieve desired profit but the caveat is : (l) = 20 x 100 = 11.00. 25 .000 Rs.Marginal Costing and Cost Volume Profit Analysis 547 2.000 bars Sales .. 80 lakhs + Rs. 45 lakhs to Rs. 15 Rs. Variable Cost I Sales Hence new Selling Price (3) New Selling Price New sales Volume Contribution Contribution Less : Fixed Cost Operating profit The decision seems to be good one as operating profit has increased from Rs.00.00. 22. 67.375 Rs.50 6. 67.50 + 50% of 37.000 x 12.34.000 \ = 20.50 8. 15 Fixed cost increased due to advertising = From Rs. Fixed Cost + Desired Profit = Selling Price . 1..00.

if the packing is improved at a cost of Re. 3.00.) Selling price Less : Variable Cost : Method II (in total Rs.00.90 6.00 0.000 3.000 units at a price of Rs.000 6. affect the company's existing business.00.) 15.50.>ent level of l. However. 18 per unit.50.000 2. in any way.000 15.00 2.000 Direct Materials Direct Labour Production overhead : Variable Fixed Administration Overhead (Fixed) Selling and Distribution Overheads: Variable Fixed Profit 12.000 90. there will be 100% capacity utilization. will that expenditure be justified? If the selling price is reduced by Rs.000 is made on advertising the sales would increase from the pre.00.000 1.000 You are required to evaluate the following options: (I) What will be the amount of sales required to earn a target profit of 25% on sales.50.? If an expenditure of Rs. Also this will not.50 Direct materials Direct Labour Production Overheads Selling Overheads Total variable Cost Contribution (Sales-Variable Cost) .00.000 1.00 3.000 8.15 per unit Less : Cost of Sales : 15. in this case there will be no selling and distribution expenses.000 3.000 60. Sales: 1. subject to providing a packing with a different brand name at a cost of Rs.000 2.20.50.l per unit? There is an offer from a large retailer for purchasing 30.00.50 8. Rs.00.00.000 units per annum.000 90.000 60. What be the break-even price for this additional offer.548 A Textbook of Financial Cost and Management Accounting Illustration: 7 A Company manufactures a single product with a capacity of 1. The summarized profitability statement for the year is as under: Rs.00.000 units per annum.50.000 3.000 units @ RS.ooo units to 1. Will the reduction in selling price be justified? (C A Inter.50.50.oo.60 0.000 2. May 2(01) (2) (3) (4) Solution: Method I (Per unit Rs. 2 per unit. 2 per unit.

C.00.25 X 50% Rs. Hence the price should atlest cover Rs.Variable Cost) P / V Ratio = Contribution Sales x 100 = 7. unit price to break-even is Rs. Sales in units Sales in volume (2) Option II : = = = = 1.6.50.000 1.50 x + Rs.'.000 x 7. Therefore.000 Present Marginal Cost Less : Variable selIing Cost Net cost per unit Add : Special packing Cost Total Variable Cost per unit Total Variable Cost for 30.00 7.25 x 100 50 Alternative Solution: Let the number of units to be sold The equation is : Sales 15 x =X = = Variable Cost + Fixed Cost + Profit 7.) Add : Additional Cost of Packing Revised Contribution } (Sales .) 6.00 Rs.OO.000 + 0.5.6.50 Method II (in total Rs.50.00.00.50 1. 24.000 = = = Rs. 6.75 x Transposing and solving we get 3.60.00. 2.60 Rs.00.Marginal Costing and Cost Volume Profit Analysis 549 Evaluation of Options (1) Option I: Method I (Per unit Rs.60 30.000 units = = = = There is no impact of this transactions on fixed cost. 24.50. 760.000 7.60. .000 x 15 = Rs.60.000.000 units 1.000 =50% 6.0.75 x = Rs.000 50% Let the proposed sales be equal to X Sales X = = = (Fixed Cost + 25% of X) 50% 6.) Present Marginal Cost (V.000 X .28.ooo + 3.60 Rs.000 + 0.00.75 1.000 Sales = 6.90 Rs.2.00.50 Rs.7.000 6. 2.28.00.000 15.000 units 3.

000 Rs.25.00.80.20.000 20. of units sold Marginal contribution Fixed costs Profit I Loss Rs.000 = 40% P I V Ratio 10.50.C. Contribution = Selling Cost . 20. Rs.000 x 11.000 Rs. 6.000 5. the proposal is justified.550 (3) Option III : A Textbook of Financial Cost and Management Accounting Revised Contribution when selling price is Rs.20.000 .000 Total contribution 1. 6.000 Additional 3.OOO x Rs.20.000 Rs. 6.50) Less: Fixed Cost Profit (contribution .000 = Profit = Rs.000 (100 .000 Rs.50.50 Rs.50 1.000 As the profit increases.50 = Rs.000 units Quantum of sales = Rs.000 Rs.000 Contribution = Rs.000 = 8.OOO 4. '.000 2.50 60 10.80.00 Rs.000 20.1O.50.000 Sales volume Units = 50000 10000 = Rs.Rs. 18 . 13.12.50.50.000 Rs.50.75. 15 .000 Since the profit is increased by (Rs.75. 1.000 3. 9.00.00.000 . 3.Rs. Illustration: 8 Fill in the blanks for each of the following independent situation : A B C Rs. 3. 2. (4) Option IV: Revised price Rs.60) =40% 20.00. 20 75 D E Selling Price per unit Variable Cost as % of } Selling Price No. 12.000 the proposal is acceptable. 60.15. 6:50 Rs.30 75 6.000 units (l. 13.000) Rs.9. Rs.) Total constriction at 1. 1.20.50 = Less: Fixed Cost: Present 6.75. 11. 18 .2 Less : Marginal Cost Contribution (selling costing-V.000 Solution: (A) Profit Contribution P I V Ratio Sales Units Sold Selling Price = = = = = = = Co]ntribution .25. 4.5 .30.000 Rs.Fixed Cost) As per problem normal profit is Revised profit is Rs.80.000 Rs.000 Rs.Fixed costs Rs.75.000 Rs.Variable Cost = Rs.OOO} Rs.000 Rs.000 Rs.

2. 50.000 .000 Rs.000 Rs.(00) Variable Cost (60% of sales.000 Variable cost as % of selling price Fixed Cost (Contribution . 20 Rs.Marginal Costing and Cost Volume Profit Analysis 55/ (B) Sales 4000 units X Price Rs.000 + Rs.000 (C) Contribution (Fixed cost + Profit) Rs.00.20.00.000 Rs.Profit) = Rs. Margin of safety can be improved by : (a) Increasing the selling price (b) Reducing the variable cost (c) Selecting a product mix of larger PN ratio items (d) Reducing fixed costs (e) Increasing the output Margin of Safety can be calculated by the following formula: (1) Margin of Safety (2) Margin of Safety = Total Sales .50. 80. 16.000 x 100 25 P I V Ratio Sales (100 .000 5 =30. (0) Profit (Contribution .000 .000 1.000 Contribution P I V Ratio 6.000 = 1.000 Contribution per unit 25% of Rs.000 Rs. 1.Profit) Rs.00.000 Margin of Safety: The term Margin of safety refers to the excess of actual sales over the break-even sales.000 ~) 100 Fixed Cost (contribution .000 .75) =25% = 25% = = Rs.C. 1.l. 20. 30 =Rs. 15.50.10. 1.000 .50 Contribution (S .Rs.50.000 .000 = 1. It is known as the Margin of Safety.5 No.000 x 100 = 66.000 units. 35.000 = Rs.67% Variable cost (Sales . 2. of Units No.00.Contribution) Rs. 2.000 x = = = = = = Rs.000 =Rs. i.000 25. 30.V. Margin of safety can also be expressed as a percentage of sales.000 Units Contribution No. 15.000 6.Fixed Cost) 25. 60.Rs.000 25.000 units x Rs.e.Rs.50. of units Price per unit =Rs.50.20. 1.OO.. 1. 1.OOO = 1. of units = = = = = Contribution Contribution per unit = 1.00. 80.00.67 (E) Sales 5.Break-Even Sales = = = Profit P I V Ratio Profit Contribution x Sales (3) Margin of Safety (4) Profit Margin of Safety x P I V ratio .50.20. = Rs.

3.Break-Even Sales x 100 Total Sales x 100 Illustration: 9 From the following particulars.000 .1.Fixed Cost =Rs. 3.000 Solution: Margin of Safety = = Profit P I V Ratio (or) Actual Sales . 1.50.000 50% x 100 = Rs. 1.00.00. 1.000 .000 Rs.552 (5) Margin of Safety expressed as percentage: Margin of Safety A Textbook of Financial Cost and Management Accounting = = Margin of Safety Total Sales (or) Actual Sales .00.000 = Margin of Safety = = Profit P I V Ratio 50.1. 1.00.Variable Cost Sales 3.000 Rs.50.50.Break-Even Sales Sales .000 .000 50 50.000 = 50% x 100 = Rs.000 = Contribution .000 = Rs.Rs. 2. 3. calculate Margin of safety : Fixed cost Variable cost Total Sales Rs.000 Rs.00.00.000 x 100 1.00.00.00. 1.000 .2.1.00.000 .000 Margin of Safety Alternatively : Contribution Profit = Sales .00.Break-Even Sales Rs.50.00.000 P I V Ratio = = x 100 = x 100 P I V Ratio Break-Even Sales = = = = = = = Rs.OO. 1.000 3.000 50% 50% Fixed Cost P I V Ratio 1.50. 1.Variable Cost = Rs. 50.50.000 = Rs.000 50 Actual Sales .00.000 3.

17.00. beyond this an additional Rs. Nov. 95. 25 . Fixed Cost Rs. The cost data are as under: Material Cost Rs.000 . if break-even point is to be brought down to 40% activity level? (C A. Labour Cost Rs.75 per unit) Rs. 1.25 per unit. Rs.Rs. 2000) Solution: Working Notes: (a) Variable cost per unit : Material cost per unit Labour cost per unit Semi Variable cost per unit Variable Cost per unit Rs. currently utilizing 80% capacity with a turnover of Rs.3.000 x 100 Rs. 8.OO. 20. Inter.000 at Rs.50 (b) Contribution per unit: Contribution per unit = Selling price per unit .50 per unit. Semi-Variable Cost (including variable cost of Rs.000 Rs.20. 90. 3.75 x 32000 units) Fixed cost in semi-variable cost = = = = = = Rs.000 60.50.25 per unit. 90. Number of units to be sold to earn a net income of 8% of sales.Variable cost per unit Rs.000 Rs. What should be the selling price per unit.000.000 (d) Total Fixed cost upto 80% level : Fixed cost upto 80% Add : Fixed cost in Semi variable cost Total Fixed cost upto 80% level Rs.OOO 33.80.50 per unit. 3. Activity level needed to earn a profit of Rs. 60. 7.75 17.000 upto 80% level of output.Marginal Costing and Cost Volume Profit Analysis 553 Margin of Safety expressed in percentage of sales: = = = Illustration: 10 Margin of Safety Actual Sales Rs.75 per unit (Rs.50 Rs. 1.80. (c) Fixed cost in Semi Variable Cost: Total semi variable cost Less: Variable cost @ Rs. 6.25 3.000 will be incurred. Calculate: (1) (2) (3) (4) Activity level at Break-Even Point.00.000.000 Rs.33% x 100 A company manufactures a product. 1. 7. 3. = = = = = = 7. 1. I .50 6.

000 = Rs..5 X + 1.Rs.554 (e) Total Fixed cost above 80% level: Fixed cost upto 80% Level Add: Fixed cost in Semi-variable cost Add: Additional Fixed cost Total Fixed cost above 80% level (I) No.25% of sales Rs.000 Rs.000 .000 Rs.50.50.5) .000 = Rs. 7.000 .Fixed Cost (32.7.000 units 25 (g) No. Rs.000 Rs.00.000 x Rs.000 units 80 Sales units x Contribution per unit .. 90.25% Fixed Cost = 11.000 (1) Activity level at B E P : Fixed Cost Activity level at B E P = Contribution per unit Rs.000 = 40. 1. 8.000 1.000 . 90.5 X = Variable Cost + Fixed Cost + Profit 17. of units produced at 80% level No.000 units Activity level = =X = = = 20. 1.000 = Rs.000 60.000 Total Turnover Per unit No.19.50.50.00.70.50.Rs.000 units 32. 2.000 = 32. of units produced at 100% level: No.000 + 2X (or) 19. Rs. 25 8. of units produced at 100% level = = = = 32. of units produced at 80% level: A Textbook of Financial Cost and Management Accounting = = = = = Rs. 90.x 100 40.40. 1. 1.000 (h) Profit at 80% level of activity: Profit = Percentage to sales (i) So upto desired profit Rs.5 =20.000 20.ooo 8.000 =50% level (2) Number of units to be sold to earn a net income of 8 % of sales: Suppose Sales Unit Equation: Sales 25 X 25 X 25 X . 1.00.000 = 11. of units produced = = Rs.5 X + 1.50.50.90.

875 + Rs.33% = 40% Activity level (4) Selling price per unit required to bring down B E P to 40% activity level: = = = = 40% of 40.000 x 100 =16.26. 17. Such a chart not only indicates break-even point but also shows the estimated cost and estimated profit or loss at various level of activity.333 units Activity Level = Sales No.000 units Selling price to Break-Even at the level Fixed Cost + Variable cost per unit Sales 1.000 Sales = ----------Contribution per unit 1. profit or loss.000 7.9.000 1. 26.000 88.000 40 40. sales and profit.333 x 100 x 100 = 40.273 units 5.50 Rs.5 X X = = = 27.5 Fixed Cost + Desired Profit = = 35. 95. .000 5. The chart depicts fixed costs.50.50. hence fixed cost will be Rs. break-even point.5 (3) Activity level needed to earn a profit of Rs.875 I.000 : The profit amount can be achieved at over 80% level. 1. margin of safety and the angle of incidence.000 + 95. of units produced at 100% level 35. 17. Break-Even Chart A break-even chart is a graphical presentation which indicates the relationship between cost.70. Break-even point is an important stage in the break-even chart which represents no profit no loss.375 + Rs.Marginal Costing and Cost Volume Profit Analysis 555 1.50 Selling price per unit } required to bring down B E P to 40% activity level = = =Rs. variable cost.000 16000 Rs.50.70.

The variable cost line is joined to fixed cost line at zero level of activity. c .. we can understand the following points : (1) (2) (3) (4) (5) (6) (7) (8) (9) (10) Cost and sales revenue are represented on vertical axis.... The point of intersection of total cost line and sales line is called the break-even point which means no profit no loss..ooo) Total Cost Variable cost 75 50 F . The sales line is plotted from the zero level.+ . .. volume and profit : Y 150 Profit Angle of incidence 125 B.E.e..P 100 Cost and Revenues (Rs. Variable costs are drawn above the fixed cost line at different level of activity... X-axis.Fixed cost 25 o 50 100 150 200 250 300 x Output in Units From the above break-even chart.556 A Textbook of Financial Cost and Management Accounting The following Break-Even Chart can explain more above the inter relationship between the costs.. The area below the break-even point represents the loss area as the total sales and less than the total cost.. i. Volume of production or output in units are plotted on horizontal axis. The area above the break-even point represents profit area as the total sales more than the cost. Y-axis. ... i. Fixed cost line is drawn parallel to X-axis. . The margin of safety is the distance between the break-even point and total output produced.. it represents sales revenue. The large angle of incidence indicates a high rate of profit and vice versa.e... The sales line intersects the total cost line represents the angle of incidence.

(2) (3) (4) (5) (6) (7) (8) It helps to measure the profitability of various products. Limitations of Break-Even Chart (1) It is based on number of assumptions which may not hold good. It is computed as under: Cash Break-Even Point Illustration: 11 From the following information calculate the Cash Break-Even Point: SeIling . Market environment etc. It helps to determine the break-even units. It is useful to measure the relationship between cost volume and profit. It enables to determine total cost. are the important aspects for managerial decisions.50.500 units Cash Break-Even point in units = = Advantages of Break-Even Chart (1) It enables to determine the profit or loss at different levels of activities. It assists future planning and forecasting. A break-even chart does not take into consideration semi-variable cost. 60 Rs. . valuation of opening stock and closing stock. Cash Break-Even Chart depicts the level of output or sales at which the sales revenue will be equal to total cash outflow. fixed cost and variable cost at different levels of activity. 2. Non-cash items like depreciation etc.20 Cash Fixed Cost Contribution per unit 1.000 = Rs. 40 Rs. Cash Break-Even Point In cash break-even chart. only cash fixed costs are considered. 2. These aspects are not considered in break-even chart. 50.price per unit Variable cost per unit Fixed cost Depreciation included in fixed cost Rs. 1. Government policy.e.000 Rs.Marginal Costing and Cost Volume Profit Analysis 557 II. output and sales volume.000 = Cash Fixed Costs Contribution per unit Solution: Cash Fixed Cost =Rs. This chart is very useful for effective cost control.000 .00.Rs.40 = Rs. 50.000 =60 .50. are excluded from the fixed costs for computation of break-even point.00. Capital employed. It facilitates most profitable product mix to be adopted. i. (2) (3) (4) (5) Break-even charts are rarely of value in a multi-product situation.000 20 = 7. Determination of seIling price is based on many factors which will affect the constant selling price..

40. What do you understand by Break-Even Analysis? 13. What do you understand by Cost Volume Profit Analysis? 9. Relationship between Angle of Incidence. 11. A large angle of incidence indicates a high rate of profit and on the other hand a small angle of incidence means that a low rate of profit. Break-Even Sales and Margin of Safety Sales (1) When the Break-even sales are very low.000. 40. 15. What are the differences between Absorption costing and Marginal costing? 4.000 Ascertain the effect of 10% reduction of selling price on (a) P I V ratio and (b) Break-Even Point. From the following particulars.000 units (c) Margin of Safety Rs.000.20. (c) New break-even point if seIling price is reduced by 20% is Rs.000 (d) Profit Rs.000 is Rs. the angle of incidence will be narrow with much lower margin of safety sales. you are required to find out (a) Contribution (b) Break-even point in units (c) Margin of safety and (d) Profit Total Fixed cost Rs. 6. 32. Briefly explain the relationship between Angle of Incidence.3.000.000 units Units sold Also calculate the volume of sales to earn profit of Rs. 10. [Ans : (a) P I V Ratio 40% . [Ans : (a) Profit volume ratio 40%. When the break-even sales are low.000 [ADS: (a) Contribution Rs. (2) (3) QUESTIONS 1. = .500 (b) Break-even point in units Rs. Briefly explain the advantages and limitations of Marginal costing. 1. What do you understand by Marginal Costing? 2. 3. 7. What are the important decision making areas of Marginal costing? 7. 3. the profit earning rate is not very high as in the earlier case. Compare and contrast Marginal costing and Differential costing.000.md limitations of Break-Even Chart 15. 8. What is Contribution? How it is computed? 12. (b) Margin of Safety. From the following data. Contrary to the above when the break-even sales are high. What is meant by Differential costing? 5.500 Total Sales Rs. (b) Profit when sales are Rs. with large angle of incidence. (c) Break-Even chart.00. 2.000.000 Fixed expenses Rs. it indicates that the firm is enjoying business stability and in that case margin of safety sales will also be high. (b) Profit when sales are Rs. but not very low with moderate angle of incidence.000] 17. 8. New BEP = Rs. calculate: (a) P I V Ratio. 16. From the following particulars you are required to calculate (a) P I V ratio and (b) Break-even point: Present sales Rs. Break-Even Sales and Margin of Safety. The angle of incidence is used to measure the profit earning capacity of a firm. 14. 40.00.000 5. 10. 4. (a) Break-even point Rs.000. 6.500 Total Variable cost Rs. Fixed Expenses Rs.20. 1. (d) Angle of Incidence.558 -A Textbook of Financial Cost and Management Accounting Angle of Incidence The angle formed by the sales line and the total cost line at the break-even point is known as Angle of Incidence. Define Marginal Costing Briefly explain the features of marginal costing. New PI V Ratio 33%. Break-Even point Rs. 8. Write short notes on : (a) Profit Volume ratio. (c) New break-even point if selling price is reduced by 20%. 7. Explain Marginal cost equation. in that case though the business is stable.000 Variable cost Rs. 6. Briefly explain the objectives of cost volume profit analysis. Also calculate the sales required to maintain the profit at the present level.000. Briefly explain the advantages .] 18. 1.

93. 21. (c) Sales required to earn a profit of 10% of sales. Calculate: (a) BEP Volume and Value. 7.000 Sales Variable costs 3. Overheads: Fixed Rs.Rs. 6. 9.Rs. . 3.88. [Aos: B. [Aos: (a) BEP Volume . (b) Sales .000 units. You are asked to estimate total fixed costs. 20. 40. The budgeted fixed costs and sales are Rs.60.000 units.500) Plant I produces a product which costs Rs.50. Rs.98. of Units to be sold to earn a profit of Rs.) The following are the cost information in relation to the manufacture of a product: Selling price .1.000.96. 8.52.000 Variable 100% of labour cost Calculate: (a) BE P. 3 per unit Labour .000 Find out the break-even point at (i) the budgeted data (ii) assuming 20% increase in variable cost.000 units. 10.000) The following are the budgeted data of a company. 2.000. 5.000 [Aos: Sales in Units 1.) From the following data. Fixed selling costs .40. 2. 4.000 units Selling price per unit Rs.500.000. 24. Value .81. 11 per unit Variable selling price Rs.Marginal Costing and Cost Volume Profit Analysis (b) Sales required to maintain the profit at the present level.000 respectively.000 units) Present production and sales : 8. Value . Required Sales Rs.50 per Unit when produced in quantities of 20.Rs. 23. 2 per unit 559 19. 20000. 5. 60. 26.50 Variable overhead Rs 100% of direct labour cost Direct materials Rs. 20 Variable cost per unit Rs.40. 3 per unit Fixed factory overhead Rs.(00) Calculate No. 3. 50. Selling price per unit Rs. 11 per unit Variable selling cost .000 per year. 20 unit Variable manufacturing cost .Rs. 3 per unit.Rs. (b) Sales required to earn a profit of Rs.000.000 and Rs.Rs. of Units to be sold is 1.1.Rs. 14 Fixed cost (total) Rs.1. [Aos: Break-even point Rs.27. Rs. find out how many units should be sold to earn a net profit of 10% on sales. [Aos: BEP .000 25.000 per year Fixed selling costs Rs. Find out the break-even point for the company.40.50.000). Profits Rs.) Sales Price .P in sales.600 units.42. 2. 5 Fixed costs Rs.Rs.Rs. 20 per unit Sale price Variable manufacturing cost Rs.000 per unit. 39.32.92.000 per year [ADS: No. 3 per unit when produced in quantities of 10.Rs.4. 10. Present profit Rs.000. 26. 60. Fixed factory overheads . 2.Rs. Volume 4.000 Fixed costs 1.00. (d) Sales . 1.000.000) A company estimates that next year it will earn a profit of Rs. 28. 2. (b) Profit if sales are 15% above break-even volume. Value .E.000 Units and Rs.60.00. 22. New Break-even point at 20% increase in variable costs Rs.000 units.000 a year Rs.000 units.42.000. 10 per unit Trade discount .820. (11.80.5% of selling price Material cost .98. 1.40.52. 20 Direct labour Rs. [Aos: Fixed cost Rs.

000 30% Fixed costs Variable costs 12.00.00.OOO [Ans: (I) break-even point Rs. 1. The fixed costs are Rs. 4.000 20. BEP Rs 15. 2. when sold. 35.00. (2) if sales of Rs.000 Fixed manufacturing overheads Fixed selling and administrative expenses 10.000.549 (b) PN ratio 23.000 100% [Ans: PN ratio 40%. 6. It is required to calculate : (I) Variable seIling and administrative expenses (2) Contribution Margin in rupees (3) Variable factory overhead (4) Break even point in rupee sales (5) Factory cost of goods sold [Ans: Variable factory overheads Rs.50. Margin of safety Ratio 25%] A company budgets for a production of 1. variable seIling & administrative expenses Rs. 31.) Rs. SO.000.000.OOO] The PN ratio of Gupta & Co.91% (c) New break-even point in units 86. 30. Sales were Rs 1.000 c) Profit Rs. d) Profit Rs. 90. 49.54. SO.000.000.000 Sales 40.20. 5. 70. Calculate: (a) Total variable expenses (b) Total contribution (c) Profit and (d) Profit if sales are increased to Rs. 49.OOO. 2 per unit.000 Net loss 5.000 Gross profit 20. The variable costs for this production volume were determined to be Rs.000. The company fixes its seIling price to fetch a profit of 15% on cost.000 (3) the amount of sales Rs.OOO] 27.000. 14 and fixed cost is Rs. Rs.000 and the fixed cost Rs 15. 34. Rs. b) Total contribution Rs. (a) PN Ratio (b) Sales required to break-even point and (c) Margin of safety [Ans: PN ratio 50% . 20. BEP Rs SO. 29. Margin of safety Rs SO.000 units. 2S.00. 15. S. PN ratio. 12.25.OOO (3) the amount of sales that will enable the business to earn a net profit of Rs. what should be the sales at the reduced prices? [Ans: (a) Break-even point (in Rs.000.000. if sales of Rs. (a) What is the break-even point? (b) What is the profit-volume ratio? (c) If it reduces its selling price by 5%.00. Determine the following: (I) the break-even point of the business (2) the profit or loss to the business on sales of Rs.000 the profit is Rs. 25. 1.000. 2S.560 A Textbook of Financial Cost and Management Accounting Find out.000 10% Sales 30. 2S. The variable cost per unit is Rs. is 60% during 2003.5OO] From the following data.000 Direct materials used Direct labour 15.OOO the loss is Rs.90% (d) Sales for desired profit Rs. 1. how the revised seIling price affect the break-even point and the profit-volume ratio? (d) If a profit increase of 10% is desired more than the budget. 60. 20.000] The following information regarding the operations of 2003 has been made available from the records of the AAA corporation.000 There are no opening or closing inventories. Break-even point Rs.000 in sales income to the company.000] The projected capacity of a plant.00.OOO. Factory cost of goods sold Rs.000.000 [Ans: a) Total variable cost Rs. 2S. Contribution Margin Rs. 75. find out the break-even point. 000 . and margin of safety ratio.000.000 60% Net profit 2.20.50.207 units new PN ratio 19. would return Rs.96.

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