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

1) Manufacture 100 radio

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

1
Marginal Cost 100 x150= 15000
Fixed Cost
= 5000
total
20000

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

What Could be effects of

Changes
In volume
or
Type of output

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

Marginal Costing ---Characteristics

Fixed & Variable

Costs

Inventory
Valuation

MC Costs as
Products Costs

Contribution

Fixed Costs as
Period Costs

Pricing

Marginal Costing
&
Profit

Marginal Costing ---Characteristics

Segregation
Fixed & Variable
Costs

Semi-variablecosts
costs
Semi-variable
aresegregated
segregated
are
intofixed
fixed&&
into
variable
variable

Marginal Costing ---Characteristics

Marginal Costs
as
Products Costs

OnlyVariable
Variablecosts
costs
Only
arecharged
charged
are
toproducts
products
to

Marginal Costing ---Characteristics

Fixed Costs as
Period Costs

Fixedcosts
coststreated
treated
Fixed
Periodcosts
costs
Period
Chargedto
tocosting
costing
Charged
Account
PP&&LLAccount

Marginal Costing ---Characteristics

Inventory
Valuation

WIP&&FFgoods
goodsare
are
WIP
Valuedat
at
Valued
MarginalCost
Cost
Marginal

Marginal Costing ---Characteristics

Contribution

S-V=C
S-V=C
Profitabilityjudged
judgedon
on
Profitability
Contributionmade
made
Contribution

Marginal Costing ---Characteristics

Pricing

Pricingis
isbased
basedon
on
Pricing
Contribution&&
Contribution
MarginalCosts
Costs
Marginal

 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

Total

Sales
Less VC

-------

Contribution

----

Fixed Cost

----

Profit

-----

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

less
Marginal cost
Of C
=
Contribution of
C

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

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

Fixed &
Variable
Costs

Marginal Costing

Absorption Costing

Only variable cost

Both F & V Costs

Are charged

FC charged to P/L

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

(Rs.)
6,00,000

Sales (40,000 units @

Rs.15 per unit)
Less: cost of goods
manufactured:
Material and Labor cost
Variable manufacturing
overheads
Contribution
Less: fixed overheads
other fixed
overheads
Net income

3,20,0
00
80,00
0

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

50,00
0
1,00,0
00

Sales (40,000 units @

Rs.15 per unit)

Less: cost of goods

manufactured:
Material and Labor
cost
Variable
manufacturing
overheads
Fixed manufacturing
overheads

6,00,0
00

3,20,0
00
80,00
0

4,50,0
00
1,50,0
00

50,00
0
Gross profit
Less: other fixed
overheads

1,00,0
00

Net income

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

Rs.1,00,000
Rs. 2,50,000

Selling and distribution

-Variable
-fixed

Rs.1,00,000
Rs.2,00,000

Cost Statement- production> sales

absorption

Marginal costing
(Rs.)
12,00,000

Sales (80,000 units @

Rs.15 per unit)
Less: cost of goods
Material
Labor cost
Factory overheads :
Variable
:
fixed
Less: closing stock
(20000/100000*Rs.9,00,
000
other fixed
overheads
Gross profit
Less :
Selling and distribution:
Variable
: fixed

2,50,0
00
3,00,0
00
1,00,0
00
2,50,0
00
9,00,0
00

Sales (80,000 units @

Rs.15 per unit)
Less: cost of goods
Material
Labor cost
Factory overheads :
Variable

2,50,0
00
3,00,0
00
1,00,0
00

Less: closing stock

7,20,000

(20000/100000*Rs.6,5
0,000

4,80,000

Selling and
distribution: Variable

1,80,0
00
3,00,000
1,80,000
2,00,0
00
1,00,0
00

(Rs.)
12,00,
000

6,50,0
00
1,30,0
00
5,20,0
00

contribution
Less : fixed FOH
fixed S&D
Net profit

1,00,0
00

6,20,0
00
5,80,0
00
4,80,0
00

Cost Statement- production> sales

absorption

Marginal costing
(Rs.)
12,00,000

Sales (80,000 units @

Rs.15 per unit)
Less: cost of goods
Material
Labor cost
Factory overheads :
Variable
:
fixed
Less: closing stock
(20000/100000*Rs.9,00,
000
other fixed
overheads
Gross profit
Less :
Selling and distribution:
Variable
: fixed

2,50,0
00
3,00,0
00
1,00,0
00
2,50,0
00
9,00,0
00

Sales (80,000 units @

Rs.15 per unit)
Less: cost of goods
Material
Labor cost
Factory overheads :
Variable

2,50,0
00
3,00,0
00
1,00,0
00

Less: closing stock

7,20,000

(20000/100000*Rs.6,5
0,000

4,80,000

Selling and
distribution: Variable

1,80,0
00
3,00,000
1,80,000
2,00,0
00
1,00,0
00

(Rs.)
12,00,
000

6,50,0
00
1,30,0
00
5,20,0
00

contribution
Less : fixed FOH
fixed S&D
Net profit

1,00,0
00

6,20,0
00
5,80,0
00
4,80,0
00

 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 costs-fixed
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

=12,000-7000=5000

V Cost=RS 7,000

P=C-F

F Cost=Rs 4,000

=5,000-4000
=Rs 1,000

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

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

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

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

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

Another Method

Year

sales

2005

20,000

2006

22,000

net profit
1000
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
BEP (Rs)

Fixed Cost
= -----------------P/V Ratio

Cost- Volume- Profit Analysis

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

ALGEBRAIC
METHOD

= F
S-V

Fixed Cost
BEP (Rs ) = ----------------x Sales
Contribution
BEP (Rs)

Fixed Cost
= -----------------P/V Ratio

F Cost=Rs 12000
S Price=Rs12 pu
V Cost =Rs 9 pu
Find BEP

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.

Sales at Desired Profit

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

Cost- Volume- Profit Analysis

Profit at diff. Sales Vol.
C
P/V Ratio= ----- = 3/12=25%
S
WHEN SALES=Rs 60,000
contribution=salesxp/vratio
=60000x25%
=Rs 15000
Profit
=contribution-fixed cost
=15000-12000
=Rs3000

F Cost=Rs 12000
S Price=Rs12 pu
V Cost =Rs 9 pu
Profit when sales are
a) Rs 60,000
b) Rs 1,00,000

Cost- Volume- Profit Analysis

Other Uses

F Cost=Rs 12000
S Price=Rs12 pu
V Cost =Rs 9 pu

Sales at Desired Profit

Sales if desired profit

a) Rs 6000
b) Rs 15,000

F Cost +Desired Profit

Sales= ------------------------------P/V Ratio

Cost- Volume- Profit Analysis

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

12,000+6000
a)Sales= --------------25%
=Rs 72,000

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

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
=Rs 34,19,453( appx)

26.32%

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?