MARGINAL COSTING

AND CVP ANALYSIS

Group 4
MARGINAL COSTING
 Marginal Costing

◦ MARGINAL COST = the part of the cost of one unit of product

or service that would be avoided if the unit were not produced.
Or the extra cost if one extra unit was produced

◦ To determine the optimum production quantity for a company,

where it costs the least amount to produce additional units.
*Closing inventories are valued at marginal production cost
 What is Contribution?
Contribution is what a business needs to achieve
from selling products in order to first cover its fixed
costs, and thereafter, make a profit.

VS
 How is Contribution Measured?

Total Contribution per

Contribution unit

Total Revenues Selling Price (per unit)

Less Less
Total Variable Costs Variable Cost (per unit)
 Using Contribution

◦ If sales increase by one item, profit will increase by the

contribution for one item
◦ Contribution per unit is constant at all levels of output and sales
◦ Profit per unit varies as sales change because average fixed overhead
cost per unit changes with total sales
QUESTION 1 Contribution

Bansi company manufactures a single product having a marginal cost

of £1.50 per unit. Fixed cost is £30,000 per annum.The market is
such that up to 40,000 units can be sold at a price of £3.00 per unit,
but any additional sale must be made at £2.00 per unit. Company
has a planned profit of £50,000. How many units must be made and
sold?

Answer : 80,000 units

SOLUTION
a. Contribution desired = Fixed cost + Desired Profit
= 30,000 + 50,000 = 80,000
b. Calculation of contribution by producing 40,000 units.
Contribution per unit = Selling price – Marginal cost
= 3.00 – 1.50
= 1.50
c. Contribution for producing 40,000 units.
= 1.50 x 40,000 units
= £60,000
d. Additional units to be produced and sold at £ 2.00 per unit after 40,000 units.
= £80,000 –£60,000
= £20, 000
e. Units to be produced for contribution of Rs. 20, 000 after change in price.
Contribution per unit = £ 2.00 – £1.50
= £0.50
f. Additional units to be produced for contribution of £20,000.
= (20,000 x 100)/50
= 40, 000 units.
Total units to be produced to earn planned profit
= 40, 000 + 40, 000
= 80, 000 units.
QUESTION 1 Marginal Costing
The National Company has just been formed.They have a patented process that will make them the sole
suppliers of Product A. During the first year, the capacity of their plant will be 9,000 units, and this is the
amount they will be able to sell. The fixed costs is £240,000.

Costs £ per unit

Direct labour 15
Raw materials 5
Other variable costs 10

Question:
If the company aims to make a profit of £210,000 for the first year, what should the selling price be?
What is the contribution margin at this price?
Solution:

Direct labour (9000*15) = £135,000

Raw material (9000*5) = £45,000
Other variable cost (9000*10) = £90,000
Total variable cost = £270,000
Revenue – Total variable cost – Total fixed cost = Profit
Revenue - £270,000 - £240,000 = £210,000
Revenue = £720,000
Selling price = £720,000 / 9,000units
= £80

Contribution margin at £80 = (Sales revenue / Total variable cost) / units

= (£720,000 / £270,000) / 9,000
= £50
QUESTION 2 Marginal Costing
Bright makes and sells boats. The budget for Bright's first month of trading showed the following:
£
Variable production costs 45,000
Fixed production costs 30,000
Production cost of 750 boats 75,000
Closing inventory of 250 boats (25,000) The budget has been produced using an absorption
Production costs of 500 boats sold 50,000 costing system.

If a marginal costing system were used, the budgeted

Sales revenue 90,000 profit would be:
Production cost of boats sold (50,000)
(a) £22,500 lower
Variable selling costs (5,000) (b) £10,000 lower
Fixed selling costs (25,000) (c) £10,000 higher
(d) £22,500 higher
Profit 10,000
Solution

The answer is (b) £10,000 lower.

The profit of MC is lower as with absorption costing, some of the fixed production costs would
be carried forward in the inventory valuation.

Profit difference: 250units in inventory * (£30,000/750) = £10,000

If you calculated the profit difference as £22,500 you included the fixed selling costs. However,
selling costs are not included in the inventory valuation, which should included production costs
only.
CVP ANALYSIS
 Cost Volume Profit (CVP) analysis

◦ Managers use to understand relationships between:

➢Selling price
➢Unit variable costs
➢Total fixed costs
➢Mix of products sold
➢Volume or level of activity
◦ Managers can then make decisions to maximise profits
 Break-Even Analysis

◦ Break-Even Point is the point in which total cost and total revenue are equal.
( no profit, no loss )
◦ A break-even analysis is used to determine the number of units or revenue
needed to cover total costs.

(£)
 Margin of Safety

◦ The difference, measured in volume or

sales value, between the break-even point and
current volume of sales.
◦ Amount by which the revenue can fall before
the company starts to make losses
 Margin of Safety

◦Margin of Safety (Units)

= Budgeted sales units – Breakeven sales units
◦Margin of Safety (Revenue)
= Budgeted sales revenue – Breakeven sales revenue
 Margin of Safety

◦Margin of Safety (%) = Budgeted sales (units / rev)-

Breakeven sales (units / rev) x100 Budgeted sales (units
or revenue)
◦Profit = Margin of Safety (units) x contribution per unit
QUESTION 1 Break-Even

Using equation method, Break-even point is calculated as

a) Sales = Variable expenses + Fixed expenses + Profit

b) Sales = Variable expenses + Fixed expenses - Profit

c) Sales = Variable expenses - Fixed expenses + Profit

d) None of the above

SOLUTION

a) Sales = Variable expenses + Fixed expenses + Profit

Break-even point : Total revenue = Total Cost

Total revenue = Sales
Total Cost = Variable expenses + Fixed expenses
Profit = Total Revenue – Total Cost
QUESTION 2 Break-even
A company sells products priced at £20.00 per unit. The variable
costs directly associated with the production of the products being
sold are £10.00.The company also has fixed costs that amount to
£50,000 per year.
Calculate the break-even point in terms of both units and sales.
SOLUTION
Contribution margin = Selling price per unit – Variable cost per unit
= 20 – 10 = 10
Break-even point = Fixed Cost / Contribution margin
= 50, 000 / 10 = 5000 units

Sales = 5000 x 20 = £10,000

QUESTION 1 Margin of Safety
What is Margin of Safety if Sales is 20,000 units and B.E.P is 15,000 units.

a) 35,000 units
b) 5,000 units
c) £ 5,000
d) £ 35,000

Solution
D) MoS = Sales – Break even point
20000 units -15000 units= 5000units
MARGINAL VS
ABSORPTION
 Marginal vs Absorption costing
MARGINAL COSTING ABSORPTION COSTING
Treats only the variable manufacturing costs as Treats all manufacturing costs including both
product costs. the fixed and variable costs as product costs.
The fixed manufacturing overheads are
regarded as period cost.
These are capacity costs and will be incurred if Depreciation, taxes, insurance and salaries are
nothing is produced. just as essential to products as variable costs.

Fixed costs are charged against the time Cost of sales will include some fixed overheads
period when incurred: reducing profits. from previous periods that have been brought
through in opening inventory.
 Marginal vs Absorption costing

When comparing the profits reported under marginal and absorption costing when the levels of
inventories increased (assuming unit variable and fixed costs are constant)

A) absorption costing profits will be lower and closing inventory valuations higher than those
under marginal costing
B) absorption costing profits will be lower and closing inventory valuations lower than those
under marginal costing
C) absorption costing profits will be higher and closing inventory valuations lower than those
under marginal costing
D) absorption costing profits will be higher and closing inventory valuations higher than those
under marginal costing
Solution

◦ The correct answer is: D

◦ Absorption costing profits will be higher and closing inventory
valuations higher than those under marginal costing Closing
inventory valuations are always higher with absorption costing
because of the inclusions of fixed overhead. Therefore, the
statements that closing inventory valuations are lower are
incorrect. If inventories increase, absorption costing profits are
higher because of the fixed overhead being carried forward in
inventory.
Marginal vs Absorption costing

In March, a company had a marginal costing profit of £78,000. Opening inventories were 760
units and closing inventories were 320 units.The company is considering changing to an
absorption costing
What profit would be reported for March, assuming that the fixed overhead absorption rate is
£5 per unit?
A £74.200
B £75.800.
C £76.400
D £80,200
Solution
The correct answer is: B

Decrease in inventory levels = 760-320

= 440
Difference in profits = 440 x £5 fixed overhead per unit
= £2200
Absorption costing profit = £78,000 - £2,200
= £75,800
 IDK WHY BUT I FEEL LIKE
PUTTING MONA LISA HERE
- SOMEONE