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Marginal Costing

&
Cost-Volume-Profit
Analysis

Dr Smita Sahoo
Two Approaches to Compute
Profits

Conventional
Conventional income
income statement
statement

Contribution
Contribution margin
margin income
income statement
statement

Dr. Smita Sahoo


Conventional Income
Statement

Cost of Gross
Sales – =
Goods Sold Margin

Gross Operating Net


– =
Margin Expenses Income

Dr. Smita Sahoo


Contribution Margin
Income Statement

Variable Contribution
Sales – =
Overhead Margin

Contribution Fixed Net


– =
Margin Overhead Income

Dr. Smita Sahoo


Breakeven Point
(BEP)
BEP for a business is the
output level( units
produced or services
provided) at which the
income from sales is just
enough to cover all
costs.
Dr. Smita Sahoo
BEP Calculation –
an Example

• Assume selling price is Rs.35 per unit.


• Variable expense is Rs.21 per unit.
• Fixed cost is Rs.7,000.
• What is the breakeven point?
• BEP( in Units)

F ix ed C o sts
B E P=
C o n trib u tio n p er U n it
Dr. Smita Sahoo
Breakeven Point
40,000
35,000
line
30,000 Breakeven sales point u e
e v en
25,000 e s r
Sa l
Rupees

20,000 st l ine
l Co
15,000 Tota
10,000
5,000
Fixed Cost line
0
Rs. 300 500 1000
Units

Dr. Smita Sahoo


Margin of Safety (MOS)

Margin of Safety is the difference


between the expected level of sales
and the BEP. The larger the margin
of safety , the more likely it is that a
profit will be made.

MOS= Projected sales – BEP


Profit= MOS X Contribution per unit
Dr. Smita Sahoo
P/V or C/S Ratio

C ontribution per U nit


P/V R atio= X 100
Selling price per U nit
Fixed C osts
B E P in sales value
=
P/V R atio

Dr. Smita Sahoo


Example-I
Rs/Unit Rs/Unit
Selling price per unit 100
DM 22
DL 16
Variable overhead 14
Fixed overhead 18 70
Profit per unit 30

Fixed overhead absorption rate is based on the


normal capacity of 2000 units per month.
Assume that FC per month will remain same
through out the year. Budgeted sales for the
next month are 3,500 units.
Dr. Smita Sahoo
You are required to
calculate:

I. The breakeven point in sales units


per month;
II. Margin of safety for the next month;
III. Budgeted profit for the next month;
IV. The sales required to achieve a
profit of Rs.108,000 in a month.

Dr. Smita Sahoo


Limitations of BEP/CVP
Analysis
i. Costs are assumed to behave in a linear
fashion.
ii. Sales revenues are assumed to be
constant for each unit sold.
iii. It is assumed that there is no changes in
stocks.
iv. It is assumed that activity is the only
factor affecting costs, and factors such as
inflation are ignored. This limits BEP
analysis to short-term decision making.

Dr. Smita Sahoo


Limiting factor decision-making
A limiting factor is any factor which is
in scarce supply and which stops the
organisation from expanding its
activities further.
Decision rule can be stated as ‘
maximising the contribution per unit
of limiting factor’.

Dr. Smita Sahoo


Example : Profit Statement using
Marginal Costing & Absorption
Costing
A company produces & sells one product only which sells
for Rs50 per unit. There were no stocks at the end of
May & other information are as follows.
Rs.
Standard cost per unit:
Direct Material 18.00
Direct Labour 4.00
Variable production overhead 3.00
Budgeted & actual costs per month:
Fixed production overhead 99,000
Fixed selling exp. 14,000
Fixed admn. Exp. 26,000
Variable selling exp. 10% of Sales value
Dr. Smita Sahoo
Example : Profit Statement using
Marginal Costing & Absorption
Costing
Normal Capacity is 11,000 units per month.
The number of units produced & sold was:

June July
Units Units
Sales 12,800 11,000

Production 14,000 10,200

Dr. Smita Sahoo


Reconciliation of profit
June July
Marginal Costing profit 117,000 81,000
Adj. for fixed overhead in stock:
Stock increase( 1200 X9) 10,800
Stock decreases (800 X 9) (7,200)

Absorption costing profit 127,800 73,800


Note: If stocks↑ then Absorption costing profit will be
more
& if stocks↓ marginal costing profit will be higher.
Dr. Smita Sahoo
Relevant & Non-relevant Costs

Relevant costs are those which will


be affected by the decision being
taken. If a cost will remain
unaltered regardless of the decision
being taken, then it is called a
non-relevant cost.

Dr. Smita Sahoo


Examples of non-relevant costs
• Sunk or past costs
• Absorbed fixed overhead
• Future Expenditure
• Historical cost
• Notional Costs

Dr. Smita Sahoo


Opportunity Costs

“The value of the benefit sacrificed


when one course of action is chosen,
in preference to an alternative . The
opportunity cost is represented by
the forgone potential benefit from
the best rejected course of action.”
An opportunity cost is a special type
of relevant cost.
Dr. Smita Sahoo