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Marginal CostingBy-

Anmol Dhar- 022

Nand Kishore Bodu-011Arpit Mishra-60

Nitichandra Ingle-38

Praveen Kumar-049

Deepak M.-054

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Definition of Marginal Cost

Marginal cost is the additional cost of producing anadditional unit of a product.

According to I.C.M.A. London as the amount to any givenvolume of output by which aggregate costs are changed ifthe volume of output is increased or decreased by one unit.In practice, this is measured by the total variable costattributable to one unit.

Thus, Marginal Cost = Prime cost+ Total variable overheads

(or)

Total cost Fixed cost.

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Definition of Marginal Costing

Marginal costing is a costing technique in which onlyvariable manufacturing costs are considered and usedwhile valuing inventories and determining the Cost OfGoods Sold(COGS).

These costs include direct material direct labor andvariable factory overhead and these are assigned toproduct

Fixed factory Overheads are not considered

Fixed manufacturing costs are treated as period costs inmarginal costing.

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Features of Marginal Costing

1.Marginal costing is a technique of control or decision

making.

2. Under marginal costing the total cost is classified as fixed

and variable cost.

3. Fixed costs are treated as period cost and charged to profit

and loss a/c for the period for which they are incurred.

4. The Variable costs are regarded as the costs of the

products.

5. The stock of finished goods and work-in-progress are

valued at marginal costs only.

6. Prices are determined on the basis of marginal cost.

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Continues..

Marginal costing is a technique of costing fully oriented

towards managerial decision making and control.

Marginal Costing being a technique can be used inconjunction with any method of cost ascertainment.

It can be used in combination with other techniques

such as budgeting and standard costing.

Marginal costing is helpful in determining theprofitability of products, departments, processes and

cost centers.

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MARGINAL COST STATEMENT

sales Description Amount

(Rs)

Amount

(Rs)Less Variable Production Cost YYY

Direct Material Cost YYY

Direct Labor Cost YYY

Variable Manufacturing Overhead YYY

Costs of Good Manufactured YYY

Add Beginning Inventory YYY

Cost of Goods Available for Sale YYY

Less Closing Inventory YYY

Cost of Goods Sold YYY

Marginal Contribution YYY

Less Fixed manufacturing Overhead YYY

Variable selling and Administrative Expenses YYY

Fixed Selling and Administrative Expenses YYY

Net Income YYY

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MARGINAL COST - Example

sales Description X Y Z Total

Sales(1) 40,000 54000 78000 172000Less Variable Production Cost

Direct Material Cost 12000 15000 20000 47000

Direct Labor Cost 5000 7000 9000 21000

Direct Expenses 1000 1500 2000 4500

Variable OverheadFactory 5000 6500 11000 22500

Administration 2000 3000 5000 10000

Selling and Distribution 2500 2500 4000 9000

Total (2) 27500 35500 51000 114000

Contribution (1-2) 12500 18500 27000 58000

Less Fixed manufacturing Overhead

Factory 11000

Selling and Distribution 4500

Administrative Expenses 14500 30000

Profit 28000

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Observations

> It can be observed that only the direct cost + Variable

Overheads will be observed into the cost of product

>The balance amount called Contribution will be used in

meeting fixe cost and any amount after meting the fixed

cost will be the profit of the concern

>In marginal costing Fixed Cost peer Unit wont be

computed to arrive at the product profitability i.e.

Selling price of product > the marginal cost

>In marginal costing fixed overheads are charged direct to

the costing profit and loss account.

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Decision Making Indicators

The following are the basic decision making indicators inmarginal costing

1.Profit Volume Ratio(PV ratio)

2.Break- Even Point(BEP)

3.Margin of Safety (MOS)

4.Indifference point

5.Shutdown Point

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Cost-Volume-profit analysis

The Profit Volume ratio is the relationship betweencontribution and sales value

Formula : Contribution/Sales x 100

It is used to measure the effect of factor changes &management decision alternatives on profits. Factors likeselling prices, change in variable or fixed cost etc.,

Changes in selling price.

a) If selling price is increased, P/V ratio increases & rate offixed cost recovery is increased. BEP declines

b) If selling price is decreased, P/V ratio decreases & rate of

fixed cost recovery declines. BEP increases

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Changes in variable costs:

a) Increase in variable cost, P/V ratio decreases & rateof fixed cost recovery is slower, BEP moves higher.

b) Decrease in variable cost, P/V ratio increases &rate of fixed cost recovery increases, BEP moveslower.

Changes in Fixed Cost:

No change on P/V ratioSignificance:

PV ratio is considered to be the basic indicator of theprofitability of the business

It is used to compute variable cost for any volume ofsale

To decide the most profitable sales mix

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Breakeven Analysis

Introduction

In this lesson, we will discuss in detail the highlightsassociated with cost function and cost relations with theproduction and distribution system of an economic entity.

To assist planning and decision making, managementshould know not only the budgeted profit, but also:

the output and sales level at which there would neitherprofit nor loss (break-even point)

the amount by which actual sales can fall below thebudgeted sales level, without a loss being incurred (themargin of safety)

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Breakeven Analysis Equations

Sales Marginal cost = Contribution ......(1)

Fixed cost + Profit = Contribution ......(2)

Sales Marginal cost = Fixed cost + Profit......

(3) P/V Ratio (or C/S Ratio)

=Contribution/Sales.....(4)

(or)

Contribution = Sales x P/V ratio...... (5)

(or)

Sales =Contribution/ P/V Ratio......(6)

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Important Formula

1. Contribution = Sales (Volume/Per unit) Variable Cost.2. Profit-Volume Ratio= Contribution/ Sales

(or) P/V Ratio= Change in Profit/Change in Sales

3. Break Even Point (Units) = Fixed Cost/ Contribution

Break Even Point (Sales)= Fixed Cost/ P/V Ratio4. Margin of safety = Actual Sales Break Even Sales

5. Sales for required profit= Fixed Cost + Required Profit

P/V Ratio

6. Profit for given Sales= Contribution-Fixed CostContribution= Given Sales x P/V Ratio

7. Fixed Cost = Contribution - Profit

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Advantages of Marginal Costing

1. Simplicity

2. Stock valuation

3. Meaningful reporting

4. Fixation of Selling Price5. Profit planning.

6. Cost control and cost reduction.

7. Pricing policy.

8. Helpful to management.

9. Production Planning

10. Make or Buy Decisions

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Limitations of Marginal Costing

1. Classification of cost

2. Not suitable for external reporting.

3. Lack of log-term perspective.

4. Under valuation of stock

5. Automation Lack of Advancement

6. Production aspect is ignored.

7. Not applicable in all types of business.

8. Misleading picture -Assumptions

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Assumptions of Marginal Costing

1. All costs can be classified into two categories Fixed and

Variable

2. Fixed costs remain constant at all levels of activity

3. Variable costs vary in total, but remain constant per unit

4. Level of efficiency of operations is uniform

5. Product risk remains unaltered, unless specified otherwise.

6. Selling price remains constant at different levels of activity.

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Thanks