PROJECT REPORT

ON

MARGINAL COSTING
MASTERS OF COMMERCE DEGREE
SEMESTER- 2
ACADEMIC YEAR: 2016-17
SUBMITTED BY
MR: ODIYAR SUMANRAJ
ROLL NO: 36

N.E.S. RATNAM COLLEGE OF ARTS, SCIENCE AND COMMERCE,

N.E.S. MARG, BHANDUP (WEST), MUMBAI-400078

PROJECT REPORT ON
MARGINAL COSTING
MASTERS OF COMMERCE DEGREE
SEMESTER- 2
ACADEMIC YEAR: 2016-17
SUBMITTED
BY
IN PARTIAL FULFILLMENT OF THE REQUIREMENT FOR THE AWARD
OF MASTER DEGREE OF COMMERCE
MR: ODIYAR SUMANRAJ
ROLL NO: 36

N.E.S. RATNAM COLLEGE OF ARTS, SCIENCE AND COMMERCE,

N.E.S. MARG, BHANDUP (WEST), MUMBAI-400078

N.E.S. RATNAM COLLEGE OF ARTS, SCIENCE

AND
COMMERCE,
N.E.S. MARG, BHANDUP (WEST), MUMBAI- 400078
CERTIFICATE
This is to certify that the project report on MARGINAL COSTING
is bonafide record of project work done by MR. ODIYAR SUMANRAJ
submitted in partial fulfillment of the requirement of the award of the Master of
Commerce Degree University of Mumbai during the period of his study in the
academic
year
2015-16

INTERNAL

EXAMINER:

EXTERNAL EXAMINER:
Principal

DECLARATION

Mrs. Rina Saha

I hereby declare that this Project Report entitled MARGINAL

COSTINGsubmitted by me for the award of Masters of Commerce
Degree; University of Mumbai is a record of Project work done by me
during the year 2015-16. This is entirely my own work.
NAME:ODIYAR SUMANRAJ

ROLL NO: 36

Place: Mumbai, Bhandup (W)

Date:

ACKNOWLEDGEMENT

Signature:

I owe a great many thanks to great many people who helped and
supported me doing the writing of this book.
My
deepest
thanks
to
lecturer,
Prof.
RAVISHANKAR
VISHVAKARMAof the project for guiding and correcting various documents
of mine with attention and care. He has taken pains to go through my project
and make necessary corrections as and when needed.
I extend my thanks to the principal of NES Ratnam College of Arts
Science and Commerce, Bhandup (w), for extending her support.
My deep sense of gratitude to Principal Mrs. Rina Saha of NES Ratnam
College of Art, Science and Commerce for support and guidance. Thanks and
appreciation to the helpful people at NES Ratnam College of Arts, Science and
Commercfortheirsupport.

I would also thank my institution and faculty members without whom this
project would have been a distant reality. I also extend my heartfelt thanks to
my family and well-wishers.

Candidate Name:

ODIYAR SUMANRAJ

SR.
NO.

DESCRIPTION
.

INTRODUCTION

Theory of Marginal Costing

MARGINAL COSTING AS A MANAGEMENT

ACCOUNTING TOOL

THE BASIC DECISION MAKING

INDICATORS IN MARGINAL COSTING

5
Techniques of Costing

CONCLUSION& BIBLIOGRAPHY

Marginal costing
CHAPATER:1
INTRODUCTION TO MARGINAL COSTING

The costs that vary with a decision should only be included in

decision analysis. For manydecisions that involve relatively small
variations from existing practice and/or are forrelatively limited
periods of time, fixed costs are not relevant to the decision. This is
because either fixed costs tend to be impossible to alter in the
shortterm or managers arereluctant to alter them in the short term.
Marginal costing distinguishes between fixedcosts and variable costs
as convention ally classified. The marginal cost of a product is
its variable cost. This is normally taken to be; direct labor, direct
material, direct expensesand the variable part of overheads.
Like Marginal costing or job costing, Marginal costing is not a
distinct method ofascertainment of cost but is a technique which
applies existing methods in a particularmanner so that the relationship
between profit & the volume of output can be clearlybrought out.
Marginal costing ascertains marginal or variable costs & the effect on
profit,of the changes in volume or type of output, by differentiating
between variable costs &fixed costs. To any type of costing such as
historical, standard, Marginal or job; theMarginal costing technique
may be applied.
Under the Marginal of Marginal costing, from the cost components,
fixed costs areexcluded. The difference which arises between the
variable costs incurred for activities &the revenue earned from those
activities is defined as the gross margin or contribution. Itmay relate
to total sales or may relate to one unit.
For the business as a whole, Contribution earned by specific products
or group ofproducts, are added so as to calculate the pool of total
contribution. The fixed costs of thebusiness are paid from this pool

& then the part of the total contribution which remainsbecomes the
profit of the business as a whole.
A typical format for Marginal costing statement is as below:
Product types or departments A B C Total
Sales Revenue X X X X
Less Variable cost of production X X X X
Contribution X X X X
Less: Fixed Costs X
Total Profit X
Under Marginal costing, for the calculation of profits for individual
products ordepartments, no attempt is made- only calculation of
individual Contribution is done. Thefixed cost does not allocated to or
gets absorbed by the individual products or departments.
Thus, accounting techniques relating to the treatment of fixedcostswill
not influence thedecisions which are based on Marginal costing
system.
Examples of typical problems which require executive decisions are:
At a lower price should a particular order be accepted or declined?
Should purchase of a particular component be made from an outside
supplier ormanufactured within the factory?
Concentration should be given on which products?
By which profit-mix, profit will be maximized?
What should be the effect on the business when an existing
department is beingclosed or a new department is being opened?

MEANING OF MARGINAL COSTING

It is the amount by which total cost increases when one extra unit is
produced, or theamount of cost which can be avoided by producing
one unit less. Accordingly, marginalcost may also be defined as the
variable cost incurred due to a specific activity. It isconcerned with
variable costs, because fixed costs by definition do not change with
thevolume produced.
Definition:
Marginal costing is formally defined as:
The accounting system in which variable costs are charged to cost
units and thefixed costs of the period are written-off in full against the
aggregate contribution. Itsspecial value is in decision making.
Marginal costing distinguishes between fixed costs and variable costs
asconventionally classified. Variable costing is another name of
marginal costing.
Marginal costing may be defined as the technique of presenting cost
data whereinvariable costs and fixed costs are shown separately for
managerial decision-making. Itshould be clearly understood
thatmarginal costing is not a method of costing likeprocess costing or
job costing. Rather it is simply a method or technique of theanalysis
of cost information for the guidance of management which tries to
find out aneffect on profit due to changes in the volume of output.
MARGINAL COST
The marginal cost of a product is its variable cost. This is
normally taken to be;direct labour, direct material, direct expenses and
the variable part of overheads.
Marginal cost means the cost of the marginal or last unit produced. It
is also definedas the cost of one more or one less unit produced
besides existing level of production

The marginal cost varies directly with the volume of production and
marginal cost perunit remains the same. It consists of prime cost, i.e.
cost of direct materials, directlabor and all variable overheads. It does
not contain any element of fixed cost whichis kept separate under
marginal cost technique.
The term contribution mentioned in the formal definition is the term
given to thedifference between Sales and Marginal cost. Thus
MARGINAL COST =VARIABLE COST DIRECT LABOUR
+ DIRECT MATERIAL
+ DIRECT EXPENSE
+ VARIABLE OVERHEADS
Marginal costing technique has given birth to a very useful concept of
contributionwhere contribution is given by: Sales revenue less
variable cost (marginal cost)Contribution may be defined as the profit
before the recovery of fixed costs.
Thus,contribution goes toward the recovery of fixed cost and profit,
and is equal to fixedcost plus profit (C = F + P). In case a firm neither
makes profit nor suffers loss,contribution will be just equal to fixed
cost (C = F). this is known as break even point.
The concept of contribution is very useful in marginal costing. It has a
fixed relationwith sales. The proportion of contribution to sales is
known as P/V ratio whichremains the same under given conditions of
production and sales.

CHAPATER:2

Theory of Marginal Costing:

The theory of marginal costing as set out in A report on Marginal
Costingpublished by CIMA, London is as follows:
In relation to a given volume of output, additional output can
normally be obtained atless than proportionate cost because within
limits, the aggregate of certain items ofcost will tend to remain fixed
and only the aggregate of the remainder will tendtoriseproportionately
with an increase in output.
Conversely, a decrease in the volume ooutput will normally be
accompanied by less than proportionate fall in the aggregatecost. The
theory of marginal costing may, therefore, by understood in the
followingtwo steps:
1. If the volume of output increases, the cost per unit in normal
circumstancesreduces. Conversely, if an output reduces, the cost per
unit increases. If a factoryproduces 1000 units at a total cost of $3,000
and if by increasing the output by oneunit the cost goes up to $3,002,
the marginal cost of additional output will be $.2.
2. If an increase in output is more than one, the total increase in cost
divided by thetotal increase in output will give the average marginal
cost per unit. If, for example,the output is increased to 1020 units
from 1000 units and the total cost to producethese units is $1,045, the
average marginal cost per unit is $2.25. It can be described
as follows:
Additional cost = $ 45 = $2.25
Additional units 20

THE PRINCIPLES OF MARGINAL COSTING

The principles of marginal costing are as follows:
a. For any given period of time, fixed costs will be the same, for any
volume of salesand production (provided that the level of activity is
within the relevant range).
Therefore, by selling an extra item of product or service the following
will happen:
Revenue will increase by the sales value of the item sold.
Costs will increase by the variable cost per unit.
Profit will increase by the amount of contribution earned from the
extra item.
b. Similarly, if the volume of sales falls by one item, the profit will
fall by the amountof contribution earned from the item.
c. Profit measurement should therefore be based on an analysis of
total contribution.Since fixed costs relate to a period of time, and do
not change with increases ordecreases in sales volume, it is
misleading to charge units of sale with a share of fixedcosts.
d. When a unit of product is made, the extra costs incurred in its
manufacture are thevariable production costs. Fixed costs are
unaffected, and no extra fixed costs areincurred when output is
increased.

Advantages and Disadvantages of

Marginal Costing Technique:
Advantages:
1. Marginal costing is simple to understand.
2. By not charging fixed overhead to cost of production, the effect of
varying chargesper unit is avoided.
3. It prevents the illogical carry forward in stock valuation of some
proportion of current years fixed overhead.
4. The effects of alternative sales or production policies can be more
readily availableand assessed, and decisions taken would yield the
maximum return to business.
5. It eliminates large balances left in overhead control accounts which
indicate thedifficulty of ascertaining an accurate overhead recovery
rate.
6. Practical cost control is greatly facilitated. By avoiding arbitrary
allocation of fixedoverhead, efforts can be concentrated on
maintaining a uniform and consistentmarginal cost. It is useful to
various levels of management.
7. It helps in short-term profit planning by breakeven and profitability
analysis, bothin terms of quantity and graphs. Comparative
profitability and performance between two or more products and
divisions can easily be assessed and brought to the notice of
management for decision making.

Disadvantages:
1. The separation of costs into fixed and variable is difficult and
sometimes givesmisleading results.
2. Normal costing systems also apply overhead under normal
operating volume andthis shows that no advantage is gained by
marginal costing.
3. Under marginal costing, stocks and work in progress are
understated. The exclusionof fixed costs from inventories affect
profit, and true and fair view of financial affairsof an organization
may not be clearly transparent.
4. Volume variance in standard costing also discloses the effect of
fluctuating outputon fixed overhead. Marginal cost data becomes
unrealistic in case of highlyfluctuating levels of production, e.g., in
case of seasonal factories.
5. Application of fixed overhead depends on estimates and not on the
actuals and as such there may be under or over absorption of the
same.
6. Control affected by means of budgetary control is also accepted by
many. In orderto know the net profit, we should not be satisfied with
contribution and hence, fixedoverhead is also a valuable item. A
system which ignores fixed costs is less effectivesince a major portion
of fixed cost is not taken care of under marginal costing.
7. In practice, sales price, fixed cost and variable cost per unit may
vary. Thus, theassumptions underlying the theory of marginal costing

sometimes becomesunrealistic. For long term profit planning,

absorption costing is the only answer.

ABSORPTION COSTING:
Absorption costing means that all of the manufacturing costs are
absorbed by theunits produced. In other words, the cost of a finished
unit in inventory will includedirect materials, direct labor, and both
variable and fixed manufacturing overhead. Asa result, absorption
costing is also referred to as full costing or the full absorption
method.
According to this method, the cost of a product is determined after
considering bothfixed and variable costs. The variable costs, such as
those of direct materials, directlabour, etc. are directly charged to the
products, while the fixed costs are apportionedon a suitable basis over
different products manufactured during a period.
Thus, in caseof Absorption Costing all costs are identified with the
manufactured products.

Marginal Costing versus Absorption

Costing:
The net profits in Marginal Costing and Absorption Costing are not
same because ofthe following reasons:
1. Over and Under Absorbed Overheads
In absorption costing, fixed overheads can never be absorbed exactly
because ofdifficulty in forecasting costs and volume of output. If
these balances of under or overabsorbed/recovery are not written off
to costing profit and loss account, the actualamount incurred is not
shown in it. In marginal costing, however, the actual fixedoverhead
incurred is wholly charged against contribution and hence, there will
besome difference in net profits.

2. Difference in Stock Valuation

In marginal costing, work in progress and finished stocks are valued
at marginalcost, but in absorption costing, they are valued at total
production cost. Hence, profitwill differ as different amounts of fixed
overheads are considered in two accounts.The profit difference due to
difference in stock valuation is summarized as follows:
When there is no opening and closing stocks, there will be no
difference inprofit.
When opening and closing stocks are same, there will be no
difference inprofit, provided the fixed cost element in opening and
closing stocks are ofthe same amount.
When closing stock is more than opening stock, the profit under
absorptionosting will be higher as comparatively a greater portion of
fixed cost isincluded in closing stock and carried over to next period.
When closing stock is less than opening stock, the profit under
absorptioncosting will be less as comparatively a higher amount of
fixed cost containedin opening stock is debited during the current
period.

The features which distinguish marginal costing from

absorptioncosting are as follows:
In absorption costing, items of stock are costed to include a fair
share of fixed production overhead, whereas in marginal costing,
stocks arevalued at variable production cost only. The value of closing
stock will be higherin absorption costing than in marginal costing.
As a consequence of carrying forward an element of fixed production
overheads in closing stock values, the cost of sales used to determine
profit inabsorption costing will: include some fixed production
overhead costs incurred in a previousperiod but carried forward into
opening stock values of the currentperiod; exclude some fixed

production overhead costs incurred in the currentperiod by including

them in closing stock values.
In contrast marginal costing charges the actual fixed costs of a period
infull into the profit and loss account of the period. (Marginal costing
istherefore sometimes known as period costing.)
In absorption costing, actual fully absorbed unit costs are reduced
byproducing in greater quantities, whereas in marginal costing, unit
variablecosts are unaffected by the volume of production (that is,
provided thatvariable costs per unit remain unaltered at the changed
level of productionactivity). Profit per unit in any period can be
affected by the actual volume ofproduction in absorption costing; this
is not the case in marginal costing.
In marginal costing, the identification of variable costs and of
contributionenables management to use cost information more easily
for decision-makingpurposes (such as in budget decision making). It
is easy to decide by howmuch contribution (and therefore profit) will
be affected by changes in salesvolume. (Profit would be unaffected by
changes in production volume). Inabsorption costing, however, the
effect on profit in a period of changes inboth:
i. production volume;
ii. sales volume;
is not easily seen, because behaviour is not analysed and incremental
costs arenot used in the calculation of actual profit.

Arguments in favour of marginal costing:

(a) It is simple to operate.
(b) There are no apportionments, which are frequently done on an
arbitrary basis, offixed costs. Many costs, such as the marketing
director's salary, are indivisible bynature.

(c) Fixed costs will be the same regardless of the volume of output,
because they areperiod costs. It makes sense, therefore, to charge
them in full as a cost to the period.
(d) The cost to produce an extra unit is the variable production cost. It
is realistic tovalue closing inventory items at this directly attributable
cost.
(e) Under or over absorption of overheads is avoided.
(f) Marginal costing provides the best information for decision
making.
(g) Fixed costs (such as depreciation, rent and salaries) relate to a
period of time andshould be charged against the revenues of the
period in which they are incurred.
(h) Absorption costing may encourage over-production since reported
profits can beincreased by increasing inventory levels.

Arguments in favour of absorption costing:

(a) Fixed production costs are incurred in order to make output; it is
therefore 'fair' tocharge all output with a share of these costs.
(b) Closing inventory values, include a share of fixed production
overhead, andtherefore follow the requirements of the international
accounting standard oninventory valuation.
(c) Absorption costing is consistent with the accruals concept as a
proportion of thecosts of production are carried forward to be
matched against future sales.
(d) A problem with calculating the contribution of various products
made by anenterprise is that it may not be clear whether the
contribution earned by each productis enough to cover fixed costs,
whereas by charging fixed overhead to a product it ispossible to

ascertain whether it is profitable or not. This is particularly

importantwhere fixed production overheads are a large proportion of
total production costs. Notabsorbing production would mean that a
large portion of expenditure is not accountedfor in unit costs.

CHAPATER:3
MARGINAL COSTING AS A MANAGEMENT
ACCOUNTING TOOL:
1. Marginal Costing is clearly the core aspect of traditional
management accounting.Some of the classical applications of
management accounting, however, have begunto lose their
significance.
2. Businesses today frequently voice their disapproval of the
traditional costaccounting approaches. At the beginning of the 1990s,
these criticisms were taken upby researchers involved with the
applications of cost accounting concepts. The mainthrust of the
dissatisfaction with conventional cost accounting methods is that they
aretoo highly developed and too complex, and furthermore are no
longer needed in theircurrent form since other tools are now available.
Calls for increased use of costmanagement tools, investment analyses,
and value-based tool concepts are frequentlyassociated with criticism
of the functionality of current cost accounting approaches as
management tools.
This line of criticism sees little relevance in traditional costaccounting
tasks such as monitoring the economic production process or
assigning thecosts of internal activities. At their current level of detail,
such tasks are neithernecessary nor does their perceived pseudo
accuracy further the goals of management.

3. To assess the present-day value of Marginal Costing, the changes

occurring in thebusiness world must be analyzed more closely.
First, cost planning takes precedence over cost control. The effort
involved inplanning and monitoring costs is increasingly being seen
as excessive.
Second, cost accounting must be employed as a tool for cost control at
an early stage.The relative significance of traditional cost accounting
as a management accountingtool will decline as it is applied mainly to
fields where costs cannot be heavilyinfluenced. More significant than
influencing the current costs of production with costcenter controlling
and authorized-actual comparisons of the cost of goodsmanufactured
is timely and market-based authorized cost management. The
greatestscope for influencing costs is at the early product development
phase and whensetting up the production processes.
4. The shift in the purposes of cost accounting is being accompanied
by a shift in themain applications of standard costing. Costing
solutions for market-orientedprofitability management and life-cyclebased planning and monitoring should bedeveloped further. They
should be implemented both in indirect areas and at the
corporate level. In addition, cost accounting must be integrated
intoperformancemeasurement.
Long-term cost planning based on the idea of lifecycle costing is
gaining inprominence compared with short-term standard costing.
Product decisions areincreasingly based on more than just the cost of
goods manufactured and sales costsand now tend to include preproduction costs (such as development costs) andphasing-out costs
(such as disposal costs).Product decisions are viewed strategically.
Whether or not a product is successful is determined by the
amortization of its overallcost. Furthermore, the cost and revenue
trend forecasts should be more dynamic tosupport the lifecycle
pricing policy. This shift in cost and revenue planning is moving

cost and revenue accounting in the direction of investment-related

calculations.
Industrial production and marketing are increasingly being handled by
groups ofaffiliated companies. To plan and monitor the costs of these
activities calls for theestablishment of independent group cost
accounting. This necessity results mainlyfrom the requirements of
inventory valuation, the costing basis of transferprices, andto further
the consistency of corporate cost accounting.
Group cost accounting leadsto the definition of independent group
cost categories. Marginal Costing and its toolshave been developed
for individual companies and are the suitable platform for
thisexpansion.
While top management benefits most from financial success
indicators that itexamines in monthly or longer intervals and that can
consist of multidimensionalaggregate figures, lower management
must necessarily be concerned mainly withnonfinancial, operational,
and very short-term data at the day or shift level.
Inconcrete terms, measures in the categories of time, quantity, and
quality--such asequipment downtime, lead time, response time,
degree of utilization (ratio of actualoutput quantity to planned output
quantity), sales orders, and error rate--are becoming increasingly
significant for controlling business processes.

CHAPATER:4
THE BASIC DECISION MAKING
INDICATORS IN MARGINAL COSTING:
PROFIT VOLUME RATIO
BREAK- EVEN POINT
CASH VOLUME PROFIT ANALYSIS
MARGIN OF SAFETY
SHUT DOWN POINT
1. PROFIT VOLUME RATIO (P V RATIO )
The profit volume ratio is the relationship between the Contribution
and Sales value.
It is also termed as Contribution to Sales Ratio
Formula :
P V Ratio = Contribution X 100
Sales
Significance of PV Ratio:
It is considered to be the basic indicator of profitability of business.

 The higher the PV Ratio, the better it is for the business. In the case
of the firmenjoying steady business conditions over a period of years,
the PV Ratio willalso remain stable and steady.
If PV Ratio is improved, it will result in better profits.
Improvement of PV Ratio:
By reducing the variable costs.
By increasing the selling price
By increasing the share of products with higher PV Ratio in the
overall salesmix. (where a firm produces a number of products)
Use of PV Ratio:
To compute the variable costs for any volume of sales
To measure the efficiency or to choose a most profitable line. The
overallprofitability of the firm can be improved by increasing the
sales/output ofproduct giving a higher PV Ratio.
To determine the Break Even Point and the level of output required
to earn adesired profit.
To decide the most profitable sales mix.
2. BREAK EVEN ANALYSIS:
Break-Even Analysis is a mathematical technique for analyzing the
relationship between sales and fixed and variable costs. Break-even
analysis isalso a profit-planning tool for calculating the point at which
sales will equaltotal costs.
The Break Even Point is the point or a business situation at which
there isneither a profit nor a loss to the firm. In other words, at this
point, the totalcontribution equals fixed costs. The break-even point is

the intersection of thetotal sales and the total cost lines. This point
determines the number of unitsproduced to achieve breakeven.
A break-even chart is constructed with a horizontal axis representing
unitsproduced and a vertical axis representing sales and costs.
Represent fixed costsby a horizontal line since they do not change
with the number of unitsproduced. Represent variable costs and sales
by upward sloping lines sincethey vary with the number of units
produced and sold. The break-even point isthe intersection of the total
sales and the total cost lines. Above that point, thefirm begins to make
a profit, but below that point, it suffers a loss. It depictsthe following:
(1)Profitability of the firm at different levels of output.
(2)Break-even point No profit no loss situation.
(3)Angle of Incidence: This is the angle at which the total sales line
cutsthe total cost line. It is shows as angle (theta). If the angle is
large, thefirm is said to make profits at a high rate and vice versa.
(4)Relationshipbetween variable cost, fixed expenses and the
contribution.
(5)Margin ofsafety representing the difference between the total sales
and the sales atbreakeven point.
3. COST VOLUME PROFIT ANALYSIS:
Analysis that deals with how profits and costs change with a change
involume. More specifically, it looks at the effects on profits of
changes in suchfactors as variable costs, fixed costs, selling prices,
volume, and mix ofproducts sold.
CVP analysis involves the analysis of how total costs, total revenues
and totalprofits are related to sales volume, and is therefore concerned
with predictingthe effects of changes in costs and sales volume on
profit. It is also known as'breakeven analysis'.

 By studying the relationships of costs, sales, and net income,

management isbetter able to cope with many planning decisions. For
example, CVP analysisattempts to answer the following questions:
(1) What sales volume is required to break even?
(2) What sales volume is necessary in order to earn a desired (target)
profit?
(3) What profit can be expected on a given sales volume?
(4) How would changes in selling price, variable costs, fixed costs,
and output
affect profits?
(5) How would a change in the mix of products sold affect the breakeven andtarget volume and profit potential?
Cost-volume-profit analysis (CVP), or break-even analysis, is used
to computethe volume level at which total revenues are equal to total
costs. When totalcosts and total revenues are equal, the business
organization is said to be"breaking even." The analysis is based on a
set of linear equations for astraight line and the separation of variable
and fixed costs.
USES OF CVP ANALYSIS:
a) Budget planning. The volume of sales required to make a profit
(breakeven point)and the 'safety margin' for profits in the budget can
be measured.
b) Pricing and sales volume decisions.
c) Sales mix decisions, to determine in what proportions each product
should be sold.
d) Decisions that will affect the cost structure and production capacity
of the company

4. Margin of Safety
Margin of Safety (MOS) represents the difference between the actual
total sales andsales at break-even point. It can be expressed as a
percentage of total sales, or invalue, or in terms of quantity.
SIGNIFICANCE:
Upto Break even point the contribution earned is sufficient only to
recoverfixed costs. However beyond the Break even point. The
contribution is calledprofit (since fixed costs are fully recovered by
then)
Profit is nothing but contribution carried out of Margin of Safety
Sales.
The size of the margin of safety shows the strength of the business.
If the margin of safety is small, it may indicate that the firm has large
fixedexpenses and is more vulnerable to changes in sales.
If the margin of safety is large, a slight fall in sales may not affect
the businessvery much but if it is small even a slight fall in sales may
adversely affect thebusiness.
5. SHUT DOWN POINT:
Shut Down Point indicates the level of operations (sales), below
which it is notjustifiable to pursue production. For this purpose fixed
costs of a business areclassified into
(a) Avoidable or Discretionary Fixed Costs and
(b) Unavoidable or Committed Fixed Costs.
A firm has to close down if its contribution is insufficient to recover
the avoidablefixed costs.The focus of shutdown point is to recover the
avoidable fixed costs in thefirst place.
By suspending the operations, the firm may save as also incur
someadditional expenditure. The decision is based on whether
contribution is more than thedifference between the fixed expenses
incurred in normal operation and the fixed

expenses incurred when plant is shut down.

KEY FACTOR:
Key factor or Limiting factor represents a resource whose
availability is lessthan its requirement.
It is a factor, which at a particular time or over a period limits the
activities ofa firm.
It is also called Critical Factor (Since it is vital or critical to the firms
success)and Budget Factor (since budgets are formulated by reference
limitations or restraints).
Some examples of key Factor are
(a) Shortage of raw material;
(b) Labour shortage;
(c) Plant capacity;
(d) Sales Expectancy;
(e) Cash availability etc.

CONTRIBUTION ANALYSIS
Contribution is the most important concept in Marginal costing. It is,
as seen above equal to Sales
Less
Variable Cost. Contribution is the profit before adjusting the fixed
costs. Marginal costing isconcerned with the `product costs` rather
than the `periods costs`. Contribution indicates the
Product profit = product Income product cost i.e.
Contribution = sale Value Variable cost.

Marginal costing assumes that ht excess of sales value over variable

costs contributes to a fundwhich will cover fixed costs as well as
provide the concern`s profits. The amount of contribution is
credited to the marginal profit and loss account.
The fixed costs aredebited to the marginal profitand loss account. If
the contribution is equal to the fixed costs, the concern is said to
break- evenprofit. If the contribution is less than the fixed costs, there
will be net loss. Thus, the fixed costswhich are period costs do not
affect the product cost. Fixed costs are directly adjusted in the
profitand loss account prepared for the relevant period. The concept
of contribution plays a key role inassisting the management in taking
many important decisions such as1. Deciding the break-even point,
2. Deciding which article to produce, or continue or discontinue to
produce,
3. Deciding the quantity of each article to be produce or sold,
4. Fixing the selling price, especially in a trade depression, or for a
special order.
The difference between contribution and accounting profit is
explained below.
.
Contribution:
It is a concept used in Marginal costing.
It is before deducting Fixed Costs.
At break- over point, Contribution is equal to
fixed cost.
Profit:
It is an accounting concept.
It is after deducting Fixed Costs.
Profit arises only when Sales go beyond the
break- even point.

CHAPATER:5
Techniques of Costing:
Besides the methods of costing, following are the types of costing
techniques which areused by management only for controlling costs
and making some important managerialdecisions. As a matter of fact,
they are not independent methods ofcost finding such as job
or Marginal costing but are basically costing techniques which can
beused as anadvantage with any of the methods discussed above.
1. Marginal costing
Marginal costing is a technique of costing in which allocation of
expenditure to productionis restricted to those expenses which arise as
a result of production, e.g., materials, labor,direct expenses and
variable overheads. Fixed overheads are excluded in cases where
production varies because it may give misleading results. The
technique is useful inmanufacturing industries with varying levels of
output.
2. Direct Costing
The practice of charging all direct costs to operations, Marginales or
products and leavingall indirect costs to be written off against profits
in the period in which they arise is termedas direct costing. The
technique differs from Marginal costingbecause some fixed costscan
be considered as direct costs in appropriate circumstances.

3. Absorption or Full Costing

The practice of charging all costs both variable and fixed to
operations, products orMarginales is termed as absorption costing.
4. Uniform Costing
A technique where standardized principles and methods of cost
accounting are employeby a number of different companies and firms
is termed as uniform costing.
Standardization may extend to the methods of costing, accounting
classification includingcodes, methods of defining costs and charging
depreciation, methods of allocating orapportioning overheads to cost
centers or cost units. The system, thus, facilitates interfirm
comparisons, establishment of realistic pricing policies, etc.
Systems of Costing
It has already been stated that there are two main methods used to
determine costs. These
are:
Job cost method Marginal cost method
It is possible to ascertain the costs under each of the above methods
by two different ways:
Historical costing
Standard costing
Historical Costing
Historical costing can be of the following two types in nature:
Post costing
Continuous costing
Post Costing
Post costing means ascertainment of cost after the production is
completed. This is doneby analyzing the financial accounts at the end

of a period in such a way so as to disclosethe cost of the units which

have been produced.
For instance, if the cost of product A is to be calculated on this basis,
one will have to waittill the materials are actually purchased and used,
labor actually paid and overheadexpenditure actually incurred. This
system is used only for ascertaining the costs but notuseful for
exercising any control over costs, as one comes to know of things
after they hadtaken place. It can serve asguidance for future
production only when conditions in future continue to be the same

Continuous Costing:
In case of this method, cost is ascertained as soon as a job is
completed or even when a jobis in progress. This is done usually
before a job is over or product is made. In theMarginal, actual
expenditure on materials and wages and share of overheads are also
estimated. Hence, the figure of cost ascertained in this case is not
exact.
But it has anadvantage of providing cost information to the
management promptly, thereby enabling itto take necessary corrective
action on time. However, it neither provides any standard for
judging current efficiency nor does it disclose what the cost of a job
ought to have been.
Standard Costing:
Standard costing is a system under which the cost of a product is
determined in advanceon certain pre-determined standards. With
reference to the example given in post costing,the cost of product A
can be calculated in advance if one is in a position to estimate in
advance the material labor and overheads that should be incurred over
the product.

All thisrequires an efficient system of cost accounting. However, this

system will not be useful ifa vigorous system of controlling costs and
standard costs are not in force. Standard costing
is becoming more and more popular nowadays

Marginal costing Equations:

Sales Variable Cost = Contribution
Contribution Fixed Cost = Profit
Sales Variable Cost = Fixed Cost + Profit
Profit Volume Ratio = Contribution / Sales
Contribution = Sales * PV Ratio
Sales = Contribution / PV Ratio
BEP (in units) = Fixed Cost / Contribution per unit
BEP (in rupees) = Fixed Cost / Contribution * Sales
BEP (in rupees) = Fixed Cost / PV ratio
Required Sales (in rupees) = Fixed Cost + Profit / PV ratio
Required Sales (in units) = Fixed Cost + Profit / Contribution per unit

Actual Sales = Fixed Cost + Profit / PV ratio

Margin of safety (in rupees) = Actual Sales BEP Sales
Margin of safety (in units) = Actual Sales (units) BEP Sales (units)
Profit = Margin of safety * PV ratio

Ascertaining Missing figures:

1 . CONTRIBUTION
= Sales Variable Cost
= Fixed Cost + Profit
= Sales * PV Ratio
= (BE Sales in units * Contribution per units) + Profit
= (BE Sales in value * PVR ) + Profit
= Fixed Cost + (MS in units * Contribution per unit)
= Fixed Cost + (MS in value * PVR)
= Profit / MS in %
= Fixed Cost / BE sales in%
2 . PROFIT VOLUME RATIO (PVR)
= Sales - Variable Cost / Sales * 100
= Contribution / Sales *100
= Fixed Cost + Profit / Sales *100
= Fixed Cost / BE Sales in value * 100
= Fixed Cost / BE Sales in units *100 / Selling price per unit
= Profit / Margin of safety in value *100
= Profit / Margin of safety in units *100 / Selling price per unit
= Change in profit / Change in sales *100

= 100 Variable cost to sales ratio

3 . BE SALES IN UNITS
= Fixed Cost / Contribution per unit
= BE Sales / Selling price
= Fixed Cost / S.P. per unit Variable cost P.U
= Actual Sales per unit Margin of safety in units
4 . BE SALES IN VALUE
= Fixed Cost / PVR
= Actual Sales in value Margin of safety in value
= Fixed Cost / Contribution per unit * Selling price per unit
= BE Sales in units * Selling price per unit
= Fixed Cost / 1- Variable Cost / Sales
= Fixed Cost / % of Contribution to sales
5 . BE SALES IN % OF SALES
= Fixed Cost / Contribution *100
= BE Sales / Actual Sales *100
= 100 margin of safety (in %)
6 . MARGIN OF SAFETY IN UNITS
= Profit / Contribution per unit
= Actual Sales in units BE Sales in units
7 . MARGIN OF SAFETY IN VALUE
= Profit / PV Ratio
= Actual Sales in value BE Sales in value
= Profit / Contribution per unit * Selling price per unit
= Margin of Safety in units * Selling price per unit
8 . PROFIT
= Sales Total Cost
= Sales (Variable Cost + Fixed Cost)
= Contribution Fixed Cost
= Margin of Safety in Value * PVR
= Margin of Safety (% of sales) * Total Contribution
= (Margin of Safety in % of Sales * Actual Sales) * PVR

9 . SALES
= Total Cost + Profit
= Variable Cost + Fixed Cost + Profit
= Variable Cost + Contribution
= Contribution / PV ratio * 100
= BE Sales + Margin of Safety

ABSORPTION COSTING PRO-FORMA

Sales Revenue
Less Absorption Cost of Sales
Opening Stock (Valued @ absorption cost)
Add Production Cost (Valued @ absorption cost)
Total Production Cost
Less Closing Stock (Valued @ absorption cost)
Absorption Cost of Production
Add Selling, Admin & Distribution Cost
Absorption Cost of Sales
Un-Adjusted Profit
Fixed Production O/H absorbed
Fixed Production O/H incurred
(Under)/Over Absorption
Adjusted Profit

xxxxx

xxxx
xxxx
xxxx
(xxx)
xxxx
xxxx
(xxxx)
xxxxx
xxxx
(xxxx)
xxxxx
xxxxx

MARGINAL COSTING PRO-FORMA

Sales Revenue

xxxxx

Less Marginal Cost of Sales

Opening Stock (Valued @ marginal cost)
Add Production Cost (Valued @ marginal cost)
Total Production Cost
Less Closing Stock (Valued @ marginal cost)
Marginal Cost of Production
Add Selling, Admin & Distribution Cost
Marginal Cost of Sales
Contribution
Less Fixed Cost
Marginal costing Profit

xxxx
xxxx
xxxx
(xxx)
xxxx
xxxx
(xxxx)
xxxxx
(xxxx)
xxxxx

Conclusion:
The costs that vary with a decision should only be included in
decision analysis. For manydecisions that involve relatively small
variations from existing practice and/or are forrelatively limited
periods of time, fixed costs are not relevant to the decision
Marginal costing ascertains marginal or variable costs & the effect on
profit,of the changes in volume or type of output, by differentiating
between variable costs &fixed costs.
Marginal costing is formally defined as: the accounting system in
which variable costs arecharged to cost units and the fixed costs of the
period are written-off in full against theaggregate contribution
Classification of costs into fixed costs & variable costs is done under
Marginalcosting system. Also semi-fixed or semi-variable cots get
further classified intofixed & variable elements
As there is involvement of computation of variable costs only in
Marginal costing,it is easy to understand & operate the same.

Among different products or departments, arbitrary apportionment of

fixed costs isavoided & the under-recovery or over-recovery problems
are eliminated.
Any attempt of measurement of relative profitability of different
products ordifferent departments becomes complicated due to the
arbitrary apportionment offixed costs.

BIBLIOGRAPHY:
www.tutorialspoint.com/...basics/cost_accounting_marginal_costing
https://en.wikipedia.org/wiki/Marginal_cost
study.com/academy/.../marginal-cost-definition-equation-formula
.htmlcost-edu.blogspot.com/p/basic-cost-concepts.html
earncostaccounting.blogspot.com/2010/.../marginal-costingwww.accountingcoach.com/blog/what-is-marginal-cost
www.investopedia.com/terms/m/marginalcostofproduction.asp
dosen.narotama.ac.id/.../Chapter-26-Marginal-Costing-and-CostVolume