Our Team of

Accountants

Name Roll No.

Nischay Kalra (Group leader) 132
Dheyey Ahalpara 104
Raj Dhakan 115
Nikhil Korgaokar 137
Varun Mehta 147
Niraj Nisar 148
Nilesh Patel 159
ACKNOWLEDGEME
NT
On the behalf of entire group and
on my personal behalf I would like
to thank Prof. Poonam Popat for
giving us an interesting topic
Techniques of Marginal Costing.
I would also thank all group
members who worked together
and coordinated with every one
throughout the presentation which
has given out such a fine output in
the form of group effort and
efficiency in the presentation.
I would once again like to thank
prof. Poonam for giving us her
valuable guidance throughout the
presentation without which the
presentation would have been
incomplete.

INDEX
Sr. TOPICS
1 Introduction
2 Types Of Costing Methods
3 Absorption Costing
4 Marginal Costing
5 Contribution
6 P V Ratio
7 Break – Even Point
8 Margin Of Safety
9 Features
10 Advantages
11 Disadvantages
 Topic:-
TECHNIQUES
OF
MARGINAL
Costing
 Introduction
In today’s market where there is cut throat competition
in the market it would not be possible for the any firm in
the market to charge high price for the customer. In such
conditions the manufacturer tries to cut the cost of product
as much as possible. This would help him to earn some
profit so as to survive in market. For this purpose he would
need to find out the cost of the product. If the cost of
product is found out it would be possible for him to know
where he could cut down his expenses and even reduce his
wastage to a large extent. If he does all this stuff and
becomes successful in providing his products to customers
at the same price or even at a lower price than his
consumers he would be successful in the entire market.
The entire procedure of bringing down the original cost
through a procedure where a person earns in profit is
called cost accounting. The procedure of cost accounting is
done before the actual product is produce so it’s futuristic
in nature and it can be estimated that what would be the
product costing for the manufacturer and at what price
would he sell the product to his customers.
Eg:A firm produces 50,000 pencils/month at Rs 3 and start
selling at Rs 4.If the firm reduces the cost price by even Rs
0.5 than can sell at Rs. 3.75
There are various methods for calculating but since the
topic for the presentation is Techniques on M C the main
topic for us and we are concerned with the topics.
Break Even Point
The relationship between Volume, Costs and Profits can
also be represented with the help of a graph. Such a graph
is also known as Break Even Chart. A break-even point
denotes the volume at which the Sales are equal to the
total cost, resulting in a situation where there is no profit
no loss. A break-even chart shows the different amount of
sales and Costs at different volumes. The level of output at
which the Sales and the Total Costs are equal is known as
the Break Even Point.
Construction
1) Show the volume (in units) on the X- axis (the
horizontal line).
2) Show the Values (in Rs) of the Sales, Costs and
Profits on the Y-axis (the vertical line)
3) Plot the Fixed Cost on the vertical Axis. Join the
points to make a Fixed Cost Line. This will be
straight line parallel to the X- axis.
4) Plot the Variable Cost Line. The line will make a
45angle to the X-axis.
5) Plot the total cost on Y-axis for different
volumes. Join the point to make a sales line.
6) Plot the Sales on Y-axis for different volumes.
Join the point to make sales line.
 7) The break-even point is the point where the
Sales Line and the Total Cost Line intersect. At this
point the Sales Value is equal to the Total Cost. At
this volume, there is neither profit nor loss.
Thus if the concerns sells this much quantity, it will
manage to break even. Its sales will just cover the total
costs.

ILLUSTRATION
Draw a break- even chart from the following
information. A company produces and sells an article at
Rs. 100 each. The Marginal Cost is Rs 60. The total fixed
costs are Rs 4,000
Solution
1) Let us assume different volumes of output and
work out the Sales, Fixed Costs, Marginal Cost and
Total Cost at each level. This will enable us to plot
these points and draw the Sales Line, the Fixed
Costs line, the Variable Costs Line, the Total Cost
Line etc. In the break- even Chart.
2)

Output (units) 40 8 12 20
0 0 0
Sales 4,0 8,0 12,0 20,0
 00 00 00 00
Fixed Costs 4,0 4,0 4,0 4,0
00 00 00 00
Variable Costs 2,4 4,8 7,2 12,0
00 00 00 00
Total Costs 6,4 8,8 11,2 16,0
00 00 00 00
3) The Break-even chart will be constructed the
following procedure described above. See chart
below.
4) The Break-even point is at sale Rs. 10,000 or of
sale of 100 units. At this point the sales value is Rs.
10,000 and the total costs are Rs. 10,000 made up
of Fixed Costs Rs. 4,000 and the Variable Costs Rs.
6,000 (100 units x Rs. 60 each).

Break Even Point Chart of a business firm

Methods of Costing
We have seen that Methods of Costing means the
methods used for ascertainment of costs. Ascertainment
of costs covers the collection of costs, classification of
costs, allocation of direct costs of products, and
apportionment and absorption of overheads by products.
We have also studied in detail the different methods of
costing such as Unit Costing, Contract Costing, and
Process Costing. These methods of costing enable the
management to determine the Total Cost of a Product,
Contract or Process.
Techniques of Costing
Costing methods are mainly useful for collection of cost
data and determining the total cost of a product. Such
cost data must be analyzed further for assisting the
management in taking decision regarding production
selling it several Costing Techniques have been
developed for analyzing of cost data for different
purpose. The main costing techniques are –
a) Absorption Costing
b) Marginal Costing

Absorption Costing
Meaning
 Absorption costing refers to the analyses of the cost
data for the purpose of allotment of costs to cost units.
In absorption costing fixed as well as variable cost is
charged to products. The techniques of absorption
costing thus refer to the principles of allocation,
apportionment and absorption of costs used for
ascertaining the cost of a product, process or contract.
Limitations
1) Charges Fixed Costs to Product:-
In absorption costing, all costs, whether fixed or
variable, are charged to the product. Thus a product is
charged both the product costs (direct or variable costs)
and the period costs (fixed cost). Since the Fixed Costs
are included in total cost charged to the product, the
unit cost varies from one year to another, depending on
the volume in each year.
Eg. In a concern, the fixed cost is Rs 1, 00,000. If the
output is 500in the first year, the fixed costs per unit =
Rs 1, 00,000/500 =200. If the output is 1,000 in the next
year, the unit per fixed costs = Rs 1, 00,000/1,000= Rs
100. Thus the per unit fixed cost and hence the unit
costs of product change with the change in volume of
output over a period. This makes comparison of units
cost over two periods difficult.
2) Includes Fixed costs in Closing Stocks
The principle of Revenue – Cost Matching is
ignored in Absorption Costing. According to the
matching principle, the costs of one period should not be
carried forward through the closing stock of the next
year which is against the matching principle.
3) Arbitrary Absorption of Fixed Costs:-
In case a concern produces a number of products, the
fixed cost are charged to each product on an arbitrary
basis. This may give a misleading picture to the
management. The management, may for example,
discontinues a product as a loss- making one, on the
basis of data furnished by Absorption Costing, while in
fact it may be earning gross profits.

4) Ignores Cost- Volume – Profit Relationship

Absorption Costing ignores the Cost-Volume-Profit
Relationship. Absorption Costing cannot reveal the
effect of change in volume on cost and sales policies.

5) Unsuitable for Management Decision

Making:-Management has to take many decisions
such as which product to purpose more, which
product to discontinue, what is the lowest price to
be charged for a special order and so on. For, such
decisions, the management must know
(I) The direct, variable cost of each unit of product
and
(II) The relationship between Cost-Volume-Profits or
how the costs and profits or how the costs and
profits will change due to a change in volume or
 output. Absorption Costing fails to provide such
analysis.
All these limitations of Absorption Costing has led
to the development of Marginal Costing

Marginal Costing
I) Introduction
The technique of Marginal Costing is entirely based
on the distinction between Fixed Costs and Variable
Costs. Marginal costing classifies the total cost into
Fixed Costs and Variable Costs. In Marginal costing
only Variable Costs are charged to the product.
Variable costs vary with level of output and hence are
‘Product Costs’. Therefore only variable costs are
charged directly to the products. The Fixed Costs are
not charged to the product. Fixed Costs are related to
period rather than level of output. In Marginal Costing,
Fixed Costs, being ‘Period Costs’, are directly
transferred to the Costing Profit and Loss Account for
the relevant period.
II) Definition
Marginal Costing is defined by ICMA, as “the
ascertainment, by differentiating between fixed and
variable costs, of marginal costs, and of the effect on
 profit of changes in the volume and the type of
output.”
III) Characteristics
a) Marginal costing is the ascertainment of the effects
on profit of changes in the volume and type of output.
b) Marginal Costing is also the ascertainment of the
effect on profit of changes in the volume and type of
output.
These aspects – Determination of Marginal Cost and
Ascertainment of Cost – Volume – Profit Relationship –
are discussed in detail.

Marginal Cost
I) Definition
The marginal cost is the amount by which total
costs change if the output is changed by one unit. If
the output is increased by one unit, the variable costs
are 10 per unit, the increase of output by one unit will
increase the total costs by Rs.10. This is
is Marginal Cost of producing the additional unit.
Marginal Cost is equal to the Prime Cost + Variable
Overheads.
II) Marginal Unit
 ‘One unit’ in the above definition may indicate a
single article, a batch of articles, an order, a process, a
department and so on. This can also be called the
Marginal Unit. ‘change in Output, may indicate
increase or decrease. Thus, change in output by one
unit may indicate:-
i) Increase or decrease of a single article,
ii) Addition or discontinuance of one batch of
articles,
iii) Accepting or not Accepting a specific order,
iv) Addition or discontinuance of a specific process,
v) Addition or discontinuance of a department, so
on.
Marginal Costs is to the change in the cost in
each of the above circumstances. It is the cost of the
Marginal Unit. It is the cost of doing or not doing a
certain thing. Marginal Cost is thus the cost of an
option. Clearly, therefore, Marginal Cost helps the
management in ascertaining the cost of an option and
taking decision as to which option to accept or reject

Determination of Marginal Cost

Computation
Marginal cost is equal to variable costs i.e. Prime Costs +
variable Costs
Marginal Cost = Prime cost +Variable Overheads.
Marginal Cost =
Prime Cost
a) Direct Material Cost
b) Direct Labour Cost
c) Direct Expenses
Variable Cost
a) Variable Production Overheads
b) Variable Administration Overheads
c) Variable Sales and Distribution Overheads
Thus Marginal Cost excludes the Fixed
Overheads. It excludes the fixed production overheads
+ Fixed Administration Overheads + Fixed Selling and
Distribution Overheads. As far as Semi – Fixed or semi –
Variable costs are concerned, they are separated into
their fixed elements and variable elements. The fixed
element is added to the Fixed Costs and the Variable
Element is added to the Variable Costs.

Procedure
Marginal Cost of product is determined in the following
manners-

1) Classification of Cost into Fixed and

Variable Costs:-
The costs collected from different sources such as
Material Records, Labour Record, and Expense
Vouchers are classified into Fixed Costs and Variable
Costs.
Fixed Costs are the cost which does not vary with
change in volume. Fixed costs accrue in relation to
time
e.g. rent accrues on per month basis. Fixed Cost,
therefore are related to the passage of time. For this
reason, Fixed Costs are also known as period cost.
Fixed Cost is also known as Capacity Cost. Capacity
Cost is the costs incurred to create the existing
production capacity of business. Thus, Fixed Cost will
not change so long as the capacity remains the same.
Increase incapacity, however will require additional
Fixed Cost.
Variable Cost is the cost that tends to vary in direct
proportion to volume. Variable Costs increase when
the volume increases. On the contrary, variable costs
decrease when the volume decreases.
Eg of Variable Cost are direct cost Eg raw material,
wages paid on piece rate basis.

2) Allocation Of Marginal Cost to Product:-

Marginal cost, as seen earlier, is = Prime Cost +
Variable Overheads. This marginal cost is allocated to
the product(s). Thus the cost allocated to each
product is the marginal cost of that product. The fixed
costs are not allocated, apportioned for absorbed to
the products. In fact there are no complicated
processes of apportionment, reapportionment or
absorption of Overheads in marginal costing. This is
the main difference between Absorption Costing and
Marginal Costing.

3) Valuation of Stocks at Marginal Cost:-

The closing stock of each product is valued at its
marginal cost. Since the marginal cost excluded the
fixed cost, the closing stocks are valued only at the
product cost. The period cost i.e. the fixed costs are
not included in closing stock and hence not carried
forward to the next year.

4) Contribution:-
The difference between the sale value and the
marginal cost is called contribution. Thus contribution
= Sales Value less Marginal Costs. Contribution is
similar to the gross profit of a product. The fixed
costs are deducted from the contribution to arrive at
the net profits of the concern. In case of a number of
products, the contribution from all the products are
added together to determine the total contribution
available for meeting the total fixed cost. If the
contribution is less than the fixed cost, the concern is
said to suffer a loss.
Contribution
Contribution is the most important concept in
Marginal Costing.
It is, as seen above is equals to Sales Less Variable
Costs. Contribution is the profit before adjusting the
fixed cost. Marginal Costing is concerned with the
‘Product Cost’ rather than the ‘Period Cost’.
Contribution indicates the:-
Product profit = Product income – Product Costs
I.e. contribution = Sale Value – Variable Cost.
Marginal Costing assumes that the excess of sales value
or variable costs contributes to the fund which will cover
fixed costs as well as provide the concern’s profit.
The amount of contribution is credited to marginal profit
and loss account.
The fixed cost is debited to the marginal profit and loss
account.
If the contribution is equal to the fixed cost, the concern
is said to break- even i.e. there is neither profit nor loss.
If there contribution is more than the fixed costs, there
will be Net Profit.
If the contribution is less than the fixed cost, there will
be net loss.
Thus the fixed cost which is period costs do not affect
the product cost.
Fixed costs are directly adjusted in the profit and loss
account prepared for the relevant period.
The concept of contribution place a key role in assisting
the management and talking many decisional such as –

1) Deciding the break-even point,

 2) Deciding which articles 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 as follows:-

No Contribution Profit
.
1 It is a concept used in It is an accounting cocept.
Marginal Costing.
2 It is before deducting fixed It is after deducting Fixed
costs. Costs.
3 At break-over point, Profit arises only when
contribution is equal to Sales go beyond the
fixed cost. break-even point.
Profit Volume Ratio [P V Ratio]

Definition
Marginal costing, by its definition, means the
ascertainment of the effect on profit of changes in
volume and type of output. Such ascertainment of the
impact of changes n volume of output on profits is done
by means of the Profit-volume Ratio. The profit volume
ratio or more appropriately, the Contribution – Sales
Ratio is defined as follows;
Profit – volume Ratio = Contribution
Sales
From the marginal cost statement, it is clear that the
sales, the Variable Cost and contribution vary directly
with the number of units. Thus, when the number of
units (produced or sold) increases, the Sales, the
Variable Cost and the Contribution also increase pro-
rata. On the contrary, when the number of units goes
down, the Sales, the Variable Costs and the Contribution.
This is also known as the Volume – Costs – Profit
relationship. The Profit Volume Ratio indicates this
relationship.

Margin of Safety

Margin of safety (MS) is the difference between the

Actual Sales and the Sales at the break – even point.
Thus,
Margin of safety (Rs) = Actual Sales – BEP (Rs.)

Margin of Safety (Rs) = Actual Sales – BEP (Units)

Larger margin of safety indicates Stronger of Business.

Such business can continue to earn profits, even if the
sales decreases
MS is directly linked to Profits as indicated by the
following equation.

Profit = Margin of Safety x Profit Volume Ratio

If any two factors in the above equation are known, the

missing factor can be ascertained by solving the
equation.
Increase in price leads to higher MS, reduction in the
price leads to lower MS.
MS can be improved by

(A) Increasing volume of sales or selling price or Sales or

selling price or sale of product with higher P V Ratio, or
(B) Reducing fixed costs or variable cost

Advantages of Marginal Costing

1) Decision Regarding the Marginal Unit
It means a single additional unit or an additional
block of units such as a batch of articles, an order, a
process, a department and so on. Management has
to frequently take decisions regarding the addition
or discontinuance of the marginal unit. Thus ,
management has to decide whether to

• Increase or decrease the production of a single

articles

• Continue or discontinue a batch of articles

• Continue or discontinue a specific process

• Add or continue a department, and so on.
2) Decision regarding Optimum Product – mix
Marginal costing helps the management in deciding
the most profitable product – mix. The break – even
chart and the Profit Volume Ratio for each product
can be studied to decide upon the quantity of each
product to be produced so as to earn the maximum
contribution and Profits. That Product Mix which
yield the maximum possible profits is the optimum
Product – Mix.
3) Decision Regarding Utilisation Of Scarce
Resources
If any resources such as labour, machinery, raw
materials or finance are in short supply, the
Contribution in relation to the key factor can be
worked out. The product which yields the highest
contribution per unit of the scarce factor
(Contribution per Labour Hour etc.) can be produced
in large quantities to derive the maximum profits
possible.
4) Decision Regarding Pricing
Marginal Costing helps the management in making
decisions. In Absorption Costing, the prices are fixed
so as to cover the total costs which include the fixed
costs as well as Variable Cost.
Thus prices can be fixed so as to -
a) Earn maximum Contribution
Marginal costing techniques such as Profit Volume
Ratio are especially helpful in fixing the selling
price for submitting quotations or tenders.
b) At Least Break-even
It means that product can cover all the costs
c) Recover At Least The Marginal Costs,
I) Depression
II) Eliminate Competition
 III) Establish New Product
5) Decision Regarding Make or Buy
Management has to decide whether it would be
more profitable to manufacture a product or a
component in- house rather than buying it from
outside.
6) Cost Control
Marginal Costing deals with Variable costs which
are easier to control. Fixed costs arise in relation
to time and hence are not controllable in the short
run.

Limitations
1) Difficult to separate fixed and variable
cost.
The technique of marginal costing is based on the
classification of costs into fixed and variable cost.
But the separation of cost into fixed and variable is
a technically difficult job. No fixed cost are entirely
fixed and no variable cost are completely variable.
Even the separation of semi-fixed or semi-variable
cost is often arbitrary. This means that management
cannot completely rely on marginal cost for taking
major decisions.
2) Fixed cost cannot be ignored in long run
It completely ignores fixed costs while this may be
accepted in short term, fixed cost must be
considered in long term. Fixed cost are major cost of
business which cannot be ignored while taking
important decisions.
3) Fixed cost should be considered in stock
Valuation
MC ignores fixed cost for purpose of valuation of
stock. However fixed cost are also incurred in
production of products and should be apportioned to
the product on some reasonable basis.
4) Not Applicable to Contract Costing
MC is not useful in Contract Costing since it ignores
fixed cost in valuation of work in progress. This will
give uneven and misleading results
5) Assumes Fixed Production Capacity
Fixed cost are fixed only in relation to the
production capacity. If the production capacity
increases or decreases substantially, fixed cost also
changes dramatically. Thus decisions regarding new
process on a new department may imply increase in
production capacity and Fixed Costs. Thus marginal
cost also increases.