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Chapter 25
Marginal Costing
Formulas
1) Total Cost
Fixed Cost + Variable Cost
2) Break-Even Point
ยฟ Costs
Contribution per Unit
3) Contribution per unit
Selling price - Variable cost per unit
4) Sales Revenue
Units x Selling price
5) Target Profit
ยฟ Costs + Target Profit
Contribution per unit
6) Variable Cost per unit
Variable Costs
Units
7) Margin of Safety
Current/Forecast output sales - break-even
Purpose of CVP Analysis
used by management in decision making to find: โ No. of units that must be manufactured & sold to break even โ No. of units must be manufactured & sold to achieve target profit โ Margin of safety โ Outcome of producing & selling one extra unit of product
Principles of marginal costing
Alternative method of costing Based on following assumptions: โ Total cost of producing product can be divided into fixed & varaible
โ Fixed costs remain fixed & not affected by volume of output โ One more unit of product is manufactured - unit cost of production will increase ONLY by variable cost of extra unit
Break-Even Point
โ Point at which profit is zero - neither profit/loss โ No. of units sold so that sales equals total cost
Target Profit
โ Level of production & sales required to reach profit goal โ Aid to decision making โ Treated like fixed cost โ Contribution required will need to cover target profit & fixed costs
Margin of Safety
โ Amount by which sales can fall before break-even point reached โ Can be expressed in units, sales value or as a percentage of budgeted sales
Limitations of Marginal Costing
Marginal costing assumes that:
โ Variable costs completely variable at all levels โ Fixed costs always fixed in long term โ All costs easily classified into fixed & variable โ Selling price is constant โ All stock produced is sold (no closing stock) โ Only one product produced โ No faulty products
Contribution to Sales Ratio (C/S Ratio)
โ Alternative way to find break even, margin of safety & profit โ Used when necessary figures eg variable costs are unavailable Contribution x 100 Sales
Contribution break-even chart
