MARGINAL COSTING

SECTION A

1.A Choose the correct answer from given four alternatives [one mark each]
A. Marginal Cost is
a. the amount at any given volume of output by which aggregate costs are changed if the volume
of output is increased or decreased by one unit.
b. Prime Cost plus Fixed Overheads
c. a variable ratio which may be expressed in terms of an amount per unit of output
d. not normally traceable to particular unit

B. Marginal costing is
a. A cost accounting technique where valuation of stocks such as finished goods, work-in-
progress is made at Total Cost.
b. A cost accounting technique where there is no need to segregate between Fixed Cost and
Variable Cost.
c. the ascertainment of marginal costs and of the effect on profit of changes in volume or type of
output by differentiating between fixed costs and variable costs.
d. A simple cost accounting technique as fixed cost need not be considered as period cost and
can be apportioned on each unit of goods produced.

C. A private hospital has a budgeted annual overhead cost for cleaning of Rs 12,50,000. There are 300
beds in the hospital and these are expected to be in use 95% of the year. The hospital uses a
composite cost unit of occupied bed per night. What is the overhead absorption rate for cleaning?
(Assume a year has 365 days).
a. Rs 10.36
b. Rs 11.54
c. Rs 12.02
d. Rs 16.04

D. A technical writer is to set up her own business. She anticipates working a 40-hour week and taking
four weeks' holiday per year. General expenses of the business are expected to be Rs 10,000 per
year, and she has set herself a target of Rs 40,000 a year salary. Assuming that only 90% of her time
worked will be chargeable to customers, her charge for each hour of writing (to the nearest Rupee)
should be;
a. Rs 32.04 per hour
b. Rs 35.06 per hour
c. Rs 28.94 per hour
d. Rs 27.20 per hour

E. A company makes a single product and incurs fixed costs of Rs 30,000 per month. Variable cost per
unit is Rs 5 and each unit sells for Rs 15. Monthly sales demand is 7,000 units. The breakeven point
in terms of monthly sales units is:
a. 2,000 units
b. 3,000 units
c. 4,000 units
d. 6,000 units

F. Which of the following statements is/are correct?

(i) The incremental cost of buying a larger quantity of material might be a negative cost, which is a cost
reduction
(ii) If a company reduces its selling price by 20% so that sales volume increases by 25%, total profit will
remain unchanged
(iii) A direct cost need not be a variable cost, but might be a fixed cost

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 a. (i) only
b. (i) and (ii) only
c. (ii) and (iii) only
d. (i) and (iii) only

G. If the selling price and variable cost increase by 20% and 12% respectively by how much must
sales volume change compared with the original budgeted level in order to achieve the original
budgeted profit for the period?
a. 24.2% decrease
b. 24.2% increase
c. 39.4% decrease
d. 39.4% increase

H. Which of the following statements about profit/volume graphs are correct?

(i) The profit-volume line starts at the origin
(ii) The profit-volume line crosses the x axis at the breakeven point
(iii) Any point on the profit-volume line above the x axis indicates the profit (as measured on the vertical
axis) at that level of activity
a. (i) and (ii) only
b. (ii) and (iii) only
c. (i) and (iii) only
d. All of them

I. A company's single product has a contribution to sales ratio of 20%. The unit selling price is Rs 12.
In a period when fixed costs were Rs 48,000 the profit earned was Rs 5,520. Direct wages were 30%
of total variable costs, and so the direct wages cost for the period was;
a. Rs 64,224
b. Rs 22,624
c. Rs 44,226
d. Rs 75,000
J. A company produces and sells a single product whose variable cost is Rs 15 per unit. Fixed costs
have been absorbed over the normal level of activity of 500,000 units and have been calculated as
Rs 5 per unit. The current selling price is Rs 25 per unit.
Profit made under marginal costing if the company sells 625,000 units would be;
a. 25,00,000
b. 37,00,000
c. 42,50,000
d. None of the above

B. Match the following [one mark each]

A. Break Even Point aDenotes the exact moment when a company’s

revenue is equal to its variable costs.
B. The shutdown point b anything which limits the activity of an entity
C. Margin of Safety c Is the volume of production or sales where total costs
are equal to total revenue
D. Angle of Incidence d indicates the percentage by which forecast revenue
exceeds or falls short of that required to break even.
E. Differential Cost e is a measure of how much contribution is earned
from each Re 1 of sales.
F. Profit volume ratio f is the change in the costs which results from the
adoption of an alternative course of action.
The optimum combination of
G. g approximate profit or loss at different levels of sales
sales price and sales volume is volume within a limited range.
A breakeven chart is a chart
H. h
that indicates To give a visual display of breakeven arithmetic

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 I. Breakeven charts are used i arguably the combination which maximises total
contribution
J A key factor is j Depicts growth of Profitability

C. State whether the following statements are True' or 'False': [one mark each]
i. Differential costs compare favourably with the economist’s definition of marginal cost, viz. that
marginal cost is the amount which at any given volume of output is changed if output is increased or
decreased by one unit.
ii. When closing stock is more than opening stock: In other words, when production during a period is
more than sales, then profit as per absorption approach will be more than that by marginal approach.
iii. Absorption costing system is simple to operate than marginal costing because they do not involve the
problems of overhead apportionment and recovery
iv. One of the limitations of marginal costing is that the separation of costs into fixed and variable present’s
technical difficulties and no variable cost is completely variable nor is a fixed cost completely fixed.
v. Though for short-term assessment of profitability marginal costs may be useful, long term profit is
correctly determined on full costs basis only

D. Fill in the blanks: [one mark each]

i. ______________ are not assigned to the product but are recognized as expenses in the period incurred. All
nonmanufacturing costs are period costs
ii. Only difference between variable costing and absorption costing is the classification of
___________________________
iii. Under marginal costing the difference in the magnitude of________________________________________ does not
affect the unit cost of production.
iv. ________________ compare favourably with the economist’s definition of marginal cost, viz. that marginal
cost is the amount which at any given volume of output is changed if output is increased or decreased
by one unit.
v. If the contribution margin is 20% of sales and the Variable cost is Rs 1000000 then Sales would be
__________________

SECTION B: Answers any five Questions

[Working notes should form part of the answer]

2. (a) The following information relates to a management consultancy organisation.

Overhead absorption rate per consulting hour Rs 25.00
Salary cost per consulting hour (senior) Rs 40.00
Salary cost per consulting hour (junior) Rs 30.00
The organisation adds 35% to total cost to arrive at the selling price.
Assignment number 3036 took 172 hours of a senior consultant's time and 440 hours of junior
time.
What would be the price that should be charged for assignment number 3036?

(b) E Co manufactures a single product, P. Data for the product are as follows.
Rs per unit
Selling price 20
Direct material cost 4
Direct labour cost 3
Variable production overhead cost 2
Variable selling overhead cost 1
Fixed overhead cost 5

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 Profit per unit 5
i. Calculate the Contribution to Sales ratio.
ii. Briefly explain why fixed overhead cost is not considered and also state the implications of
taking fixed overhead cost at Rs 5 per unit.
[6+ (4+5) = 15]

3 (a) A single product company has a contribution to sales ratio of 40%. Fixed costs amount to Rs90,000 per
annum. The number of units required to break even is _______________________.

(b) Z plc makes a single product which it sells for Rs 16 per unit. Fixed costs are Rs 76,800 per month and
the product has a contribution to sales ratio of 40%. In a period when actual sale was Rs 224,000, Z plc's
margin of safety, in units, was _____________________ .

(c) A company's breakeven point is 6,000 units per annum. The selling price is Rs 90 per unit and the
variable cost is Rs 40 per unit. What are the company's annual fixed costs?

(d) H Company sells product V, for which data is as follows.

Selling price Rs 108 per unit
Variable cost Rs 73 per unit
Period fixed costs amount to Rs 196,000, and the budgeted profit is Rs 476,000 per period.
If the selling price and variable cost per unit increase by 10% and 7% respectively, the sales volume will need to
_________________ to _______________ units in order to achieve the original budgeted profit for the period.
[4 + 4 + 3+4 = 15]

4 (a) Cost and selling price details for product Z are as follows.
Direct materials 6.00
Direct labour 7.50
Variable overhead 2.50
Fixed overhead absorption rate 5.00
21.00
Profit 9.00
Selling price 30.00
Budgeted production for the month was 5,000 units although the company managed to produce 5,800
units, selling 5,200 of them and incurring fixed overhead costs of Rs 27,400.
i. What was the marginal costing profit for the month?
ii. What was the absorption costing profit for the month?

4 (b). The overhead absorption rate for product T is Rs 4 per machine hour. Each unit of T requires 3
machine hours.
Inventories of product ‘T’ in the last period were: Units
Opening inventory 2,400
Closing inventory 2,700
You are to calculate the difference between the marginal costing profit for the period and the
absorption costing profit for product T. which will be higher?
[10 + 5 = 15]

5 (a). Badley Company has been approached by two customers to provide 2,000 units of product X by a certain
date. Company can only fulfil one of these orders. Customer X is a long-standing customer and the
contribution on customer X's order would be Rs 50,000. Badley Company has not dealt with customer Y
before and so they do not receive the discount given to customer X. The contribution on customer Y's
order will be Rs 60,000. Badley Company decides to fulfil customer X's order. The marginal cost of the
2,000 units is Rs 25,000. What is the economic cost of customer X's order?

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5 (b) A company has a capacity of producing 1 lakh units of a certain product in a month. The sales department
reports that the following schedule of sales prices is possible
VOLUME OF PRODUCTION SELLING PRICE PER UNIT
% Rs

60 0.90
70 0.80
80 0.75
90 0.67
100 0.61

The variable cost of manufacture between these levels is 15 paise per unit and fixed cost Rs 40,000.
Prepare a statement showing incremental revenue and differential cost at each stage. At which volume
of production will the profit be maximum?
[6 + 9 = 15]

6 (a) X Co generates a 12 per cent contribution on its weekly sales of Rs 280,000. A new product, Z, is to be
introduced at a special offer price in order to stimulate interest in all the company's products, resulting in a
5 per cent increase in weekly sales of the company's other products. Product Z will incur a variable unit
cost of Rs 2.20 to make and Rs 0.15 to distribute. Weekly sales of Z, at a special offer price of Rs 1.90 per
unit, are expected to be 3,000 units.
Calculate the effect of the special offer in terms of the increase of the company's weekly profit.

6 (b) How can CVP analysis assist managers?

6 (c) How can managers incorporate income taxes into CVP analysis?
6 (d) what can managers do to cope with uncertainty or changes in underlying assumptions?
[6+3+3+3 = 15]

7. (a). Lurvey Men’s Clothing’s revenues and cost data for 2011 are as follows:
Particulars Rs Rs
Revenues 6,00,000
Cost of goods sold 3,00,000
Gross margin 3,00,000
Operating costs:
Salaries (fixed) 1,70,000
Sales commissions (10% of sales) 60,000
Depreciation of equipment and
fixtures 20,000
Store rent (4,500 per month) 54,000
Other operating costs 45,000 3,49,000
Operating income (loss) -49,000

Mr. Lurvey, the owner of the store, is unhappy with the operating results. An analysis of other operating
costs reveals that it includes Rs 30,000 variable costs, which vary with sales volume, and Rs 15,000
(fixed) costs.
a) Compute the contribution margin of Lurvey Men’s Clothing.
b) Compute the contribution margin percentage.
c) Mr. Lurvey estimates that he can increase revenues by 15% by incurring additional
advertising costs of Rs 13,000. Calculate the impact of the additional advertising costs on
operating income.
7 (b) The sales turnover and profit during two periods were as follows:

Period Sales (Rs) Profit (Rs)

1 2,00,000 3,00,000
2 20,000 40,000

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What would be probable trading results with sales of Rs 1, 80,000? What amount of sales will yield a profit of
Rs 50,000? [10+5 = 15]

8. Answer all the questions

(a) The product mix of a Gama Ltd. is as under:
Particulars Product M Product N
Units 54000 18000
Selling Price Rs 7.50 Rs 15.00
Variable Cost Rs 6.00 Rs 4.50
Find the break-even points in units, if the company discontinues product ‘M’ and replace with product
‘O’. The quantity of product ‘O’ is 9,000 units and its selling price and variable costs respectively are Rs
18 and Rs 9. Fixed Cost is Rs 15,000.

8 (b) An umbrella manufacturer marks an average net profit of Rs 2.50 per piece on a selling price of Rs 14.30
by producing and selling 6,000 pieces or 60% of the capacity. His cost of sales is
Direct material Rs 3.50
Direct wages Rs 1.25
Works overheads (50% fixed) Rs 6.25
Sales overheads (25% variable) Re 0.80
During the current year, he intends to produce the same number but anticipates that fixed charges will go
up by 10% which direct labour rate and material will increase by 8% and 6% respectively but he has no
option of increasing the selling price. Under this situation, he obtains an offer for further 20% of the
capacity. What minimum price you will recommend for acceptance to ensure the manufacturer an overall
profit of Rs 16,730.

ANSWERS
Answer 1 A
A B C D E F G H I J
a b c note 1 C note 2 b d note 3 a b note 4 a note 5 D
note 1
Budgeted number of occupied beds per night = 300 beds x 365 x 95% = 104,025 occupied bed nights.
Overhead absorption rate for cleaning = Rs 1,250,000/104,025 = Rs 12.02.
note 2
Charge for each hour of writing (to the nearest Rupee) should be Rs 28.94
Weeks worked per year = 52 – 4 = 48
Hours worked per year = 48 × 40 hrs. = 1,920
Hours chargeable to clients = 1,920 × 90% = 1,728
Total expenses = Rs 10,000 + Rs 40,000 = Rs 50,000
Hourly rate = 1728 ÷ Rs 50 000 = Rs 28.94 per hour
note 3
Statement (i) can be correct when there are bulk discounts on larger quantities.
note 4
The starting point of the profit-volume line is the point on the y axis representing the loss at zero
activity, which is the fixed cost incurred. Thus (a) is incorrect.

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 note 5
Contribution earned for the period = Rs 48,000 +Rs 5,520 = Rs 53,520
Therefore, Sales value = Rs 53,520/0.2 = Rs 267,600
Variable cost = Rs (267,600 – 53,520) = Rs 214,080
Direct wages cost = Rs 214,080 × 0.3 = Rs 64,224
Answer 1 B
A B C D E F G H I J
c a d j f e i g h b

Answer 1C T,T,F,T,T

Answer 1D
i. Period Cost
ii. fixed factory overhead
iii. opening stock and closing stock
iv. Differential costs
v. Rs 12,50,000

Answer 2 (a)
Particulars Rs
Salary costs: Senior consultant (172 × Rs 40) 6,880
Junior time (440 × Rs 30) 13,200
Overhead absorbed (612 × Rs 25) 15,300
Total cost 35,380
Mark up (35%) 12,383
Selling price (Total cost + mark-up) 47,763
The price that should be charged for assignment number 3036 is Rs 47,763

Answer 2(b)
i. The profit/volume ratio (P/V ratio) or contribution/sales ratio (C/S ratio)
= [(Selling price per unit - Contribution per unit) ÷ Sales] × 100
= Rs (20 – 4 -3 -2-1) /20 × 100% = 50%
ii. All nonmanufacturing costs in the value chain (such as research and development and marketing),
whether variable or fixed, are period costs and are recorded as expenses when incurred. These costs
are not considered for calculating contribution or contribution margin. But these have to be accounted
for in calculation of gross margin. This is being done by allocating these costs on the basis of some
suitable absorption rate. In the given example if total units produced in the ‘period’ is 25000 (for
example) then total fixed overhead cost = 25000 × 5 = Rs 125000.

Answer 3(a) Breakeven quantity = Fixed costs ÷ Contribution per unit

Since we do not know the contribution per unit, and we cannot determine it from the information available, it is
not possible to calculate the breakeven point in terms of units.
We can determine the value of breakeven sales as Rs 90,000/0.4 = Rs 225,000, but this does not tell us the
number of units required to break even.
Answer 3(b)
Breakeven point = Fixed costs ÷ C/S ratio = 76800 ÷ 0.40 = Rs 192,000
Actual sales = Rs224,000
Therefore Margin of safety in terms of sales value = Rs 32,000
Margin of safety in units 2,000. [Margin of safety in terms of sales value ÷ selling price per unit (Rs 16)
Answer 3(c)
Contribution per unit = Rs90 – Rs40 = Rs50. The sale of 6,000 units just covers the annual fixed costs, therefore
the fixed costs must be Rs50 × 6,000 = Rs300,000.
Answer 3 (d)
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If the selling price and variable cost per unit increase by 10% and 7% respectively, the sales volume will need
to decrease to 16,515 units in order to achieve the original budgeted profit for the period.
Current contribution per unit = Rs (108 – 73) = Rs35
Current sales volume = (196,000 + 476,000) ÷ 35 =19200
Revised contribution per unit:
Selling price Rs108 × 1.10 = Rs118.80
Variable cost Rs73 × 1.07 = Rs (78.11)
Contribution Rs 40.69
Required sales volume = Rs (196,000 + 476,000) ÷ Rs40.69
= 16,515 units

Answer 4 (a)

Particulars Rs Rs
Sales (5,200 × Rs30) 1,56,000
Direct materials (5,800 ×Rs6) 34,800
Direct labour (5,800 × Rs7.50) 43,500
Variable overhead (5,800 × Rs2.50) 14,500
92,800
Less closing inventory (600 × Rs 16) 9,600
-83,200
Contribution 72,800
Less fixed costs 27,400
Profit (Marginal Costing) 45,400

Particulars Rs Rs
Sales (5,800 × Rs30) 1,56,000
Materials (5,800 × Rs6) 34,800
(5,800 ×
Labour Rs7.50) 43,500
(5,800 ×
Variable overhead Rs2.50) 14,500
Fixed costs (5,800 × Rs5) 29,000
Less closing inventories (600 × Rs21) -12,600
-1,09,200
Over-absorbed overhead (w/n 1) 1,600
Profit (Absorption costing) 48,400

w/n 1
(5,800 x Rs
Overhead absorbed 5) 29,000
Overhead incurred 27,400
Over-absorbed overhead 1,600

Answer 4 (b)
Difference in profit = Change in inventory level x fixed overhead per unit
= (2,400 - 2,700) x (Rs4 x 3) = Rs3,600
Absorption profit is higher because the inventories have increased.

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Answer 5 (a)
The economic cost is the marginal cost (Rs25000) plus the lost contribution of Rs10,000 from choosing
customer X instead of customer Y.

Answer 5(b)

Statement showing computation of differential cost, incremental revenue and

determination of capacity at which profit is maximum
Incremental
Capacity Sales V. Cost @ Fixed Total Differential
Units Revenue
% (Rs) (Rs) 0.15 Cost Cost Cost (Rs)
(Rs)
60% 60000 54000 9000 40000 49000
70% 70000 56000 10500 40000 50500 1500 2000
80% 80000 60000 12000 40000 52000 1500 4000
90% 90000 60300 13500 40000 53500 1500 300
100% 100000 61000 15000 40000 55000 1500 700
From the above computation it was found that the incremental revenue is more that the
differential cost up to 80% capacity, the profit is maximum at that capacity

Answer 6 (a) currently weekly contribution = 12% × Rs280,000 = Rs33,600

Extra contribution from 5% increase in sales = 5% × Rs33,600 = Rs1,680
Loss on product Z each week 3,000 × Rs (1.90 – 2.20 – 0.15) = Rs (1,350)
Weekly increase in profit = Rs 330
Answer 6 (b) CVP analysis assists managers in understanding the behaviour of a product’s or service’s total
costs, total revenues, and operating income as changes occur in the output level, selling price, variable costs, or
fixed costs.
Answer 6 (c) Income taxes can be incorporated into CVP analysis by using target net income to calculate the
corresponding target operating income. The breakeven point is unaffected by income taxes because no income
taxes are paid when operating income equals zero.
Answer 6 (d) Sensitivity analysis, a “what-if” technique, examines how an outcome will change if the original
predicted data are not achieved or if an underlying assumption changes. When making decisions, managers use
CVP analysis to compare contribution margins and fixed costs under different assumptions. Managers also
calculate the margin of safety equal to budgeted revenues minus breakeven revenues.

Answer 7 (a).
Particulars Rs Rs
Revenues 6,00,000
Deduct variable costs:
Cost of goods sold 3,00,000
Sales commissions 60,000
Other operating costs 30,000 3,90,000
Contribution margin 2,10,000
Contribution margin percentage = 210000/600000 = 0.35

Particulars Details Rs
Incremental revenue (15% × 600,000) = 90000
Incremental contribution
(35% × 90,000) = 31,500
margin
Incremental fixed costs
13,000
(advertising)
Incremental operating
18,500
income

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 If Mr Lurvey spends Rs 13000 more on advertising, the operating income will increase by
Rs 18500, decreasing operating loss from Rs 49000 to an operating loss of Rs 30500.

Check (optional)
Particulars Rs Rs
Revenues (115% × 600,000) 6,90,000
Cost of goods sold (50% of sales) 3,45,000
Gross margin 3,45,000
Operating costs:
Salaries and wages 1,70,000
Sales commissions (10% of sales) 69,000
Depreciation of equipment and fixtures 20,000
Store rent 54,000
Advertising 13,000
Other operating costs:
Variable (30000×690000)÷600000 34,500
Fixed 15,000 3,75,500
Operating income 30,500

Answer 7 (b)
P/V ratio = (Change in profit / Change in sales) x 100 = (20,000 / 1, 00,000) x 100 = 20%
Fixed cost = (Sales x P/V ratio) – Profit = (2, 00,000 x 0.2) – 20,000 = Rs 20,000
Sales required to earn desired profit = (Fixed cost + desired profit) ÷ P/V ratio
= (20,000 + 50,000) / 20% = Rs 3,50,000

Answer 8 (a) N = 18,000 units

O = 9,000 units
Ratio (N: O) = 2:1
Let, t = No. of units of ‘O’ for BEP and N =2t No. of units for BEP
Contribution of ‘N’=Rs 10.5 per unit
Contribution of ‘O’= Rs 9 per unit At Break Even Point:
⇒ 10.5 × (2t) + 9 × t -15,000 = 0
⇒ 30t = 15,000
⇒ t = 500 units
BEP of ‘N’ = 2t = 1,000 units
BEP of ‘O’ = t = 500 units

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