Marginal and Absorption Costing
MARGINAL AND ABSORPTION COSTING
Marginal costing is a technique in which production units are valued at marginal cost of production and fixed costs are written off as period costs.
It follows that, stocks are valued using only the variable cost of production whereas fixed costs are treated as relating to the period and must be taken off in total. Management accounting is based on marginal costing.
TERMINOLOGY USED.
Gross contribution: Is the difference between sales value and variable costs of sales.
Net contribution: Is the difference between gross contribution and non-production variable costs.
Proforma /Structure of Marginal Cost Statement Sales x Cost of sales Opening stock x Production x x Closing stock (x) (x) Gross contribution x Variable non-production costs – selling + distribution (x) - admin. (x) Net contribution x Fixed costs – non production x - production x (x) x Net profit
Decisions are made on the basis of net contribution not net profit.
Absorption costing is a costing technique in which production units are valued at full costs of production i.e. variable production costs plus fixed production costs.
Fixed costs are absorbed in the process and they lead to over or under absorption in which case over-absorbed overheads are added to the profit while under absorbed overheads are deducted from the profit in order to arrive at the adjusted profit.
Non-production costs (variable and fixed) are written off in total during the period.
NOTES: • When actual production is greater than budgeted production, then over-absorption occurs. • When actual production is less than budgeted production, then under-absorption occurs.
The amount of the over or under absorption is the product of the difference
Marginal costing is a technique in which production units are valued at marginal cost of production and fixed costs are written off as period costs.
It follows that, stocks are valued using only the variable cost of production whereas fixed costs are treated as relating to the period and must be taken off in total. Management accounting is based on marginal costing.
TERMINOLOGY USED.
Gross contribution: Is the difference between sales value and variable costs of sales.
Net contribution: Is the difference between gross contribution and non-production variable costs.
Proforma /Structure of Marginal Cost Statement Sales x Cost of sales Opening stock x Production x x Closing stock (x) (x) Gross contribution x Variable non-production costs – selling + distribution (x) - admin. (x) Net contribution x Fixed costs – non production x - production x (x) x Net profit
Decisions are made on the basis of net contribution not net profit.
Absorption costing is a costing technique in which production units are valued at full costs of production i.e. variable production costs plus fixed production costs.
Fixed costs are absorbed in the process and they lead to over or under absorption in which case over-absorbed overheads are added to the profit while under absorbed overheads are deducted from the profit in order to arrive at the adjusted profit.
Non-production costs (variable and fixed) are written off in total during the period.
NOTES: • When actual production is greater than budgeted production, then over-absorption occurs. • When actual production is less than budgeted production, then under-absorption occurs.
The amount of the over or under absorption is the product of the difference
References: proposed reading list ACCA F2 Management Accounting Atkinson et. Al (1997) Management Accounting Collin Drury (1996, 2000, & 2004), Management and Cost Accounting, up to 4th Edition Hongren . T. Charles (1991-2002), Cost Accounting, Dp Publications. M. Arora (1996, 2001), Costing Principles N. a Saleemi, (2007) Cost accounting simplified (Revised 2007/08 Edition) T. Lucey (1996), Cost Accounting. DP Publications, Wilson & Chua, (1993), Managerial Accounting, Managerial Accounting, Method and meaning, Hpman Hall