marginal break even

8/12/2019 Marginal Break Even

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Marginal Costing and Break Even Analysis

Learning Objective:

1. Understand the meaning of Marginal Cost and

Marginal Costing

2. Understand Concepts of Contribution

3. Determine Break-even point and Margin of Safety

4. Prepare Break-even Charts.

5. Understand the application and limitations ofmarginal costing.


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Concepts of Marginal Costing

Marginal Costing is developed to overcome the deficienciesof absorption costing.

In absorption costing both Fixed and Variable cost are

charged to the products manufactured.

Variable cost vary in the production with the change in the

volume of the output.

Hence they do not affect the production.

Quite opposite to this Fixed Cost remain constant upto

certain level of output. Fixed Costs per unit go on changing

per unit with every increase in production.


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Because of the changing effect to fixe cost, the cost

of production per unit changes at different levels of

production.

To overcome this major limitation marginal costing

has been developed


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The Term Marginal Costing is defined by the ICMA

London as follow

The ascertainment of marginal costing and of the

effect on profit of changes in volume or type of

output by differentiating between fixed costs and

variable costs.

Under marginal Costing only variable costs are

charged to operation and processes or Products.

Fixed Cost are charged against the excess of sales

revenue over the total variable costs.

Difference between Variable and Fixed Cost


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Marginal Cost Marginal Cost incurrent when one more unit is

produced. It is typically differs across different range of

production quantities because the efficiency of the

production process changes. The marginal Cost of producing a unit declines as

output increases.

So Marginal Cost means the amount at any givenvolume of output by which aggregates costs are

changed if the volume of output is increased or

decreased by one unit.


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Marginal cost included three elements :

1. Ascertainment of marginal costs

2. Finding out effects on profit, due to changes involume of production and type of output.

3. Differentiating between Fixed and Variable costs.

In Short run ,Marginal cost refers to the aggregate of variable cost

i.e Prime cost + All variable overheads

Marginal Cost=Prime Cost +Total Variable OverheadsOr

Marginal Cost = Total Variable Cost.


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Differentiation Fixed and Variable costs

Fixed Costs: Remain Fixed within a given rage ofoutput. They depend mainly on passage of time.

The do not vary directly with rate of output. Hence

they called Period Cost.

Example of Fixed Costs: Management expenses, Rent

rates, Insurance.


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Fixed Costs are Transferred to the marginal profit

and loss account of the period. It is not carried to

the next Financial Period through Closing Stock in

the unit.

Variable Cost: is also called marginal Cost. Total

Variable costs increase with the increase in the

volume of output. But Variable cost per unit of

production remain constant at different lave ofoutput. Hence it is called Product Cost.


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Valuation of Closing stock: Fixed Cost is not

changed to finished stock or work in progress as it istreated as period cost. It is recovered during the

period in which it is incurred by transferring to the

profit and loss account. Thus closing stock(including

working progress) is valued at marginal

cost(Variable cost) only.


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Concepts of Marginal Costing

The Difference between Selling Price and Marginal

cost (Variable cost) is called Contribution.

It Contributes towards fixed costs and Profit. It can

be represented as follow:

Contribution=Selling PriceVariable (Marginal Cost)

Or Contribution= Fixed Cost + Profit (Or - Loss)

Thus

Sales= Variable Cost+ Fixed Cost + Profit (OrLoss)

Sales - Variable cost = Fixed Cost+ Profit (Or- Loss)


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Concepts of P/V Ratio [Profit Volume Ratio Or Contribution Sales Ratio]

A basic assumption in marginal costing is thatselling price remains constant at different levels of

sales.

Further marginal cost per unit also remainsconstant at different volumes of production.

As a result these two factors contribution per unit

must also remain the same at all level of Sales.

Contribution always bears definite percentage to

sales. This relation of contribution to sales is called

P/V ratio.


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P/V ratio measures profitabilityof Product, process,departments etc. the P/V ratio can be increased byimproving the P/V ratio.

The P/V ratio can be improved by:1. Increasing the Selling Price Per Unit

2. Decreasing the Marginal cost(mainly PC +VC)

3. Increasing the Sales and Decreasing the Marginalcosts.

P/V ratio is used in the determination of

1. Break Even Point2. Profit at any volume of Sales

3. Sales Volume to earn a desired Profit

4. Profitability of Product and Process


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P/V ratio is calculated as Follows P/V ratio = Contribution/Sales

Or P/V ratio= (Fixed Cost + Profit) /Sales OR (SalesVariable Cost)/Sales

P/V ratio may be expressed as percentage by

multiplying the above calculation by 100.


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Concept of Break- Even Point

Break Even point: represents the volume of sales or

production where there is No Profit No Loss.

At this point TOTAL SALES is just equal to TOTAL COST.

At Break Even point contribution is equal to fixed costs.

Sales below this point results in loss as the sales value

is less then the total cost.

Sales above the break-even point brings profit since

the total cost is less than the sales value.

Break even point is the point at which the total cost

line the total sales lines.


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Break Even Point (Units)= Total fixed Cost/Contribution

per unit

Break Even Sales = Total Fixed Costs * Selling Price Per unit

Contribution Per Unit

Library Work:

Break Even Chart :

Advantages and Disadvantages of Break Even Chart


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Margin of Safety: The Difference between sales and

the breakeven sales is called Margin of Safety. This

is the area of earning profit. A reasonable margin of

safety should be there, otherwise a small fall in

demand may be result in total loss.

Margin of Safety : SalesBreak- even Sales

Or Profit / P/V ratio


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Break Even Analysis

It is popularly know as cost volume profit

relationship. It show the level of operation wherecost and revenue are in equilibrium. It indicates

clearly the effect of changes in volume on profits.

As analysis of break-even data will reveal the effectof various decision changing the size of fixed and

variable costs, Volume of production, Selling Prices

and Product Mix.

Ad f M i l i


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Advantages of Marginal costing Fixation of Price:

Fixation of Price below the TOTAL COST of Production

In Special circumstances price may be below total cost

for Example:

1. Recession or depression

2. Competition

3. New level of Product

4 .Special Markets.5. Special Customers etc.


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Cost Control: Marginal Cost provides variable costs andfixed costs separately. Cost information is reported

periodically and regularly to the management for decision

making and controlling the cost

Make or Buy Decision : itis often necessary to decidedwhether a component be produced internally or to be

bought from outside. This decision can be taken by

comparing the purchase price with the marginal cost of

producing it. If the Marginal cost is less than the purchase

price the component may be manufacture utilizing existing

capacity. Profit Planning: It is easy to plan the future operation to

earn maximum profit or to maintain specific levels of

production through break-even analysis

Utili ti f S R


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Utilization of Scares Resources:

{Problem of Key factor or limiting Factor}

Key factor is that resources which limits the

production and consequently decides the profit of

firm.

Limiting factor may be raw materials, Labor, Plant

capacity or capital.

The best utilization of such scarce resources is

guided by marginal costing technique. Contribution

and Contribution per unit of limiting factor indicates

the product or products whose production is to be

increased or reduced to stopped to earn the

maximum profit .

h i f fi bili d i h


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Choice of Profitability Product mix: Where

factory manufacture two or more product the

problem of selecting suitable combination of

different product arises. Marginal costing guidesthat the products which gives the maximum

contribution, are to be produced in larger

quantities and products which gives lowercontribution are to reduced.

Performance Evaluation of Product.

Lib W k


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Library WorkP/V Ratio =C/S; (S-V)/S ; (F+P)/S F/BEP;

Change in Profit

=(Changing in profit/Change in Sales)*100BEP {Sales} = F/PV; (F*S)/ (S-V) ; (F*S)/C

B.E. Units = Total FC/ Contribution Per Unit

Profit = (PV)*(S-F); PV * Margin of safety

Fixed Cot = PV*BEP ; PV*(S-P)

Variable Cost = S-(F+P); S-C

Sales = C/PV; (S-V)/PV; (F+P)/PV

Desired Sales (units) =(F+ Desired Profit) C. per UnitDesired Sales (Value) = Total C desired *Selling price

C. per Unit

Margin of Safety = S-BEP

Contribution = S-V


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Contribution Margin Approach

How many Ice-Cream, having a unit costs of Rs. 2

and a selling price of Rs. 3, must a vendor sell in afair to recover the Rs. 800 fees paid by him for

getting a selling stall and additional cost of Rs. 400

to install the Stall?

A Company budget productions of 5 00 000 units at a


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A Company budget productions of 5,00,000 units at avariable cost of Rs. 20 each. Fixed Costs are Rs. 20,00,000.the selling price is fixed to yeild 25% profit on total cost.You are required to calculate

A. P/V Ratio B. Break-even Point

Ans: Variable Cost: Rs. 20

Fixed Cost Rs. 4

Total Cost =Rs. 24Profit = 24*25/100 = Rs. 6

Selling Price = Rs. 30

Contribution = Selling PriceVariable Cost = 3020= Rs.10

P/V ratio= C/S = 10/30 = 1/3 0r 33.33%

BEP = F/P/V = 20,00,000/1/3 or

= 20,00,000*3/1 = Rs. 60,00,000

1 C l l t th b k i t f th f ll i


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1. Calculate the break-even point from the following

figures. Total sales Rs. 2,75,000 Variable Exp. Rs.

5,00,000 Net Profit Rs. 1,08,000.

2. From the following Details find out the BEP

Variable cost per unit Rs. 30. Total Fixed Cost

Rs.1,08,000. Selling Price per unit Rs. 40. What

should be the selling Price per unit is BEP shouldbe bought down to 6,000 units?

3. From the following data calculate BEP and number

of units to be sold to earn a profit of Rs. 3,000 peryear. Selling price per unit Rs. 10, Variable cost per

unit Rs. 7. Fixed cost Rs. 27,000 Selling Rs. 12,600.


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The cost data of Makaibari Tea Estate Ltd as

Material Rs.400; Labour- Skilled (Fixed) Rs. 200

other Rs 300: fixed Expenses Rs.400; VariableExpenses Rs.200. the selling price per(kg) is Rs.

1700. These Figures are for an output of 80,000 Kg.

The capacity is 1,00,000 Kg. A foreign customer is

desirous of buying 20,000 Kg at a price of Rs.1200/

per Kg. Advice the manufacturer whether the order

should be accepted or rejected.

KS il f t i d i t diff t d t


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KS oil factory is producing two different product

kinds of articles, the limiting factor is the availability

of labour. From the following information show

which product is more profitable.

Product Blue Product Red

Material Rs. 5 Rs. 5

Labour 6 hr @Rs. 5 Per Hr Rs. 30

Labour 3 hr @Rs. 5 Per Hr Rs.15

Fixed Overheads- 50% :Labour Rs. 15 Rs. 7Variable Cost Rs. 15 Rs. 15

Selling Price Rs. 95 Rs.65

Total production units 500 600


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The Following Figures are available from the records

of Venus Enterprises as at 31stMarch

2008 2009

Sales (Rs. Lacs) 150 200

Profit (Rs.Lacs) 30 50

Calculate:a) the P/V Ratio and Total Fixed Expenses

b) The Break-even Analysis

C) Sales Required to earn a profit of Rs.90Lacs

d) Profit Or loss that would arise if the Sales were

Rs. 280 lacs.

Reprographics Ltd Manufacture a duplicating machine


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Reprographics Ltd. Manufacture a duplicating machinewhich gas a variable cost structure as material Rs.40,Labor Rs. 10, Overhead Rs. 4 and selling price ofRs.90. Sales During the current year are expected to beRs. 13,50,000 and fixed cost Rs.1,40,000. Under aWages agreement, an increment of 10% is payable toall direct workers from the beginning of the information

year while material costs are expected to increase by7.5% Variable cost by 5% and fixed cost by 3%

You are required to calculate:

A . New selling Price if the current P/V ratio is to

maintained The quantity to be sold during the forthcoming year to

yield the same amount of profit s the current yearassuming the selling price to remain at Rs. 90.

From the follo ing information calc late the


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From the following information, calculate the

turnover required to earn a profit of Rs. 30,000 and

Break-even Point. Fixed Cost Rs. 21,000 variable

Cost Rs. 2 per unit; Selling Price Rs. 5 Per Unit. ifthe company is earning a profit of Rs. 30,000

express the margin of Safety available to it.

From the Following Data calculate the Break-evenPoint; Sales Price Rs. 40, Direct Material Rs.16

Direct Labour Rs. 4 Variable Overheads Rs. 6.

Fixed Cost Rs. 40,000. if Sales are 20% above theBreak-even Point, Calculate the profit.

Calculate the Break even Volume From the


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Calculate the Breakeven Volume From the

Following information. Profit Rs. 10,000 [20% Sales]

P/V ratio 50%.

Find out the total Profit and Marginal Cost per unit

from the following details. Fixed cost Rs. 9000

Break-even Units 3000, Total Sales (units) 5000

Selling Price per Units Rs. 9.00.

From the Following Details, find out the BEP.

Variable cost per unit Rs. 30. Total Fixed Cost Rs.

108000. Selling Price Per Unit Rs. 40. What wouldbe the selling price per unit if the BEP should be

brought down to 6000 units.

A Company established that next year it would be


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A Company established that next year it would bepossible to sell 100000 units of product at Rs. 1 perunit. The estimated Fixed cost and Variable cost are

Rs. 50000 and Rs. 40,000 respectively. Assuming theprice increase of 10% and consequently a reductionof 5% is sale volume, compute the amount of saleswhich company will earn Rs. 30,000 more profit

that the estimated Profit. Mr. Ramesh sells a line of article for Rs. 18 per unit.

Each unit sold contributes Rs. 60 to the recovery of

fixed cost and to profit. His fixed cost of operation isRs. 84000. show how many units must be sold toBreak-even and compute the sales revenue at theBEP and the sales required to earn a net profit of

Rs. 54000


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Profit/ Volume Analysis A Cost Volume Profit analysis can be used to

measure the effect of factor changes andmanagement decision alternative on profit.

These Factors Include possible changes in Selling

Price, Changes in Variable Cost or Fixed Cost Expansion or Contraction of Sales Volume, or other

changes in operating methods.

It More useful in Profit Analysis is also useful forproblems of Product pricing, Sales mix, Adding and

Deleting product lines and Accepting a new sales

order.

Ch i S lli P i (Eff t )


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Changes in Selling Price: (Effects)

Increase In Selling Price:

Will Increase P/V ratio, and the Rate of Fixed Cost recovery is Increased

The breakeven Point (Sales Volume) declines.

Profit beyond the break point will increase

Loss below the break even point will decrease.

Decrease in Selling Price

All point will reverse.

A Company produce a product with a selling price


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A Company produce a product with a selling price

of Rs. 10 per unit and a variable cost of Rs. 4 per

unit. Fixed Costs are Rs. 36,000 per year.

Show the effect of 20% increase and decrease in the

present selling price.

Change in Variable Cost


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Change in Variable Cost Increase in Variable Cost:

(increase in Variable Cost has the same effect in

Decrease in Selling Price)

It Decrease the P/V Ratio

fixed Cost Recovery is slowerThe break Even point will move to higher side

Profit after the break even point decreases

Loss before the Break Even Point will increase.

Decrease in Variable Cost:

Same Effect as Increase in Selling Price


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A Company is selling a product for Rs. 40 a

unit and has a variable cost of Rs. 20 per unit.

Fixed cost total Rs.48,000 per year. Show the

effect of a 20% increased and a 20 % decrease

in Variable cost.


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Change in Fixed Cost

Increase in Fixed Costs : (Effects)

The break-even point (Volume) will increase.

Profit Above the break-even point are lower by

the amount of the increase in Fixed cost.

Below the Break Even point losses Increase

Decrease in Fixed Costs : (Effects)

It Lowers the break-even point

The Profit are greater by the amount of the

decrease, and the losses are smaller by the

amount of the decrease in Fixed Cost.

A Company has a P/V ratio of 40% and present Fixed


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A Company has a P/V ratio of 40% and present Fixed

Cost of Rs. 50,000. Show the effects of changes in

the fixed cost by Rs. 10,000.

marginal break even

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