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Cost Accounting Marginal Costing

(ii) All costs are classified on the basis of variability into fixed cost and variable cost. Semi-variable costs are segregated into fixed and variable costs. (iv) In marginal costing, it is established that profit is a function of sale and not of production as profit depends on sales volume and not on production volume.

Marginal Costing: Meaning, Features and Advantages

In this case, an increased cost of production in society creates a social cost curve that depicts a greater cost than the private cost curve. Economists define marginal cost as the incremental cost of manufacturing one more unit. Overproduction beyond a certain point, for example, may need extra pay for workers and higher machinery maintenance expenses. Incorrect valuation of stock – It is not appropriate to exclude fixed costs of production from the value of stocks. Since the fixed costs have also been incurred, the product costs should bear them.

Disadvantages of Marginal Costing

But marginal costing is criticized because of its over-importance to the selling function. Management executives better understand the statements and graphs prepared under marginal costing. The break-even analysis presents the behavior of cost, sales, contribution, etc. in terms of charts and graphs. (v) It facilitates control over variable costs by avoiding arbitrary apportionment or allocation of fixed costs. (ii) All costs are classified into fixed and variable cost on the basis of variability. Even semi fixed cost is segregated into fixed and variable cost.

What is marginal costing explain advantages and disadvantages?

Marginal Costing is a cost accounting method that includes only variable and direct costs for determining the cost of production or services. It does not have fixed costs such as depreciation, insurance, and rent in calculating costs. It mainly focuses on short-term decision-making and pricing decisions.

Marginal cost is the expenses needed to manufacture one incremental good. As a manufacturing process becomes more efficient or economies of scale are recognized, the marginal cost often declines over time. However, there is often a point in time where it may become incrementally more expensive to produce one additional unit. If the hat factory was unable to handle any more units of production on the current machinery, the cost of adding an additional machine would need to be included in marginal cost. The 1,500th unit would require purchasing an additional $500 machine.

What are the advantages and disadvantages of Marginal Costing

If management is facing labour shortage, contribution per labour hour should be considered. Suppose sales of products A and B are Rs.100 and Rs.110 and variable cost of sales are Rs.30 and Rs.23 respectively. The labour hours (key factor) required for these products are 2 hours and 3 hours respectively. Variable cost includes cost of direct material, direct labour, direct expenses, etc. Variable cost per unit is arrived at by dividing total variable cost by units produced.

Under this technique all costs are classified into fixed costs and variable costs. Marginal costing technique cannot be successfully applied in cost plus contracts unless a high percentage over the marginal cost is charged’ from the contractee to cover the fixed costs and profits. Consequently, the cost of a unit of product in inventory or the cost of goods sold under the variable costing method does not contain any fixed manufacturing overhead cost.

What is Marginal Costing? Definition, Features, Advantages, Limitations

If a product or department shows loss, the Absorption Costing method would hastily conclude that it is of no use of produce and run the department and it should be close down. Selling the product at marginal cost or even below that is a very difficult decision. This step should be taken for a short while to overcome a temporary difficult situation, where recovery of even full cost may not be possible. This step may lead to a landslide in price, which may permanently damage the market position of the product. Marginal costing is primarily used to analyse the cost be­haviour in relation to volume. This presents a difficulty of selecting a base for measuring volume.

In periods of trade recession, whether the production in the plant is to be suspended temporarily or permanently closed down, can be decided upon after carefully examining the marginal cost structure. (8) Income tax authority does not accept the valuation of stock at marginal cost. (7) Valuation of stock, WIP at marginal cost may not show the true profit of the organization. It also violates the Generally Accepted Accounting Principles and distorts true and fair view of the financial statements. (3) Valuation of finished stock, WIP on the basis of marginal cost is not acceptable for external reporting. For example, a listed company cannot value its stock at marginal cost as it is not acceptable as per AS-2 “Inventories”.


The optimum product mix can well be decided upon with the help of marginal-costing technique. The profitability of all the products can’t be the same and the degree of profitability of each variety of product is measured through the use of marginal costing. The contribution analysis is very significant in this respect. The performance of different Marginal Costing: Meaning, Features and Advantages departments, units, segments or lines of a business can be evaluated with the help of marginal costing technique. The evaluation assists in taking proper and timely action to reduce losses and thus maximise profits. (d) Cost control – For purposes of control also, financial results presented through marginal costing technique are useful.

  • Marginal cost is different from average cost, which is the total cost divided by the number of units produced.
  • Therefore, (refer to “Average cost” labelled picture on the right side of the screen.
  • Absorption costing is also referred to as the full cost method.
  • Companies can make informed decisions about production and pricing by utilizing marginal costing.
  • Break-even point is the point of sale at which company makes neither profit nor loss.
  • The marginal revenue varies based on market conditions.

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