CHAPTER
9
ABSORPTION & MARGINAL COSTING
BY 章意宏 龚铭杨 赵一凝 李宸昊
CHAPTER PREVIEW
DL
Variable cost
DM
Variable PHD
Marginal costing
Fixed cost as a period cost
Contribution
Methods of
costing
Principles
Variable cost
Absortion costing
Fixed costs are absorbed into unit costs
Marginal costing
Inventory level
Reconciling profit
Inventory valuation
Absortion costing
Arguments in favour of both marginal and abortion costing
01
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LOREM IPSUM
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LOREM IPSUM
1.1 Marginal cost and marginal costing

Marginal cost is the variable cost of one unit of product or service.
Marginal cost
Direct materials

Direct labour
Variable
production
overheads
Marginal costing only variable costs are charged to production
cost,closting stocks are valued at marginal production cost,and fixed
cost are treated as a period cost.
1.2 Contribution

Contribution is an important measure in marginal costing, and it is
calculated as the difference between sales value and marginal or
variable cost of sales.
Contribution=Sales – Marginal costs

Contribution is really short for 'contribution towards covering fixed
overheads and making a profit'.
Profit=Contribution – fixed costs

Contribution information is more useful for decision making than
profit information.
1.3 The principles

Period fixed costs are the same, for any volume of sales and
production.

If the volume of sales falls by one item, the profit will fall by the
amount of contribution.

Profit measurement should therefore be based on an analysis of
total contribution.

When a unit of product is made, the extra costs incurred in its
manufacture are the variable production costs,and no extra fixed
costs are incurred when output is incresed.
02
The calculation of profit
Marginal costing
DM
Product
Variable
DL
Production Cost
Sales and administration
overheads
Non-Product
PHD
Product
PHD
Fixed
Non-Product
Sales and administration
overheads
01
Period Cost
Absorption Costing
DM
Product
DL
Production Cost
Total PHD
Non-Product
Sales and administration
overheads
Period Cost
Compare
Marginal costing
Absorption costing
Closing inventories are valued
at marginal production cost.
Closing inventories are valued
at full production cost.
Fixed costs are period costs
Fixed costs are absorbed into
unit costs.
Cost of sales does not include a
share of fixed overheads.
Cost of sales does include a
share of fixed overheads
Formula
Overhead absorption rate =
Budgeted fixed overheads
Budgeted units
A Total cost per unit = Variable cost + fixed production cost
M Total cost per unit =Variable cost per unit
Closing inventory = Opening inventory + production - sales
Under–production
overheads
= (Budgeted – Actual production) × OAR
Statements of profit or loss
Statements of profit or loss
No changes in inventory
Production = Sales
You will notice that there are no difference between the two profits.
03
Reconciling profit
Introduction
Reported profit figures using marginal costing or absorption costing
will differ if there is any change in the level of inventories in the
period.But once the inventory is equal to zero,different costing methods
will calculate the same answer
Using absorption costing
Inventory level
Profit
Inventory
level
Profit
Reconciling profit——a shortcut
Marginal
cost
Cost of sales doesn’t include a share of fixed overhead
Absorption
cost
Cost of sales does include a share of fixed overhead
Differences in profits = change in inventory level X overhead absorption rate per unit
Points
Distinguish which one can get higher profit when inventory level
changes
04
The calculation of profit
Arguments in favour of both marginal and absorption
costing
Absorption costing
It is 'fair' to share fixed production cost between units of production as
such costs are incurred in order to make output
Closing inventories valued in accordance with IAS 2 principles
It is easier to determine the profitability of several products by charging a
share of fixed overheads to them
Where building up inventory is necessary fixed costs should be included in
inventory valuations in order to prevent a series of losses from occurring
Arguments in favour of both marginal and abortion costing
Marginal costing
Simple to operate
No appointments of fixed costs
Fixed costs = period costs unchanged at all output volumes
Closing inventory realistically valued at variable production cost per unit
Size of contribution provides management with useful information about
expected profits
Absorption costing encourages management to produce goods in order to
absorb allocated overheads instead of meeting market demands
Under/over absorption of overheads is avoided
It is a great aid to decision making