Cost and Management Accounting - Marginal Costing (Decision Making Tool)

 

Cost and Management Accounting

Marginal Costing

(Decision Making Tool) 

Part A: Discussion of basic theories including explanation of different relevant terms and different important formulas.

Part B: 23 Problems with solutions.

Part A

What is Marginal Cost?

CIMA defines marginal cost as “the cost of one unit of product or service which would be avoided if that unit were not produced or provided.” In other words, marginal cost is the additional cost of producing or providing one additional unit of product or service, or the saving in cost if the production is curtailed by one unit at any level of activity within the installed capacity level. For practical purposes, marginal cost of a product or service is the variable cost per unit of that product or service within the installed capacity of production or provision of service.

 

What is Marginal Costing?

CIMA defines marginal costing as “the accounting system in which variable costs are charged to the cost units and fixed costs of the period are written-off in full against the aggregate contribution.” In other words, marginal costing is a technique of costing where costs are ascertained and accumulated to identify the marginal cost of each unit of product or service on the basis of which a number of decisions like (i) make or buy, (ii) accept or reject proposal, (iii) closure or carry on of business unit, (iv) product mix, (v) pricing of product or service, etc can be taken. When costs are accumulated under marginal costing system they are ascertained and classified as Fixed Cost, Variable Cost and Semi-Fixed / Semi-Variable Cost. Under marginal costing, only variable costs are considered for product costing and inventory valuation.

 

What is Installed Capacity?

Installed capacity of a company is the capacity of the company to produce maximum quantity or number of units utilising all its existing production facilities (i.e. inputs) fully. Production facilities consist of plant and machinery, factory premises, factory workers, office staff and executives, etc.

 

Fixed Costs:

Fixed cost is the cost which has to be incurred for a period, and which, within the installed capacity level tends to remain unaffected by the fluctuations in the levels of activity. In other words, fixed costs are the costs that remain unchanged in the short run regardless of changes in the levels of activity within the installed capacity level. Examples of fixed costs are depreciation of plant and machinery, rent of factory premises, insurance premiums on fixed assets, salaries and remuneration of staff, remuneration of directors, interest on loans, etc.

 

Variable Costs:

Variable cost is that part of total cost, which changes directly in proportion with volume. Total variable cost changes with change in volume of output. Increase in output will lead to increase in total variable cost and decrease in output will lead to reduction in total variable cost. However, variable cost per unit of production remains the same irrespective of increase or decrease in volume of production. Variable cost per unit is arrived at by dividing total variable cost by total units produced. Examples of variable costs are direct material cost, direct labour cost, direct expenses, etc.

 

	Total costs	Per-unit costs
Fixed costs	Remain unchanged so long as the activity level (i.e. the level of production) remains within the installed capacity level	a) Increase as the activity level (i.e. the level of production) decreases b) Decrease as the activity level (i.e. the level of production) increase
Variable costs	a) Increase as the activity level (i.e. the level of production) increase b) Decrease as the activity level (i.e. the level of production) decrease	Remain constant regardless of increase or decrease in the level of activity (i.e. the level of production)

Semi-variable Costs:

Semi-variable cost is that part of total cost, which is partly fixed and partly variable in nature. Semi-variable costs may remain fixed within a certain activity level, but once that level is exceeded, they vary without having direct relationship with volume changes. Semi-variable costs do not fluctuate in direct proportion to volume. For the purpose of marginal costing system, semi-variable costs must be segregated into fixed and variable costs. Examples: telephone bills, electricity bills, etc.

 

  Difference between Absorption Costing and Marginal Costing:

	Absorption Costing	Marginal Costing
1	Both fixed and variable costs are	Only variable costs are considered
	Considered for product costing and	For product costing and inventory
	Inventory valuation.	Valuation.
2	Fixed costs are charged to the cost of	Fixed costs are regarded as period
	Production. Each product bears a	Costs. The profitability of different
	Reasonable share of fixed cost and	Products are judged by their
	Thus the profitability of a product is	Respective P/V Ratios.
	Influenced by the apportionment
	Of fixed costs.
3	Cost data are presented in	Cost data are presented to highlight
	Conventional pattern. Net profit of	Total contribution of each product.
	Each product is determined after
	Subtracting fixed costs along with
	Variable costs from sales.
4	The difference in the magnitude of	The difference in the magnitude of
	Opening stock and closing stock	Opening stock and closing stock
	Affects the unit cost of production	Does not affect the unit cost of
	And unit cost of goods sold due to	Production and unit cost of goods
	The impact of related fixed cost.	Sold.
5	In case of absorption costing the	In case of marginal costing the cost
	Cost per unit reduces as the output	Per unit remains the same
	Increases and vice versa, because	Irrespective of increase or decrease
	a)  Under absorption costing, cost	In production as it is valued only at
	per unit includes both fixed cost	Variable cost.
	and variable cost, and
	b)  Total fixed cost is a period cost
	and remains unchanged over the
	Accounting period.

 

  Calculation of Profit under Marginal Costing System:

Particulars	Products
	A (Rs)	B (Rs)	C (Rs)	Total (Rs)
Sales	×××	×××	×××	×××
Less: Variable Cost	×××	×××	×××	×××
Contribution	×××	×××	×××	×××
Less: Fixed Costs				×××
Profit				×××

 

Compared to the above statement for calculating profit under Marginal Costing System, under Absorption Costing System profits are calculated by preparing cost sheets, where fixed costs are also considered in stock valuation and where different functional overheads like factory overheads, administration overheads, selling and distribution overheads are shown as part of the total cost.

 

 Marginal Costing Formulas

1	When Sales = Production [I.e. When Opening stock of inventory = Closing stock of inventory]:
	Profit in Absorption Costing =	Profit in Marginal Costing
2	When Sales < Production [I.e. When Closing stock of inventory > Opening stock of inventory]:
	Profit in Absorption Costing >	Profit in Marginal Costing
3	When Sales > Production [I.e. When Closing stock of inventory < Opening stock of inventory]:
	Profit in Absorption Costing <	Profit in Marginal Costing
4	Contribution (C) =	Sales – Variable Cost = S − V
5	Contribution (C) =	Fixed Cost + Profit = F + P
6	Contribution (C) =	Fixed Cost − Loss = F − L
7	P/V ratio (Profit/Volume ratio) =	Contribution per rupee of sales
8	P/V ratio (Profit/Volume ratio) =	Contribution ÷ Sales = C ÷ S
9	P/V ratio (Profit/Volume ratio) =	(S – V) ÷ S
10	P/V ratio (Profit/Volume ratio) =	[(F + P) ÷ S] or [(F − L) ÷ S]
11	P/V ratio (Profit/Volume ratio) =	Change in profit ÷ Change in sales
12	Sales at BEP (in Rs.) =	F ÷ Contribution per rupee of sales
13	Sales at BEP (in Rs.) =	F ÷ (P/V ratio)
14	Sales at BEP (in units) =	F ÷ Contribution per unit of sales
15	Margin of Safety at any level =	Current sales Level – Sales at BEP
16	Margin of Safety (in Rs.) =	P ÷ Contribution per rupee of sales
17	Margin of Safety (in Rs.) =	P ÷ (P/V ratio)
18	Margin of Safety (in units) =	P ÷ Contribution per unit of sales
19	Required volume of sales to earn a given profit (P) when fixed cost (F) is also known (in Rs.) =	(F + P) ÷ (P/V ratio)
20	Required volume of sales to earn a given profit (P) when fixed cost (F) is also known (in units) =	(F + P) ÷ Contribution per unit of sales
21	Contribution per unit =	Change in profit or contribution ÷ Change in sales (in units)

 

Some Important Terms and Concepts

Break-Even Point (BEP)

Break-Even Point (BEP) of an enterprise is the point or level of sales of the enterprise at which it does not make any profit or loss. In other words, BEP is the point or level of sales of the enterprise at which its

1. Fixed Costs are exactly equal to its Contribution, i.e. Fixed Costs = Contribution, and

2.   Total Costs (i.e. Total Variable Costs + Total Fixed Costs) and Total Sales are equal, i.e. Total Costs = Total Sales

 

Angle of Incidence

The angle which the sales line makes with the total cost line (i.e. the angle formed by the intersection of the sales line and the total cost line at the Breakeven Point), is known as the angle of incidence. This angle gives the pictorial relationship between profit and sales. This angle indicates the profit earning capacity of a company over the break-even point. A large angle of incidence will indicate higher rate of growth of profit and a small angle of incidence will indicate lower rate of growth of profit. A small angle of incidence also indicates that variable costs form a major part of cost of sales. Normally, margin of safety and angle of incidence are considered together. For example, a high margin of safety with a large angle of incidence will indicate the most favourable conditions of a company. Under such situation, the company is monopolising in the market. On the other hand, low margin of safety with small angle of incidence indicates bad financial shape of the company.

Shutdown Point

A shutdown point is a level of operations at which a company experiences no benefit for continuing operation and therefore decides to shut down temporarily or in some cases permanently. It results from the combination of output and price where the company earns just enough revenue to cover its total variable costs. The shutdown point denotes the exact moment when a company’s (marginal) revenue is equal to its variable (marginal) costs.

 

Limiting Factor (also known as ‘Key Factor’)

Limiting factor or key factor implies one or more inputs of production which are in short supply or, in other words, availability of which is limited. Examples of inputs of production which may be limiting factors are: Raw Materials, Skilled Labour, Direct Labour Hours, and Machine Hours.

 

There may be other limiting factors than the inputs of production like: Market Demand (Maximum quantity of a product that can be sold in the market), Government Quota for Inputs (Maximum quantity of a particular material that is allowed by Government for use in production), Government Quota for Output (Maximum quantity of a product that is allowed by Government for production and sale in the market).

 

When there is a limiting factor in a problem and it is required to compute the optimum product-mix in order to maximise the profit, contribution per unit of the limiting factor has to be calculated as the first step and then on the basis of ranking of the different products in terms of their respective contribution per unit of the limiting factor required optimum product-mix will be determined.

Part B

 

Problem: 1

A manufacturer with overall (interchangeable among the products) capacity of 1,00,000 machine hours has been so far producing a standard mix of 15,000 units of product A, 10,000 units of product B and C each. On experience, the total expenditure exclusive of his fixed charges is found to be Rs 2.09 lakhs and the cost ratio among the product approximately 1, 1.5, 1.75 respectively per unit. The fixed cost comes to Rs 2 per unit. When the unit selling prices are Rs 6.25 for A, Rs 7.5 for B and Rs 10.5 for C he incurs a loss.

 

	Mix - I	Mix - II	Mix – III
A	18,000	15,000	22,000
B	12,000	6,000	8,000
C	7,000	13,000	8,000

 

As a management accountant what mix will you recommend?

 

 Solution: 1

Problem: 2

A Co. has annual fixed costs of Rs 1, 40,000. In 2015 sales amounted to Rs 6, 00,000, as compared with Rs 4, 50,000 in 2014, and profit in 2015 was Rs 42,000 higher than that in 2014.

 

1)   At what level of sales does the company break-even?

2)   Determine profit or loss on a forecast sales volume of Rs 8, 00,000.

3)   If there is a reduction in selling price by 10% in 2016 and the company desires to earn the same amount of profit as in 2015, what would be the required sales volume?

 

 Solution: 2

Problem: 3

A Co. currently operating at 80% capacity has the following; profitability particulars:

Particulars	Rs	Rs
Sales		12,80,000
Costs:
Direct Materials	4,00,000
Direct Labour	1,60,000
Variable Overheads	80,000
Fixed Overheads	5,20,000	11,60,000
Profit:		1,20,000

 

An export order has been received that would utilise half the capacity of the factory. The order has either to be taken in full and executed at 10% below the normal domestic prices, or rejected totally.

 

The alternatives available to the management are given below:

(a)    Reject order and Continue with the domestic sales only, as at present;

(b)    Accept order, split capacity equally between overseas and domestic sales and turn away excess domestic demand;

(c)     Increase capacity so as to accept the export order and maintain the present domestic sales by:

1)   Buying an equipment that will increase capacity by 10% and fixed cost by Rs 40,000 and

2)   Work overtime at a rate of time and a half to meet balance of required capacity.

 

Prepare comparative statements of profitability and suggest the best alternative.

 

 Solution: 3

Problem: 4

A Company has just been incorporated and plan to produce a product that will sell for Rs 10 per unit. Preliminary market surveys show that demand will be around 10,000 units per year.

 

The company has the choice of buying one of the two machines ‘A ‘ would have fixed costs of Rs 30,000 per year and would yield a profit of Rs 30,000 per year on the sale of 10,000 units. Machine ‘B’ would have fixed costs Rs 18,000 per year and would yield a profit of Rs 22,000 per year on the sale of 10,000 units. Variable costs behave linearly for both machines.

 

You are required to calculate:

(a)        Break-even sales for each machine;

(b)        Sales level where both machines are equally profitable; and

(c)         Range of sales where one machine is more profitable than the other.

 

Solution: 4

Problem: 5

A practising Cost Accountant now spends Rs 0.90 per km on taxi fares for his client’s work. He is considering two other alternatives: the purchase of a new small car or an old bigger car.

Particulars	New Small Car	Old Bigger Car
Purchase price (Rs)	35,000	20,000
Sale price after 5 years (Rs)	19,000	12,000
Repairs and servicing p.a. (Rs)	1,000	1,200
Taxes and insurances p.a. (Rs)	1,700	700
Petrol consumption (km per litre)	10	7
Petrol price per litre (Rs)	3.5	3.5

 

He estimates that he does 10,000 Km annually. Which of the three alternatives will be cheaper in this case? If his practice expands and he has to do 19,000 Km p.a., which of the three alternatives will be cheaper? At what distance cost of the two cars will be equal?

 

Solution: 5

Problem: 6

There are two plants manufacturing the same products under one corporate management which decides to merge them.

Particulars	Plant - I	Plant - II
Capacity of operation	100%	60%
Sales (Rs)	6,00,00,000	2,40,00,000
Variable costs (Rs)	4,40,00,000	1,80,00,000
Fixed costs (Rs)	80,00,000	40,00,000

 

You are required to calculate for the consideration of the Board of Directors

(a) What would be the capacity of the merged plant to be operated for the purpose of break-even?

(b) What would be the profitability on working at 75% of the merged capacity?

 

Solution: 6

Problem: 7

The particulars of two plants producing an identical product with the same selling price are as under:

Particulars	Plant - A	Plant - B
Capacity utilisation	70%	60%
	(Rs in lakhs)	(Rs in lakhs)
Sales	150	90
Variable costs	105	75
Fixed costs	30	20

 

It has been decided to merge plant B with Plant A. The additional fixed expenses involved in the merger amount to be Rs 2 lakhs.

Required:

1)   Find the break-even-point of plant A and plant B before merger and the break-even point of the merged plant.

2)   Find the capacity utilisation of the integrated plant required to earn a profit of Rs 18 lakhs.

 

Solution: 7

Problem: 8

A company engaged in plantation activities has 200 hectares of virgin land which can be used for growing jointly or individually tea, coffee and cardamom, the yield per hector of the different crops and their selling prices per Kg. are as under:

	Yield (in kgs)	Selling price per kg (Rs)
Tea	2,000	20
Coffee	500	40
Cardamom	100	250

 

The relevant data are given below:

(a)    Variable costs per kg:

	Tea	Coffee	Cardamom
Labour charges (Rs)	8	10	120
Packing materials (Rs)	2	2	10
Other costs (Rs)	4	1	20
Total	14	13	150

 

(b)    Fixed costs per annum:

Particulars	Rs
Cultivation and growing cost	10,00,000
Administrative cost	2,00,000
Land revenue	50,000
Repairs and maintenance	2,50,000
Other costs	3,00,000
Total costs	18,00,000

 

The policy of the company is to produce and sell all three kinds of products and the maximum and minimum area to be cultivated per product is as follows:

	Maximum hectares	Minimum hectares
Tea	160	120
Coffee	50	30
Cardamom	30	10

 

Calculate the most profitable product mix and the maximum profit which can be achieved.

 

Solution: 8

Problem: 9

A Co. running an adequate supply of labour presents the following data and requests your advice about the area to be allotted for the cultivation of various types of fruits which would result in the maximization of profits. The company contemplates growing Apples, Lemons, Oranges and Peaches.

Particulars	Apples	Lemons	Oranges	Peaches
Selling price per box (Rs)	15	15	30	45
Seasons yield (box per acre)	500	150	100	200
Variable costs (in Rs):
Materials per acre	270	105	90	150
Labour per acre	300	225	150	195
Picking and packing per box	1.5	1.5	3	4.5
Transport per box	3	3	1.5	4.5

 

The fixed costs in each season would be:

Cultivation & Growing - Rs 56,000; Picking - Rs 42,000; Transport - Rs 10,000; Administration - Rs 84,000; Land Revenue - Rs 18,000

 

The following limitations are also placed before you:

(a)    The area available is 450 acres, but out of this 300 acres are suitable for growing only Oranges and Lemons. The balance of 150 acres is suitable for growing for any of the four fruits viz., Apples, Lemons, Oranges and Peaches.

(b)    As the products may be hypothecated to banks, area allotted for any fruit should be demarcated in complete acres and not in fractions of an acre.

(c)     The marketing strategy of the company requires the compulsory production of all the four types of fruits in a season and the minimum quantity of any type to be 18,000 boxes.

 

Calculate the total profits that would accrue if your advice is accepted.

 

Solution: 9

Problem: 10

A market gardener is planning his production for next season and he asked you, as a cost consultant, to recommend the optimum mix of vegetable production for the coming year. He has given you the following data relating to the current year:

Particulars	Potatoes	Tomatoes	Peas	Carrots
Area occupied in acres	25	20	30	25
Yield per acre in tons	10	8	9	12
Selling price per ton (Rs)	1,000	1,250	1,500	1,350
Variable cost per acre:
Fertilizer (Rs)	300	250	450	400
Seeds (Rs)	150	200	300	250
Pesticides (Rs)	250	150	200	250
Direct wages (Rs)	4,000	4,500	5,000	5,700

 

Fixed Overhead per annum: Rs 5, 40,000

 

The land which is being used for the production of carrots and peas can be used for either crop but not for potatoes and tomatoes. The land being used for potatoes and tomatoes can be used for either crops but not carrots or peas. In order to provide an adequate market service, the gardener must produce each year at least 40 tons of each of potatoes and tomatoes and 36 tons of each peas and carrots.

 

(a)    You are required to present a statement to show:

1)       The profit for the current year;

2)       The profit for the production mix you would recommend;

(b)  Assuming that the land could be cultivated in such a way that any of the above crops could be produced and there was no market commitment you are required to:

1)       Advise the market gardener about which crop he should concentrate on for production;

2)       Calculate the profit if he were to do so; and

3)       Calculate in rupees the breakeven - point of sales.

 

Solution: 10

Problem: 11

Small Tools Factory has a plant capacity adequate to provide 19,800 hours of machine use. The plant can produce all ‘A’ type tools or all ‘B’ type tools or a mixture of these two types. The following information is relevant:

Particulars	A	B
Selling price (Rs)	10	15
Variable cost (Rs)	8	12
Hours required to produce	3	4

 

Market conditions are such that not more than 4,000 A type tools and 3,000 B type tools can be sold in a year. Annual fixed costs are Rs 9,900.

 

Compute the product mix that will maximise the net income to the company and find that maximum net income.

 

Solution: 11

Problem: 12

Taurus Ltd. produces three products A, B and C from the same manufacturing facilities. The cost and other details of the three products are as follows:

Particulars	A	B	C
Selling price per unit (Rs)	200	160	100
Variable cost per unit (Rs)	120	120	40
Maximum production per month (units)	5,000	8,000	6,000
Maximum demand per month (units)	2,000	4,000	2,400

 

Fixed expenses per month = Rs 2, 76,000

Total hours available for the month = 200

 

The processing hour cannot be increased beyond 200 hrs per month.

You are required to:

(a)    Compute the most profitable product-mix.

(b)    Compute the overall break-even sales of the co., for the month based in the mix calculated in (a) above.

 

Solution: 12

Problem: 13

A factory budgets for a production of 1, 50,000 units of a product. The variable cost is Rs 14 per unit and fixed cost is Rs 2 per unit. The company fixes its selling price to fetch a profit of 15% on cost.

(a)    What is the breakeven point?

(b)    What is the profit volume ratio?

(c)     If it reduces it’s selling price by 5% how does the revised selling price affect the BEP and the profit volume ratio?

(d)    If a profit increase of 10% is desired more than the budget what should be the sale at the reduced prices?

 

Solution: 13

Problem: 14

VINAYAK LTD. which produces three products A, B and C furnishes you the following information for the year 2015-16:

Particulars	A	B	C
Selling price per unit (Rs)	100	75	50
Profit volume ratio (%)	10	20	40
Maximum sales potential (units)	40,000	25,000	10,000
Raw material content as % of variable cost	50	50	50

 

The fixed expenses are estimated at Rs 6, 80,000. The company uses a single raw material in all the three products. Raw material is in short supply and the company has a quota for the supply of raw materials of the value of Rs 18, 00,000 for the year 2015-16 for the manufacture of its products to meet its sales demand.

 

You are required to

(a)    Set a product mix which will give a maximum overall profit keeping the short supply of raw material in view; and

(b)    Compute that maximum profit.

 

Solution: 14

Problem: 15

A review, made by the top management of Sweet and Struggle Ltd. which makes only one product, of the result of the first quarter of the year revealed the following:

Sales in units	10,000
Loss (Rs)	10,000
Variable cost per unit (Rs)	30,000
Fixed cost for the first quarter (Rs)	8

 

The Finance Manager suggests that the company should at least break-even in the second quarter with a drive for increased sales. Towards this the company should introduce a better packing which will increase the cost by Rs 0.50 per unit.

 

The Sales Manager has an alternate proposal. He suggests that for the second quarter additional sales promotion expenses can be increased to the extent of Rs 5,000 and a profit of Rs 5,000 can be aimed at for the period with increased sales.

 

The Production Manager feels otherwise. He suggests that to improve the demand the selling price per unit has to be reduced by 3%. As a result the sales volume can be increased to attain a profit level of Rs 4,000 for the quarter.

 

The Managing Director wants you as a Cost Accountant to evaluate these three proposals and calculate the additional units required to reach their respective targets help him to make a decision.

 

Solution: 15

Problem: 16

A limited company manufactures three different products S, T and Y. The following information has been collected from the books of accounts of the company:

Particulars	S	T	Y
Sales mix	35%	35%	30%
Selling price per unit (Rs)	30	40	20
Variable cost per unit (Rs)	15	20	12

 

Total fixed cost = Rs 1, 80,000

Total sales = Rs 6, 00,000

 

The company has currently under discussion, a proposal to discontinue the manufacture of product Y and replace it with product M, when the following results are anticipated:

Particulars	S	T	M
Sales mix	50%	25%	25%
Selling price per unit (Rs)	30	40	30
Variable cost per unit (Rs)	15	20	15

 

Total fixed cost = Rs 1, 80,000

Total sales = Rs 6, 40,000

 

Will you advise the company to changeover to production of M? Give reasons for your answer.

 

Solution: 16

Problem: 17

The following figures have been extracted from the accounts of a manufacturing undertaking, which produces a single product for the previous (base) year:

Units produced and sold (units)	10,000
Selling price per unit (Rs)	10
Variable cost per unit (Rs):
Material	2
Labour	4
Variable overheads	0.8
Total Fixed overheads (Rs)	20,000

 

In preparing the budget for the current (budget) year the undernoted changes have been envisaged:

Units to be produced and sold (units)	15,000
Fall in selling price per unit	10%
Special additional discount for bulk purchases of material	2½ %
Fall in labour efficiency	20%
Variable overheads per unit reduced by	1¼ %
Fixed overheads increased by (Rs)	5,000

 

You are required to calculate

1.   The number of units which must be sold to breakeven in each of the two years;

2.   The number of units which would have to be sold to double the profit of the base year under base year conditions; and

3.   The number of units which will have to be sold in the budget year to maintain the profit level of preceding year.

 

Solution: 17

Problem: 18

VINAK Ltd. operating at 75% level of activity produces and sells two products A and B. The cost sheets of these two products are as under:-

Particulars	Product: A	Product: B
Units produced and sold	600	400
Direct materials (Rs)	2	4
Direct labour (Rs)	4	4
Factory overheads (40% fixed) (Rs)	5	3
Admn. and Selling overheads (60% fixed) (Rs)	8	5
Total cost (Rs)	19	16
Selling price per unit (Rs)	23	18

 

Factory overheads are absorbed on the basis of machine hour which is the limiting factor. The machine hour rate is Rs 2 per hour. The company receives an offer from Canada for the purchase of Product A at a price of Rs 17.50 per unit.

 

Alternatively the company has another offer from the Middle East for the purchase of Product B at a price of Rs 15.50 per unit.

 

In both the cases, a special packing charge of fifty paise per unit has to be borne by the company.

 

The company can accept either of the two export orders and in the either case the company can supply such quantities as may be possible to produce by utilising the balance of 25% of its capacity.

 

You are required to prepare:

1.   A statement showing the economics of the two export proposals giving your recommendation as to which proposal should be accepted; and

2.   A statement showing the overall profitability of the company after incorporating the export proposal recommended by you.

 

Solution: 18

Problem: 19

Your company has a production capacity of 2, 00,000 units per year. Normal capacity utilisation is reckoned at 90%. Standard Variable Production costs are Rs 11 p.u. The fixed costs are Rs 3, 60,000 per year. Variable selling costs are Rs 3 p.u. and fixed selling costs are Rs 2, 70,000 per year. The unit selling price is Rs 20. In the year just ended on 30th June, 2012, the production was 1, 60,000 units and sales were 1, 50,000 units. The closing inventory on 30-6-2012 was 20,000 units. The actual variable production costs for the year was Rs 35,000 higher than the standard.

 

You are required to

1.   Calculate the profit for the year

(a)        By absorption costing method, and

(b)        By the marginal cost method; and

2.   Explain the difference in profits.

 

 Solution: 19

Problem: 20

From the following data calculate:

(1)    B.E.P expressed in amount of sales in rupees;

(2)    Number of units that must be sold to earn a profit of `60,000 per year; and

(3)    How many units must be sold to earn a net income of 10% of sale?

 

Sales price Rs 20 per unit; variable manufacturing costs Rs 11 per unit; fixed factory overheads Rs 5, 40,000 per year; variable selling costs Rs 3 per unit; fixed selling costs Rs 2, 52,000 per year.

 

Solution: 20

Problem: 21

The Board of Directors of KE Ltd., manufacturers of three products A, B and C, have asked for advice on the production mixture of the company.

1.   You are required to present a statement to advise the directors of the most profitable mixture of the products to be made and sold. The statement should show:

a)   The profit expected on the current budgeted production, and

b)   The profit which could be expected if the most profitable mixture was produced.

2.   You are also required to direct the director’s attention to any problem which is likely to arise if the mixture in 1 (b) above were to be produced.

The following information is given:-

Data for standard Costs, per unit:

	Product: A	Product: B	Product: C
Direct material (Rs)	10	30	20
Variable overhead (Rs)	3	2	5

 

Direct labour:

Department	Rate per hour (Rs)	Product: A	Product: B	Product: C
		Hours	Hours	Hours
1	0.5	28	16	30
2	1	5	6	10
3	0.5	16	8	30

 

Data from current budget:

Particulars	Product: A	Product: B	Product: C
Production per year (units)	10,000	5,000	6,000
Selling price per unit (Rs)	50	68	90
Maximum sales forecast p.a. (units)	12,000	7,000	9,000

 

However, the type of labour required by Department 2 is in short supply and it is not possible to increase the manpower of this department beyond its present level.

 

Solution: 21

Problem: 22

An engineering company receives an enquiry for the manufacture of certain product, for which costs estimated per unit are as follows: Direct materials Rs 3.10; Direct labour (5 hours) Rs 2.05; Direct expenses Rs 0.05; Variable overheads 20 paise per hour.

 

The manufacture of this product will necessitate the provision of special tooling costing approximately Rs 4,500. The selling price per unit is Rs 8.00. For an order to be considered profitable it is necessary for it to yield a target profit at the rate of Rs 0.30 per Labour Hour (after tooling cost).

 

Find out:

(a)    The sales level at which contribution to profit commences.

(b)    The sales level at which the profit exceeds the target.

 

 Solution: 22

Problem: 23

The present output details of a manufacturing department are as follows:

Average output per week (units)	48,000
Number of employees	160
Saleable value of the output (Rs)	1,50,000
Contribution made by output towards fixed expenses and profit (Rs)	60,000

 

The board of directors plans to introduce more mechanisation into the department at a capital cost of Rs 40,000. The effect of this will be to reduce the number of employees to 120, but to increase the output per individual employees by 40%. To provide the necessary incentive to achieve the increased output, the board intends to offer a 1% increase on the piece of work price of 25 paise per article for every 2% increase in average individual output achieved. To sell the increased output, it will be necessary to decrease the selling price by 4%. Calculate the extra weekly contribution resulting from the proposed change and evaluate for the board’s consideration the worth of the project.

Solution: 23