1. 1 Module 3 Costing Techniques

2. 2 (3.1) MARGINAL COSTING (A) Important Formulae Contribution (c) = Sales (s) – Variable cost (v) N= No. of units sold, F= Total fixed cost For any business, (s -v) N – F = Profit C/S or ∆C/∆S or ∆p/∆S = P/V ratio (BEP) Nos. = F / contribution per unit (BEP) Rs.= F / P/V ratio (BEP) capacity = (BEP) units X 100 Annual plant Capacity M.O.S.(M/S) = (Total Sales) – (B.E.) Sales % M/S = (Total sale) – (B.E. sale) (Total Sale) M.O.S. X P/V = Profit Sale to earn profit DP = (F + DP) P/V ratio

3. 3 (B) Break Even Point Level of operations where Total Revenue= Total Cost No profit no loss situation BEP analysis highlights relationship among Sales, Variable Cost & Fixed Cost (BEP) in units = Fixed cost/ contribution per unit (BEP) in Rs. = Fixed cost/ P/v Ratio (BEP) in capacity = BEP units/ Total capacity

4. 4 Significance of BEP Lower BEP more efficient business Evaluation of top management decisions Deciding sales – mix Operating level decisions affect BEP Effect of export on BEP Product lines affecting BEP Useful in decisions in mergers & acquisitions Technology up gradation decisions & BEP

5. 5 (C) P/V Ratio (Profit –Volume Ratio) Rate of contribution per rupee of sale Shows relation between contribution & sale P/V = c/s or Δc/Δs or Δp/Δs Significance: -Product/process/division with more P/V more profitable -Sales-mix with overall more P/V preferred -Useful for controlling variable cost -Useful for performance appraisal -Useful for decisions on pricing & sales volume -Useful for decisions on discounting product lines

6. 6 (D) Margin of Safety (M.O.S.or M/S) M.O.S.=(Total sales)-(B.E. sales) Higher sales above BEP more is M.O.S. Significance: -More M/S better business position -More M/S more reserves by company -M/s can be more if BEP achieved at lower level -Useful for reducing fixed & variable cost -Useful in mergers & acquisition decisions -Unit with more M/S is more efficient

7. 7 (E) Cost-Volume-Profit (C.V.P.) analysis Study of relationship between -Expense (costs) -Revenue (sales volume) -Net income (Profit) Function of sales volume, selling price & costs Useful for managerial decision making Practical applications: (i) Profit planning (ii) Flexible budgets (iii) Pricing (iv) Dropping product line (v) K.S.Fs for profits (vi) Impact of various managerial decisions on profit

8. 8 (F) Key or Limiting factor analysis Factor which limits output of business Use in decision making: Step 1: Identify key factor Step 2: Find contribution per unit of key factor Step 3: Product with highest figure in step 2 is priority Key factor Contribution per unit Labour Hour Per labour hour Machine Hour Per machine hour Raw material Per Kg. Sales Quantity/ Rs. Per unit sold/ per Re. sold

9. 9 3.2 Standard costing (A) Meaning of standard costing Technique which uses standards for costs & revenue for managerial control through variance analysis Standard cost or revenue is pre-determined cost or revenue to be achieved under specified conditions Process of standard costing involves following steps: 1. Set standards 2. Periodically measure actual results 3. Compare actual against standard 4. Decide actions to correct deviations 5. Review standard & if required revise it

10. 10 (B) Variance Analysis 1 Material cost variance = M.P.V. + M.U.V. (a) Material Price Variance (M.P.V.): Formula: Act. Qty. (Act. Price – Std. Price) Variance: Act. Price > Std. Price ( Adverse ) Act. Price < Std. Price ( Favourable ) Responsibility : Purchase deptt. Actions: (i) Change of supplier (ii) Price negotiations (iii) Vendor development

11. 11 (b) Material Usage Variance ( M.U.V.): Formula : Std. Price (Act Qty. – Std. Qty.) Variance: Act Qty. > Std. Qty. ( Adverse ) Act Qty. < Std. Qty. ( Favourable ) Responsibility: Prodn. & PPC deptt. Actions: (i) Proper production planning (ii) Control on usage (iii) Control on wastage

12. 12 2Labour Cost Variance = L.R.V. + L.E.V. (a) Labour Rate Variance (L.R.V.) : Formula: Act. Hrs. (Act. Rate – Std. Rate) Variance: Act. Rate > Std. Rate (Adverse) Act. Rate < Std. Rate (Favourable) Responsibility: HR & Production deptt. Actions : (i) Right person on right job (ii) Proper wage negotiations (iii) Control on excess wages

13. 13 (b) Labour Efficiency Variance (L.E.V.) Formula: Std. Rate (Act. Hrs. – Std. Hrs.) Variance :Act. Hrs. > Std. Hrs. (Adverse) Act. Hrs. < Std. Hrs. (Favourable) Responsibility: HR & Production deptt. Actions : (i) Improvement in labour efficiency (ii) Good labour relations (iii) Reduction of labour idle time

14. 14 3 Total Sales Variance = Act. Sales – Std. Sales = S.P.V. + S.V.V. (a) Sales Price Variance (S.P.V.) : Formula: Act. Qty.( Act. Price – Std. Price ) Variance: Act. Price < Std. Price (Adverse) Act. Price > Std. Price (Favourable) Responsibility : Marketing deptt. Actions: (i) Less discounts (ii) Correction in pricing policies (iii) Change of market/customers

15. 15 (b) Sales Volume Variance (S.V.V.) S.V.V. = Sales Mix Var. + Sales Qty. Var. Formula: Std. Price (Act. Qty. – Std. Qty.) Variance: Act. Qty. < Std. Qty. (Adverse) Act. Qty. > Std. Qty. (Favourable) Responsibility : Marketing deptt. Actions (i) Proper demand analysis (ii) Aggressive marketing of products (iii) More sales efforts

16. 16 (b1) Sales Mix Variance (S.M.V.) : Formula: Actual sales converted to std. proportion (a) S.M.V. = Std. Price [Act. Sales – (a) ] Variance : Actual sales < (a) [Adverse] Actual sales > (a) [Favourable] Responsibility : Marketing deptt. Actions : (i) Change of sales mix

17. 17 (b2) Sales Quantity Variance (S.Q.V.) Formula : S.Q.V.= Av. S.P. Per unit [Act. Total Qty. – Std. Total Qty.] Variance: Act. Total Qty. < Std. Total Qty. (Adverse) Act. Total Qty. > Std. Total Qty. (Favourable) Responsibility : Marketing deptt. Actions : (i) Accurate demand forcasting (ii) Lowering of prices

18. 18 4 Profit variance: Formula : Total profit variance = Act. Profit - Budgeted Profit Variance : Act. Profit < Budgeted Profit (Adverse) Act. Profit > Budgeted Profit (Favourable) Responsibility: Management team Action : (i) Better profit planning (ii) Cost reduction (iii) Increasing sale prices

19. 19 4a) Profit Margin Variance (P.M.V.) : Formula : (P.M.V.) = Act. Qty.( Act. Margin – Std. Margin) Variance : Act. Margin < Std. Margin (Adverse ) Act. Margin > Std. Margin (Favourable)

20. 20 4b) Profit Volume Variance (P.V.V.) Formula : (P.V.V.)= Bud. Margin P.U. (Act. Qty.- Bud. Qty.) Variance : Act. Qty. Sold < Bud. Qty. Sold (Adverse) Act. Qty. Sold > Bud. Qty. Sold (Favourable)