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Features of Marginal Costing – Basic Concepts, Advantages, Limitations, Application Explained in Detail | Economics

Features of Marginal Costing

Features of Marginal Costing

In marginal costing, the relationship between costs, production volume, and profit is studied. To understand how changes in production levels impact costs and profitability, it separates total costs into fixed and variable components. As a result of changes in activity levels, this method is particularly useful for making short-term decisions and understanding cost behavior.


Basic Concepts of Marginal Costing

The basic concepts of marginal costing are as follows:

Basic Concepts of Marginal Costing

a. Variable Costs:

A variable cost is one that varies directly with production and sales levels. For example, raw materials, direct labor, and variable manufacturing overhead are examples of variable costs.

b. Fixed Costs:

The fixed costs, on the other hand, remain constant regardless of improvements in production levels. Examples of fixed costs are rent, salaries of permanent staff, and depreciation.

c. Contribution Margin:

Marginal costing uses the concept of contribution margin as a key concept. The contribution margin is the difference between sales revenue and variable costs, so it indicates what will be available to cover fixed costs and make a profit. Deducting variable costs from the unit’s selling price gives you the contribution margin per unit. An assessment of the profitability of different products or product lines can be done by calculating the contribution margin ratio.

d. Treatment of Fixed Costs:

In marginal costing, fixed costs are not attributed to individual units of production but rather are treated as period costs. In fact, fixed costs are taken into account when calculating the total contribution for the period, since they remain unchanged regardless of production volume changes. Therefore, short-term decisions are not affected by fixed costs.

e. Variable Costing for Inventory Evaluation:

In marginal costing, only production costs are considered when valuing inventory. In contrast, in absorption costing, in which both fixed and variable production costs are included in the cost of goods sold, fixed production costs are not assigned to inventory but are treated as period costs.

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