Financial Accounting

Applications of marginal costing

The following are the 4 applications of marginal costing:

1. Cost control: in marginal costing there is fixed cost as well as variable cost . fixed cost is controlled by top management and variable cost is controlled by lower management. Sometimes there are the cases when profit decreases even when sale increases in such situations marginal cost helps the concern in finding out the reasons.

2. Evaluation of performance: it helps in evaluating the performance of each sector of concern.

3. Profit planning: profit increased and decreased due to change in selling price, variable cost etc. marginal cost helps in profit planning.

4. Decision making: marginal cost helps in short-term decision-making. Like:

a) Fixing the selling price: selling price must be equal to the marginal cost. If selling price is more than the marginal cost then there will be loss.

b) Key factor: a factor which puts limit on the production and profit of the business is called key or limiting factor. A company is not able to sell all its production. Sometimes a company can sell all its produces and sometimes not. So choice has to be made regarding whose production has to be increased or who’s decreased.

c) Make or buy decision: it is better for the company to use its idle capacity and produce component parts in the factory itself rather than buying them from the market. If its cost is less than it is better to make it in the factory.

d) Selection of good product mix: this happens in the case when company is producing number of products in that case it is better to select a good product mix which gives more of profit.

e) Effect of change in sale price: management must be aware of the effect of change in price and make necessary changes from time to time.

f) Closing down activities: sometimes it becomes necessary for the management to close or suspend some activities of a particular product.

g) Alternative method of production: marginal costing is helpful in knowing which alternative method of production is to be selected.

h) At the end while selecting alternative course of action management must maintain desired level of profit.

These are the applications of the marginal costing.

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