Page 53 - DCOM206_COST_ACCOUNTING_II

Cost Accounting – II

Notes
Table 3.1: Differences between the Absorption Costing and Marginal Costing
Absorption Costing Marginal Costing
1. Costs are classified as direct and indirect, 1. Costs are classified as fixed and variable.
direct costs are identifiable with a particular While direct costs are mostly variable,
product and hence charged directly. Indirect indirect costs, i.e. overheads may be semi
costs i.e. overheads are first identified, variable. The variable portion in the total
apportioned to the cost centers and finally overhead cost is identified and thus the total
absorbed in the product units on some variable costs are computed. Only variable
suitable basis. costs are charged to the product while the
fixed costs are not absorbed in the product
units. They are finally debited to the Costing
Profit and Loss Account for computing the
final figure of profit or loss. Thus the cost of
production under marginal costing is only
the variable portion of the total costs.
2. The year-end inventory of finished goods 2. The year-end inventory is valued at variable
under absorption costing is valued at total cost only. Fixed costs are not taken into
cost, i.e. fixed and variable. consideration while valuing inventory, as
they are not absorbed in the product units.
3. The fixed overhead absorption may create 3. The fixed overheads are charged directly to
some problems like over/under absorption. the Costing Profit and Loss Account and not
This happens because of the overhead absorbed in the product units. Therefore
absorption rate which is pre determined. there is no question of under/over
Suitable corrective entries are to be made to absorption of overheads.
rectify the over/under absorption of
overheads; otherwise the cost of production
will be distorted.
4. Due to the inventory valuation, which is 4. Fixed costs are not taken into consideration
done at the full cost, the costs relating to the while valuing the inventory and hence there
current period are carried forward to the is no distortion of profits.
subsequent period. This will distort the cost
of production.
5. The total cost of production is charged to the 5. Only variable costs are charged to the cost of
product without distinguishing between the production and therefore the selling price is
fixed and variable components. The selling also based on only variable costs. This will
price is thus fixed on the basis of total costs. result in fixation of selling price below the
total costs. There is a possibility of starting a
price war in such situations, which will be
harmful to all the companies in the industry.

The points of difference between the absorption costing and marginal costing will clarify the
difference between the two. The following problem will further clarify the difference between
absorption costing and marginal costing.
Problem 1:

From the following data compute the profit under
(a) Marginal costing and
(b) Absorption costing and reconcile the difference in profits.
Selling price per unit: ` 8
Variable cost per unit: ` 4
Fixed cost per unit: ` 2
Normal volume of production is 26,000 units per quarter.

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