Page 90 - DMGT202_COST_AND_MANAGEMENT_ACCOUNTING

Unit 6: Marginal Costing and Absorption Costing

Introduction Notes

It is one of the premier tools of management not only to take decisions but also to fi x an appropriate
price and to assess the level of profi tability of the products/services. This is a only costing tool

demarcates the fixed cost from the variable cost of the product/service in order to guide the

firm to know the minimal point of sales to equate the cost of production. It is a tool of analysis

highlighting the relationship in between the cost, volume of sales and profitability of the fi rm.
According to ICMA, London “Marginal cost is the amount at any given volume of output, by which
aggregate costs are charged, if the volume of output is increased or decreased by one unit.”

6.1 Meaning and Definition of Marginal Costing

According to ICMA, London “Marginal cost is the amount at any given volume of output, by which
aggregate costs are charged, if the volume of output is increased or decreased by one unit.”
Marginal cost is the cost nothing but a change occurred in the total cost due to changes taken
place on the level of production i.e either an increase/decrease by one unit of product.

Example: The firm XYZ Ltd. incurs ` 1000 for the production of 100 units at one level of

operation. By increasing only one unit of product i.e. 101 units, the firm’s total cost of production
amounted ` 1010.

Total cost of production at first instance (C’) = ` 1000
Total cost of production at second instance (C”) = ` 1010
Total number of units during the first instance (U’) = 100

Total number of units during the second instance (U”) = 101

Increase in the level of production and Cost of production:
Change in the level of production in units = U”-U’= U
Change in the total cost of production = C”– C’= C

Marginal Cost =

If the same firm reduces the total volume from 100 units to 99 units, the total cost of production
` 990/-
Decrease in the level of production and cost of production:

Marginal Cost = = ` 10

Did u know? Why marginal cost is called as incremental cost?
From the above example, it is obviously understood that marginal cost is nothing but a
cost which incorporates the incremental changes in the cost of production due to either an
increase or decrease in the level of production by one unit, meant as incremental cost.

Why marginal cost is called in other words as variable cost?

From the following classifi cations of cost, the inter twined relationship in between the variable
cost and marginal cost is explained as below:

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