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MARGINAL & ABSORPTION COSTING

Marginal and absorption costing

1 The following data is available for period 9. Opening inventory 10,000 units Closing inventory 8,000 units Absorption costing profit $280,000 The profit for period 9 using marginal costing would be: A $278,000 B $280,000 C $282,000 D Impossible to calculate without more information 2 The overhead absorption rate for product T is $4 per machine hour. Each unit of T requires 3 machine hours. Inventories of product T last period were: Units Opening inventory 2,400 Closing inventory 2,700 Compared with the marginal costing profit for the period, the absorption costing profit for product T will be: A $1,200 higher B $3,600 higher C $1,200 lower D $3,600 lower 3 In a period where opening inventories were 15,000 units and closing inventories were 20,000 units, a firm had a profit of $130,000 using absorption costing. If the fixed overhead absorption rate was $8 per unit, the profit using marginal costing would be: A $90,000 B $130,000 C $170,000 D Impossible to calculate without more information

The following information relates to questions 4 and 5

Cost and selling price details for product Z are as follows. $ per unit Direct materials 6.00 Direct labour 7.50 Variable overhead 2.50 Fixed overhead absorption rate 5.00 21.00 Profit 9.00 Selling price 30.00 Budgeted production for the month was 5,000 units although the company managed to produce 5,800 units, selling 5,200 of them and incurring fixed overhead costs of $27,400.

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4 The marginal costing profit for the month is: A $45,400 B $46,800 C $53,800 D $72,800 5 The absorption costing profit for the month is: A $45,200 B $45,400 C $46,800 D $48,400 6 In a period, a company had opening inventory of 31,000 units and closing inventory of 34,000 units. Profits based on marginal costing were $850,500 and on absorption costing were $955,500. If the budgeted total fixed costs for the company was $1,837,500, what was the budgeted level of activity in units? A 32,500 B 52,500 C 65,000 D 105,000 7 A company had opening inventory of 48,500 units and closing inventory of 45,500 units. Profits based on marginal costing were $315,250 and on absorption costing were $288,250. What is the fixed overhead absorption rate per unit? A $5.94 B $6.34 C $6.50 D $9.00 8 Which of the following are acceptable bases for absorbing production overheads? (i) Direct labour hours (ii) Machine hours (iii) As a percentage of the prime cost (iv) Per unit A Method (i) and (ii) only B Method (iii) and (iv) only C Method (i), (ii), (iii) and (iv) D Method (i), (ii) or (iii) only 9 Absorption costing is concerned with which of the following? A Direct materials B Direct labour C Fixed costs D Variable and fixed costs 10 A company made 17,500 units at a total cost of $16 each. Three quarters of the costs were variable and one quarter fixed. 15,000 units were sold at $25 each. There were no opening inventories. By how much will the profit calculated using absorption costing principles differ from the profit if marginal costing principles had been used? A The absorption costing profit would be $10,000 less B The absorption costing profit would be $10,000 greater C The absorption costing profit would be $30,000 greater D The absorption costing profit would be $40,000 greater

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11 A company has established a marginal costing profit of $72,300. Opening inventory was 300 units and closing inventory is 750 units. The fixed production overhead absorption rate has been calculated as $5/unit. What was the profit under absorption costing? A $67,050 B $70,050 C $74,550 D $77,550 12 A company produces and sells a single product whose variable cost is $6 per unit. Fixed costs have been absorbed over the normal level of activity of 200,000 units and have been calculated as $2 per unit. The current selling price is $10 per unit. How much profit is made under marginal costing if the company sells 250,000 units? A $500,000 B $600,000 C $900,000 D $1,000,000 13 A company wishes to make a profit of $150,000. It has fixed costs of $75,000 with a C/S ratio of 0.75 and a selling price of $10 per unit. How many units would the company need to sell in order to achieve the required level of profit? A 10,000 units B 15,000 units C 22,500 units D 30,000 units 14 A company which uses marginal costing has a profit of $37,500 for a period. Opening inventory was 100 units and closing inventory was 350 units. The fixed production overhead absorption rate is $4 per unit. What is the profit under absorption costing? A $35,700 B $35,500 C $38,500 D $39,300 15 A company has the following budgeted information for the coming month: Budgeted sales revenue $500,000 Budgeted contribution $200,000 Budgeted profit $50,000 What is the budgeted break-even sales revenue? A $125,000 B $350,000 C $375,000 D $450,000 16 A company manufactures and sells a single product. For this month the budgeted fixed production overheads are $48,000, budgeted production is 12,000 units and budgeted sales are 11,720 units. The company currently uses absorption costing. If the company used marginal costing principles instead of absorption costing for this month, what would be the effect on the budgeted profit?

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A $1,120 higher B $1,120 lower C $3,920 higher D $3,920 lower 17 A company operates a standard marginal costing system. Last month its actual fixed overhead expenditure was 10% above budget resulting in a fixed overhead expenditure variance of $36,000. What was the actual expenditure on fixed overheads last month? A $324,000 B $360,000 C $396,000 D $400,000 18 Last month, when a company had an opening stock of 16,500 units and a closing stock of 18,000 units, the profit using absorption costing was $40,00. The fixed production overhead rate was $10 per unit. What would the profit for last month have been using marginal costing? A $15,000 B $25,000 C $55,000 D $65,000

Marginal and absorption costing

1 The overhead absorption rate for product M is $8 per machine hour. Each unit of M requires 6 machine hours. Inventories of product M last period were: Units Opening inventory 2,400 Closing inventory 2,700 The absorption costing profit for the period for product M will be: higher lower than the marginal costing profit. The difference between the two profit figures will be $ ----------------2 In a period where opening inventories were 5,000 units and closing inventories 8,000 units, a firm had a profit of $130,000 using absorption costing. If the fixed overhead absorption rate was $4 per unit: The profit using marginal costing would be $ ---------------3 RJD Co produces a single product. The managers currently use absorption costing, but are considering using marginal costing in future. The fixed production overhead absorption rate is $68 per unit. There were 200 units of opening inventory for the period and 360 units of closing inventory. If marginal costing principles were applied, the profit for the period would be than the profit reported under absorption costing. The difference between the two profits figures would be $ ---------------4 Caribbean Co has opening inventories of 825 units and closing stocks of 1,800 units in a period. The profit based on marginal costing was $50,400 and profit using absorption costing was $60,150. The fixed overhead absorption rate per unit (to the nearest $) is $ ------------------

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Marginal and absorption costing

1 D We know that the profit using marginal costing would be higher than the absorption costing profit, because inventories are decreasing. However, we cannot calculate the value of the difference without the fixed overhead absorption rate per unit. Difference in profit = 2,000 units inventory reduction fixed overhead absorption rate per unit 2B Difference in profit = change in inventory level fixed overhead per unit = (2,400 2,700) ($4 3) = $3,600 The absorption profit will be higher because inventories have increased, and fixed overheads have been carried forward in inventories. If you selected option A or C you used $4 per unit as the fixed overhead absorption rate, but this is the absorption rate per machine hour. If you selected option D you calculated the correct monetary value of the profit difference but you misinterpreted its 'direction'. 3 A Difference in profit = change in inventory level fixed overhead per unit = (15,000 20,000) $8 = $40,000 The inventory level increased during the period therefore the absorption costing profit is higher than the marginal costing profit. Marginal costing profit = $130,000 $40,000 = $90,000 If you selected option B you decided there would be no difference in the reported profits. If inventory levels change there will always be a difference between the marginal and absorption costing profits. If you selected option C you calculated the correct monetary value of the profit difference but you misinterpreted its 'direction'. ANSWERS TO MULTIPLE CHOICE QUESTIONS

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4 A Contribution per unit = $30 $(6.00 + 7.50 + 2.50) = $14 Contribution for month = $14 5,200 units = $72,800 Less fixed costs incurred = $27,400 Marginal costing profit = $45,400 If you selected option B you calculated the profit on the actual sales at $9 per unit. This utilises a unit rate for fixed overhead which is not valid under marginal costing. If you selected option C you used the correct method but you based your calculations on the units produced rather than the units sold. If you selected option D you calculated the correct contribution but you forgot to deduct the fixed

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overhead. 5D $$ Sales (5,200 at $30) 156,000 Materials (5,200 at $6) 31,200 Labour (5,200 at $7.50) 39,000 Variable overhead (5,200 at $2.50) 13,000 Total variable cost (83,200) Fixed overhead ($5 5,200) (26,000) Over-absorbed overhead (W) 1,600 Absorption costing profit 48,400 Working $ Overhead absorbed (5,800 $5) 29,000 Overhead incurred 27,400 Over-absorbed overhead 1,600 If you selected option A you calculated all the figures correctly but you subtracted the overabsorbed overhead instead of adding it to profit. Option B is the marginal costing profit. If you selected option C you calculated the profit on the actual sales at $9 per unit, and forgot to adjust for the over-absorbed overhead. 6 B Inventory levels increased by 3,000 units and absorption costing profit is $105,000 higher ($955,500 $850,500). 4 Fixed production cost included in inventory increase: = 3,000 $105,000 = $35 per unit of inventory Fixed cost per unit Budgeted fixed costs = 35 $1,837,500 = 52,500 units Option A is an average of the opening and closing inventories. Option C is the total of the opening and closing inventories. If you selected option D you simply calculated the difference between the two stated profit figures. ANSWERS TO MULTIPLE CHOICE QUESTIONS

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7 D Decrease in inventory levels = 48,500 45,500 = 3,000 units Difference in profits = $315,250 $288,250 = $27,000 Fixed overhead per unit = 3,000 $27,000 = $9 per unit If you selected one of the other options you attempted various divisions of all the data available in the question! 8 C All of the methods are acceptable bases for absorbing production overheads. However, the percentage of prime cost has serious limitations and the rate per unit can only be used if all cost

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units are identical. 9 D Absorption costing is concerned with including in the total cost of a product an appropriate share of overhead, or indirect cost. Overheads can be fixed or variable costs, therefore option D is correct. Option A and option B are incorrect because they relate to direct costs. Option C is incorrect because it does not take account of variable overheads. 10 B Fixed costs per unit = $16 4 = $4 Units in closing inventory = 17,500 15,000 = 2,500 units Profit difference = inventory increase in units fixed overhead per unit = 2,500 $4 = $10,000 Inventories increased, therefore fixed overhead would have been carried forward in inventory using absorption costing and the profit would be higher than with marginal costing. If you selected option A you calculated the correct profit difference, but misinterpreted the 'direction' of the difference. If you selected option C or D you evaluated the inventory difference at variable cost and full cost respectively. 11 C If inventory levels increase in a period, absorption costing will show a higher profit than marginal costing. Difference in profit = change in inventory levels overhead absorption rate per unit = (750 units 300 units) $5 per unit = 450 units $5 = $2,250 $ Marginal costing profit 72,300 Increase in profit 2,250 Absorption costing profit 74,550 12 B Contribution per unit = selling price variable cost = $10 $6 = $4 per unit Total contribution = 250,000 units $4 per unit = $1,000,000 Total fixed costs = 200,000 units $2 per unit = $400,000 Marginal costing profit = total contribution total fixed costs = $1,000,000 $400,000 = $600,000 ANSWERS TO MULTIPLE CHOICE QUESTIONS

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13 D Breakeven sales revenue = C/St ratio Fixedcosts + target profit = 0.75 $75,000 + $150,000 = 0.75 $225,000 = $300,000 If selling price = $10 per unit

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$10 $300,000 = 30,000 units must be sold 14 C If inventory levels increase in a period, absorption costing will show a higher profit than marginal costing. Difference in profit = change in inventory levels overhead absorption rate per unit = (350 100) units $4 per unit = 250 units $4 = $1,000 $ Marginal costing profit 37,500 Increase in profit 1,000 Absorption costing profit 38,500 15 C Budgeted breakeven sales revenue Budgeted contribution fixed costs = budgeted profit $200,000 fixed costs = $50,000 Fixed costs = $200,000 $50,000 Budgeted breakeven sales revenue = C/S ratio* Fixedcosts = 0.4 $150,000 = $375,000 *C/S ratio = Sales revenue Contribution = $500,000 $200,000 16 B Fixed production overhead absorption rate = 12,000 units $48,000 = $4 per unit Increase in inventory levels = (12,000 11,720) units = 280 units 4 Difference in profit = 280 units $4 per unit = $1,120 ANSWERS TO MULTIPLE CHOICE QUESTIONS

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Marginal costing profits are lower than absorption costing profits when stock levels increase in a period, therefore marginal costing profit will be $1,120 lower than absorption costing profits for the same period. 17 C If budgeted fixed overhead expenditure = 100% Actual fixed overhead expenditure = 110% 4 Variance = 10% If variance = $36,000 = 10% budgeted fixed overhead expenditure Budgeted fixed overhead expenditure = $36,000/0.1 = $360,000 4 Actual fixed overhead expenditure = 110% $360,000 = $396,000

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18 B Increase in inventory = (18,000 16,500) units = 1,500 units 4 Difference in profit = 1,500 units $10 = $15,000 Profits under marginal costing will be $15,000 less than profits under absorption costing ie $40,000 $15,000 = $25,000.

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