MARGINAL COSTING AND DECISION MAKING
KEY FACTOR AND PRODUCT MIX
1. A company manufactured and markets three products X, Y and Z. All the products are made from the
same set of machines. Production is limited by machine capacity. From the following data, indicate
priorities for products X, Y and Z with a view to maximizing profits.
Particulars Products
X Y Z
Raw Materials cost per unit (₹) 11.25 16.25 21.25
Direct Labour cost per unit (₹) 2.50 2.50 2.50
Other variable costs per unit (₹) 1.50 2.25 3.55
Selling price per unit (₹) 25.00 32.00 35.00
Standard machine time required per unit in minutes 39 20 28
2. Taurus Ltd. produces three products – A, B and C, from the same manufacturing facilities. The cost and
other details of the products are as follows:
A B C
Selling price per unit (₹) 200 160 100
Variable cost per unit (₹) 120 120 40
Maximum possible production per month (units) 5000 8000 6000
Maximum Demand per month (units) 2000 4000 2400
Fixed expenses per month ₹ 276000. Total production hours available for the month 200 hours. Compute:
(i) the most profitable mix, (ii) the overall break-even sales of the company for the month based on the
mix calculated in (i).
3. The following particulars are extracted from the records of a company:
Particulars Product A (p.u.) Product B (p.u.)
Sale price (₹) 100 110
Consumption of materials (kg.) 5 4
Material cost (₹) 24 14
Direct wages (₹) 2 3
Variable overheads (₹) 4 6
Machine hours used 2 3
Comment on the profitability of each product (both use the same raw material) when:
i. Total sales potential in units is limited.
ii. Total sales potential in value is limited.
iii. Raw Material is in short supply.
iv. Production capacity (in terms of machine hours) is the limiting factor.
4. A firm can produce 3 different products from the same raw materials using the same production facilities.
The requisite labour is available in plenty @ ₹ 8 per hour for all products. The supply of raw-materials
which is imported @ ₹ 8 per kg. is limited to 10400 kg for the budget period. The variable overheads are
₹ 5.60 per hour. The fixed overheads are ₹ 50000. The selling commission is 10% on sales.
a) From the following information, you are required to suggest the most suitable sales mix which will
maximize the firm’s profits. Also determine the profit that will be earned at that level.
Product Market Demand Selling Price Labour hours Raw materials
(units) per unit (₹) required per unit required per unit (kg)
X 8000 30 1 0.7
Y 6000 40 2 0.4
Z 5000 50 1.5 1.5
b) Assume in the above situation, if additional 4500 kg of raw material is made available for production,
should the firm go in for further production, if it will result in additional fixed overheads of ₹ 20000 and
25% increase in the rates per hour of labour and variable overheads.
5. A manufacturer with an overall capacity (interchangeable among products) of 100000 machine hours has
been so far producing a mix of 15000 units of Product A; 10000 units of Product B and C each. On
experience the total expenditure exclusive of fixed expenses is found to be ₹ 209000 and the cost ratio
among the products approximates 1:1.5:1.75 respectively per unit. The fixed charges comes to ₹ 2 per unit.
When the unit selling prices are ₹ 6.25 for A, ₹ 7.50 for B and ₹ 10.50 for C, a loss is incurred. The
manufacturer desires to change the product mix as under:
Product Mix 1 Mix 2 Mix 3
A 18000 15000 22000
B 12000 6000 8000
C 7000 13000 8000
As a cost accountant what mix would you recommend?
MAKE OR BUY
6. Expansion Ltd. manufactures automobile accessories and parts. The following are the total costs of
processing 1,00,000 units:
Direct material cost ₹5,00,000
Direct labour cost ₹8,00,000
Variable factory overhead ₹6,00,000
Fixed factory overhead ₹5,00,000
The purchase price of the component is ₹ 22. The fixed overhead would continue to be incurred even when
the component is bought from outside, although there would have been reduction to the extent of
₹2,00,000.
Required:
a) Should the part be made or bought considering that the present facility when released following a
buying decision would remain idle?
b) In case the released capacity can be rented out to another manufacturer for ₹ 1,50,000 having good
demand, what should be the decision.
7. Ridewell Cycles Ltd. purchases 20,000 bells per annum from an outside supplier at ₹ 50 each. The
management feels that these be manufactured and not purchased. A machine costing ₹ 5,00,000 will be
required to manufacture the item within the factory. The machine has an annual capacity of 30,000 units
and the life is 5 years. The following additional information is available:
Material cost per bell will be ₹ 20
Labour cost ₹ 10
Variable overheads 100% of labour cost
You are required to advise whether:
The company should continue to purchase the bells from outside supplier or should make them in the
factory; and
The company should accept an order to supply 5,000 bells to the market at a selling price of₹ 45 per unit?
8. Company XYZ produces two components (C1 and C2) and is planning the allocation of its available
resources for the next period.
75 units of component CI and 60 units of component C2 are required to be produced but machine hour
capacity is restricted to a total of 300 hours. Any deficit of components produced in-house can be made
up by the purchase of any quantity of either component from an outside supplier. The objective of company
XYZ is to satisfy the requirement for components at minimum total cost.
The following information is available concerning each components
Costs (₹ per unit) C1 C2
Direct materials 6.20 8.70
Direct labour 5.10 7.50
Variable production overhead 1.20 1.30
Fixed production overheads 4.80 6.40
17.30 23.90
Machine hours (per unit) 2.00 3.00
Price from outside supplier (₹ per unit) 18.50 25.90
Required: For the next period:
a) Calculate the variable costs of producing each component in-house.
b) Calculate the extra costs of buying-in each component.
c) Determine which component should have production priority. Show workings clearly and justify your
conclusion.
d) Calculate the number of units of each component that should be manufactured by company XYZ.
9. Auto Parts Ltd. has an annual production of 90,000 units for a motor component. The components’ cost
structure is given below: ₹
Materials 270 per unit
Labour (25% fixed) 180 per unit
Expenses: Variable 90 per unit
Fixed 135 per unit
The purchase manager has an offer from a supplier who is willing to supply the component at ₹ 540.
Should the component be purchased and production stopped?
Assume the resources now used for this component manufacturing are to be used to produce another new
product for which the selling price is ₹ 485. In the latter case material price will be ₹ 200 per unit, 90,000
units of this product can be produced, at the same cost basis as above for labour and expenses. Discuss
whether it would be advisable to divert the resources to manufacture that new product, on the footing that
the component presently being produced would, instead of being produced, be purchased from the market.
10. Stirling Industries Ltd., manufactures a product 'Z' by making and assembling three components A, B and
C. The components are made in a machine shop using three identical machines each of which can make
any of the three components. However, the total capacity of the three machines is only 12,000 machine
hours per month and is just sufficient to meet the current demand. Labour for assembling is available
according to requirements. Further details are given below:
Components Machine-hours Variabe cost Market price at which the
required per unit per unit (₹) component can be purchased if
required (₹)
A 4 48 64
B 5 60 75
C 6 80 110
Assembling (per unit of Z) — 30 —
Fixed costs per month amount to ₹50,000. Product 'Z' is sold at ₹300 per unit.
Marginal Costing and Short-term Decision Making
From next month onwards, the company expects the demand for 'Z' to rise by 25%. As the machine
capacity is limited, the company wants to meet the increase in demand by buying such numbers of A, B
or C which is most profitable.
You are asked to find out the following:
(a) Current demand and profit made by the company.
(b) Which component and how many units of the same should be bought from the market to meet the
increase in demand?
(c) Profit made by the company if suggestion in (b) is accepted.
ACCEPTANCE OF SPECIAL ORDER
11. Your company has the following budgeted costs for the coming year :
Material costs 19,80,000 (100% variable)
Labour costs 14,00,000 (70% variable)
Production overhead costs 13,00,000 (40% variable)
Selling and distribution costs 8,00,000 (15% variable)
Administration costs 8,20.000
63,00.000
The planned level of production is 90% of maximum capacity of 50,000 units. Each unit sells for ₹ 155.
Management are worried about the low level of profitability. There has been a request for a special order
to produce 4,000 units at a price of₹ 95 per unit. The Sales manager remarks to you that he does not think
that the company should go ahead with this order as they do not have the productive capacity and even if
they had, there would be a loss of₹ 45 per unit.
His proposal to increase profitability would be to drop selling prices for all units by 10%, which would
increase demand by 15%. Fixed costs would remain unchanged. Note: Costs are either fixed or variable.
Required:
(a) Determine whether the company has the productive capacity to make the order.
(b) Show whether the special order should be given the go-ahead, supporting your answers with figures.
(c) Analyse whether the Sales Manager's proposal to increase profitability is preferable to acceptance of the
special order, supporting your findings with figures.
ACCEPTANCE OF EXPORT ORDER
12. A Co. currently operating at 80% capacity has the following; profitability particulars:
Amount (₹) Amount (₹)
Sales 12,80,000
Costs:
Direct Materials 4,00,000
Direct labour 1,60,000
Variable Overheads 80,000
Fixed Overheads 5,20,000 11,60,000
Profit 1,20,000
An export order has been received that would utilise half the capacity of the factory. The order has either
to be taken in full and executed at 10% below the normal domestic prices, or rejected totally. The
alternatives available to the management are given below:
a) Reject order and Continue with the domestic sales only, as at present;
b) Accept; order, split capacity equally between overseas and domestic sales and turn away excess
domestic demand;
c) Increase capacity so as to accept the export order and maintain the present domestic sales by:
(i) buying an equipment that will increase capacity by 10% and fixed cost by ₹40,000 and
(ii) Work overtime at one and a half the normal rate to meet balance of required capacity. Prepare
comparative statements of profitability and suggest the best.
13. Arihant Industries Ltd. manufactures and sales five different products using one common raw material
which is available according to requirements at ₹ 8 per kg. But skilled labour required for production is in
short supply and is currently limited to 35000 hours per month at ₹ 15 per hour. Variable production
overhead is ₹ 5 labour hour and fixed production cost amounts to ₹ 100000 per month. Variable Selling
and distribution overhead is 10% of sales value while fixed selling, distribution and administration cost is
₹ 80000 per month.
Further details regarding the production and sales of these products are as follows:
Product Current Demand Selling Price Raw materials Direct hours
(units) per unit (₹) required per required per
unit (kg) unit
A 6000 40 1.0 1.0
B 4000 60 1.5 1.4
C 5000 80 2.0 1.8
D 4800 90 2.5 2.0
E 4500 100 3.0 2.4
Required:
(a) Optimum product mix you would recommend,
(b) Profit earned as per mix in (a),
(c) The company has just received an urgent export order for 5000 units of product E to be supplied within
a month. The company proposes to accept the order and if confirmed by the customer, thinks of executing
the same by engaging labour on overtime, paying the normal rate. An extra amount of ₹ 10000 has to be
incurred on production overhead. If the company wants 10% profit on Sales, what price will it quote?
DISCONTINUATION OF A PRODUCT
14. A concern is currently selling three products A, B and C. Because of the trade depression the
management is forced to lower the selling price of all the three products. In a particular year, product B
is sold below its total cost and the management wants not to manufacture product B. The following data
are available for the year:
Product A B C
Production and sale 20000 16000 12000
units units units
Selling price per unit ₹ 25 ₹ 22 ₹ 18
Total cost per unit: ₹ ₹ ₹
Direct materials 10 9 6
Direct labour 8 7 5
Variable overhead 5 5 3
Fixed Overheads (total ₹ 53400 apportioned on the basis of the 1.25 1.10 0.9
total sales value)
24.25 22.10 14.90
Advise the management taking into account the following further information:
a) Discontinuance of manufacture of Product B will not affect the total fixed costs, i.e., the total fixed
costs will remain the same.
b) The capacity released from discontinuance of Product B cannot be used for any other purposes.
SHUTDOWN/CONTINUATION
15. A company manufactures a single product currently operating at 80% level, supplies you the following
information:
Capacity of the plant 20,000 units
Fixed costs ₹ 2,50,000
Variable Costs per unit ₹ 25
Selling Price per unit ₹ 30
Indicate whether it is desirable to close the factory.
16. A paint manufacturing company manufactures 200000 medium-sized tins of “Spray Lac Paints” per
annum, when working at normal capacity. It incurs the following costs of manufacturing per unit:
₹
Direct materials 7.80
Direct Labour 2.10
Variable overheads 2.50
Fixed overheads 4.00
Product cost (per unit) 16.40
Each unit (tin) of the product is sold for ₹ 21 with variable selling and administrative expenses of 60
paise per tin.
During the next quarter only 10000 units can be produced and sold. Management plans to shut down
the plant estimating that the fixed manufacturing cost can be reduced to ₹ 74000 for the quarter.
When the plant is operating, the fixed overheads are incurred at a uniform rate throughout the year.
Additional costs of plant shut down are estimated at ₹ 14000.
You are required:
(a) To express your opinion as to whether the plant should be shut-down during the quarter; and
(b) To calculate the shut-down point for the quarter in units of products (i.e., in terms of number of
tins).
17. A company has three branches, and their summarized particulars are as follows:
Particulars Mumbai Kolkata Chennai
(₹) (₹) (₹)
Sales 450000 400000 700000
Branch expenses:
Salaries, commission & Travel expenses 41000 40000 60000
Advertisement 9000 10000 11000
Other expenses 10000 11000 12000
Central office expenses are ₹ 155000 apportioned to branches on the basis of sales. Gross profit ratio to
sales is 25% at all branches.
Based on the above information,
(i) Prepare a comparative statement of profit/loss for the different branches. Branch expenses are
variable in nature, and nothing will be incurred in Branch if the Branch is shut down.
(ii) Offer your views on the contemplated closure of the branch which shows a loss assuming that in the
event of closure of a branch, central office expenses: (a) will remain unaffected and (b) can be
reduced by 30%.
18. The following data relate to a manufacturing company.
Plant capacity: 4,00,000 units per annum. Present utilisation 40%
Actuals for the year were: Selling price ₹ 50 per unit; Material cost ₹ 20 per unit; Variable
manufacturing cost ₹ 15 per unit; Fixed cost ₹ 27,00,000.
In order to improve capacity utilisation the following proposals are considered:
1. Reduce selling price by 10%
2. Spend additionally ₹ 3,00,000 on sales promotion.
How many units should be sold to earn a profit of ₹ 5,00,000 per year.
SELECTION OF PROPOSALS
19. The following data relate to a manufacturing company.
Plant capacity: 400000 units per annum. Present utilisation 40%
Actuals for the year were: Selling price ₹ 50 per unit; Material cost ₹ 20 per unit; Variable manufacturing
cost ₹ 15 per unit; Fixed cost ₹ 2700000.
In order to improve capacity utilisation the following proposals are considered:
1. Reduce selling price by 10%
2. Spend additionally ₹ 300000 on sales promotion.
How many units should be sold to earn a profit of ₹ 500000 per year.
20. S Ltd. manufactures and markets a single product. The following information is available:
₹ per unit
Materials 8.00
Conversion costs (variable) 6.00
Dealer’s Margin 2.00
Selling price 20.00
Fixed cost: ₹ 250000
Present Sales: 80000 units
Capacity utilisation: 60%
There is acute competition. Extra efforts are necessary to sell. Suggestions have been made for
increasing sales: (i) by reducing sales price by 5%; and (ii) by increasing dealer’s margin by 25% over
the existing rate. Which of the two suggestions would you recommend if the company desires to maintain
the present profit? Give reasons.
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