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MARGINAL COSTING TECHNIQUE AS A TOOL FOR MANAGEMENT DECISION MAKING

(Accounting)

MARGINAL COSTING TECHNIQUE AS A TOOL FOR MANAGEMENT DECISION MAKING

ABSTRACT

This research was aimed at finding out what marginal costing is all about, to evaluate and critically examine the various application of marginal costing technique for decision and to investigate the problems arising from making use of the technique and then to provide possible solution to the problems based on the research findings, and also to make recommendations when if implemented, would help organization adopt the technique.

The data for the study were got from your principals sources questionnaire, library research, oral interview and personal observations.

The data were analysed with percentages while the tests and analysis of the research hypothesis were done using chi-square statistical technique.

This research has revealed that the importance of marginal costing technique ties in the good assistance it may give a solving problems. Marginal costing technique is concerned particularly with the ascertainment of marginal effect on profit of changes in volume or type of output by differentiating between fixed cost and variable cost. It helps to facilitate cost control and it brings out clear and simple terms which shows exact relationship between cost, selling price and volume. It is the researchers belief that those recommendation would help achieve the desired objectives. If properly adhered to by the organizations adopting the technique.

TABLE OF CONTENT

CHAPTER ONE

1.0.      Introduction                                                  

1.1         Statement of problem                     

1.2         Purpose of the study                                  

1.3         Significance of the study              

1.4         Statement of hypothesis    

1.5         Scope of the study                                      

1.6         Limitation of the study                                            

1.7         Definition of terms                          

CHAPTER TWO

2.0         Review of related literature

2.1       Brief review                                      

2.2         Relevant and irrelevant cost for decision making

2.3         Comparison between marginal costing Technique and Absorption technique                                          

2.4         Difference in stock variable in absorption and marginal costing approach.                                    

2.5         Advantages of marginal costing technique

2.6         Disadvantages of marginal costing technique  

2.7         Importance of marginal costing technique         

CHAPTER THREE

3.0         Research design and methodology        

3.1       Sources of data                                                       

-                                  Primary data                                                       

-                                  Secondary data                                     

3.2         Sample used                                               

3.3         Method of investigation                                         

CHAPTER FOUR

4.0         Data presentation and analysis               

4.1       Data presentation and analysis               

4.2         Test of hypothesis                                      

CHAPTER FIVE

5.0         Summary of findings, conclusion and recommendation

5.1       Findings                                                                   

5.2         Conclusion                                                  

5.3         Recommendations.                        

BIBLIOGRAPHY                                                                 

APPENDIX                                                                          

QUESTIONNAIRE

 

1.0       INTRODUCTION

Marginal costing not quote source costing method but a costing techniques used in the routine cost accounting system for the calculation of costs and the valuation of stocks. It is used as basis for providing information to management for planning and decision – making.

R.WARWICK DOIZSON, 1971 defines the term ‘costing’ as the technique of ascertaining costs. Costing is firstly, the technique of ascertaining costs. This technique consists of a number of principles and rules which government procedure of ascertaining costs of different kinds. As the technique is developed and improved so are the principles and rules are modified in accordance with these developments. The techniques of costing, therefore, is never static nor are its rules fixed for all time.

 

Costing is secondly, a process. This process is the day to routine of ascertaining costs, whatever the costs ascertained may be and by whatever means these costs are determined. Marginal costing distinguishes between fixed costs and variable costs.

T. LUCEY, (1993), defined marginal costing as the accounting system in which variable costs are charged to costs are charged to costs units and the fixed costs of the period are written – off in full which is incurred for a period, and which within certain output and turnover limits, tends to be unaffected by fluctuations in the levels of activity (output or turnover).

Marginal costing can also be defined as the increase in total costs resulting from one more unit or batch of units being produced. Assume, a hotel accommodation 400 guests during a particular week and incurred a total costs of N20,000 the average costs per guest would be N50. Hence, if in the following week the hotel accommodated 401 guest and has a total costs of N20,010 the marginal costs therefore, reflects the changes accruing in the variable portion of total cost.

 

Cost unit as mentioned earlier in the definition given by T. LUCEY can be defined as a quantitative unit of production service in relation to which costs are ascertained. The cost unit table used in any given situation is that which is most relevant to the purpose of the cost ascertainment exercise. This means that in any organization, numerous cost units may be used for particular parts of the organization or for different purposes.

There are alternative concepts of marginal cost. To the accountant, cost is average variable cost, which is presumed to act in a linear fashion i.e. marginal cost per unit is assumed to be constant in the short run, over the activity range being considered. Whereas, to the economist, marginal cost is the additional cost incurred by the production for one extra unit.

 

These views can be contrasted in the following graph of the accountant and the economist:

  Accountant’s view                                     Economist’s view

The differences of view point regarding marginal cost per unit results in the above alternative views of a firms total cost structure.

 

The economic model is an explanation of the cost behaviour of firms in general where as the accounting model is an attempt to provide a pragmatic basis for decision making in a particular firm. However, it is likely that differences between the two view points are more apparent than real.

 

It would be important to state here that marginal costing technique in use prior to marginal costing technique was the absorption costing technique/conventional approach or historical method.

The chartered institute of management accountant (CIMA) defines absorption costing as the practice of charging all costs, both variable and fixed to operations, processes or products.

The basis differences between marginal costing distinguishes between fixed and variable costs whereas absorption costing does not.

Both techniques can be used to advantage in particular situations. It is the circumstances of the business concerned that govern the decision of which techniques to use and vice versa. It is possible to use the two methods together; for instance, absorption costing may be used in the records and accounts while marginal costing is for management and pricing decision. An alternative names for marginal costing are the “contribution approach” and “direct costing”.

1.1         STATEMENT OF PROBLEM

This involves the identification of difficulties encountered by making use of marginal costing technique as a tool for managerial decision making. The study is meant to investigate and then find solutions to the problems that are faced using the technique. Therefore these problems are briefly considered as:

i.                      Incapability of marginal costing technique to predict future events during short run decision making.

ii.                    Ineffectiveness and inefficiency of marginal costing technique in day to day running of the business.

iii.                   Inability of the management to reach an effective decision making as a result of using marginal costing technique other than absorption costing technique.

iv.                   Inconclusive decisions reached as a result of using marginal costing technique.

v.                    Inability to recognize fixed cost production using marginal costing technique.

vi.                   The unfavourable nature and treatment of fixed cost during measurement of income in view of determine organizations profit.

vii.                  Inadequate information relevant to enhance the effectiveness of pricing decision.

1.2         PURPOSE OF THE STUDY

The purpose of this study is to find out what marginal costing is all about, to evaluate and  critically examine the various applications, of marginal costing technique for decision making and to investigate the problems arising from making use of the technique and then finally, finding solutions to the problems.

1.3         significance of the study

This refers to the importance and benefits of the research work. This project work, on completion, is meant to help organizations that adopt or use marginal costing techniques as solutions on how to make an effective and efficient decisions will be offered to them. The study will also create a massive awareness on the risks involved by the technique during short – run decision making. Equally, to benefit from the study by students and researchers who will also serve as a source of information for further research.

1.4         STATEMENT OF HYPOTHESIS

A hypothesis is a tentative statement, which is subject to further proof. Based on this, the researcher has generated the following tentative statements for purpose of this study. This study will tests the following hypothesis and then use the result to arrive at the answers.

1.         Ho: Marginal decisions are not positively affected by marginal costing techniques.

Ho:      Marginal decisions are positively affected by marginal costing techniques.

2.         Ho:      Marginal costing technique is not determines the profit of an organization.

Hi:       Marginal costing technique is used to determine the profit of an organization.

3.         Ho:      The application of marginal costing technique has not enhanced effective and efficient utilization of resources.

Hi:       The application of marginal costing technique has enhanced effective and efficient utilization of resources.

1.5         SCOPE OF THE STUDY

This study will cover marginal costing technique as a tool for marginal decision making with particular references to Nigeria breweries and coca – cola bottling company Ninth mile, Enugu branch, Enugu state. The study is limited to these organizations because it is difficult to undertake a study of all the manufacturing companies that adopts marginal costing technique in Nigeria. The companies are chosen on the assumption that what is obtainable from them covers the entire manufacturing companies currently in use of the technique.

1.6         DEFINITION OF TERMS

This involves the definition and giving of brief explanation of most of the terms that will be used in the course of this study.

1.         Short term/run practical decision:  These are decisions, which seeks to make the best use of existing facilities. Fixed costs remains as they are in the short – run decision so that the marginal cost revenue and contribution of each alternative is important.

In these, circumstance, the selection of the alternative which maximize contribution is the correct decision rule. In the long term (and sometimes in the short term) fixed costs do change and accordingly, the differential costs must include any changes in the amount of fixed cost. Where there is decision with no changes in fixed cost, normal marginal costing principles apply. Where the situation involved changes in fixed cost, a more fundamental and to decision making called differential costing is used.

2.         Contribution: The term ‘contribution’ means what remains from total sales revenue after deducting variable expenses, that are to be used to contribute towards covering of fixed expenses and then towards profits for the period. It is the differences between sales and the marginal cost of sales.

Contribution =          sales – marginal cost

Where marginal cost = variable cost and variable cost =

direct labour

+

 Direct material

+

Direct Expenses

+

                        variable overhead

3.         Make or Buy: A make or buy decision arises on a fairly frequent basis. The essence of this decision centers around the question of whether a firm should manufacture a part, a sub – assembly or even a product as opposed to buying same, that is, if the company is deciding whether to meet its own needs internally other than to buy externally.

4.         Decision making: This is an all pervasive marginal task because many decisions depends on financial factors. It is important that the cost accountant is totally familiar with processes involved and the sort of information that should be supplied to decision makers.

Decision making concerned with future and involves choice between alternatives. Many factors both qualitative and quantitative need to be considered and for many decision financial information on cost and revenues is supplied. Relevant information here means information about:

a.                                    Future costs and revenues

b.                                    Differential costs and revenues

a.         FUTURE COST AND REVENUES

It is the expected future costs and revenues that are importance to the decision maker.

 

b.         DIFFERENTIAL COSTS AND REVENUES

Only those costs and revenues which alter as a result of decision are relevant. In many short – run situations the fixed costs remain constant for each of the alternatives being considered and thus the marginal costing approach showing sales, marginal cost and contribution is particularly appropriate.

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