Management Accounting Project Report: Costing Analysis and Methods

This report provides a comprehensive analysis of management accounting principles, focusing on two key costing methods: variable costing and absorption costing. The introduction establishes the importance of cost accounting in recording, classifying, and analyzing costs to control business expenses. The report includes an overhead analysis sheet, and then delves into variable costing, explaining how variable costs are charged to cost units, while fixed costs are attributed to relevant periods. It details the treatment of variable costing, highlighting the classification of costs and the calculation of contribution. Arguments for and against variable costing are presented, referencing various management accounting experts. The report then transitions to absorption costing, where both fixed and variable costs are allocated to cost units. The treatment of absorption costing, including stock valuation and its advantages, is discussed. The report also presents arguments for and against this method. The conclusion summarizes the differences between the two methods and their appropriateness in different scenarios.

Running Head: Management Accounting
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Project Report: Management Accounting

Management Accounting
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Contents
Introduction.......................................................................................................................3
Overhead analysis sheet....................................................................................................3
Variable costing................................................................................................................3
Treatment......................................................................................................................3
Arguments.....................................................................................................................4
Absorption costing............................................................................................................4
Treatment......................................................................................................................4
Arguments.....................................................................................................................5
Conclusion........................................................................................................................5
References.........................................................................................................................6
Appendix...........................................................................................................................8

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Introduction:
Cost accounting is a process to record, classify, analyze, summarise and allocate the
cost which are related with the process and then develop various courses and process to
control over the cost of the business (Zimmerman and Yahya-Zadeh, 2011). In this report, the
overhead analysis sheet has been prepared along with the evaluation over the variable costing
method and absorption costing method.
Overhead analysis sheet:
Refer to the appendix.
Variable costing:
Marginal costing is a principal where the variable cost of the business is charged to
cost unit and the fixed cost of the business is attributed to the relevant periods of the business
which is written off in full against the contribution of that particular period. Marginal costing
is the ascertainment of marginal cost and the effect on the profitability position along with the
changes in the volume or the output type of the business through differentiating in the fixed
cost and the variable cost of the business (Higgins, 2012). Basically, in the marginal costing,
the cost is classified as fixed cost and the variable cost.
The concept of marginal costing is based on the cost behaviour of a production house
which varies along with the changes in the output volume. In this costing method, only
variable cost of the business is collected and per unit cost of the product is concerned only on
the basis of the variable cost (Ward, 2012).
Treatment:
In the process of marginal costing, the cost is classified into two costs: fixed cost and
variable cost. The concept of the marginal costing explains that the behaviour of the cost
totally depends on the total volume of output of the production house, on the basis of this
approach, it is not possible for the business to identify the amount of contribution per product
towards the profits and the fixed profit (Lord, 2007). Contribution is also a crucial factor in
this approach which is calculated through deducting the marginal cost of sales from the sales
volume of the business.

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In the marginal costing system, it is not possible for the business to determine the
profit per unit of the product as fixed overhead of the business are charged as total expenses
to the profit and loss account of the business rather the recovered amount from the production
costing (Schwartz, 2017). Contribution is just a pool of amount from which the total fixed
cost of the production would be deducted in order to identify the profit or loss of the business.
The main formulas which are used in the marginal costing approach are as follows:
Sales – variable cost + fixed cost + profit
Contribution = sales – variable cost
Sales – variable cost = fixed cost + profit (Kaplan and Atkinson, 2015)
Contribution – fixed cost = profit
Fixed cost + profit = contribution (Gitman and Zutter, 2012)
Arguments:
Various managers have argued in the favour or criticised the approach. As Garrison,
Noreen, Brewer and McGowan, (2010) has said that fixed cost is the period cost in nature and
thus it should be charged to that particular period rather than the level of profitability.
Further, it has been said by Drury (2013) that he apportionment and absorption of fixed cost
to reach if the production house would not exist in this approach and it would be quit easier
for the managers to determine the product cost of the business. However, Du and Girma,
(2009), have criticised the approach and said that difficulties could be raised while separating
the variable and fixed cost of the business. Bromwich and Bhimani, (2005) has also added
that misuse of this approach could outcome in setting the sales price which would impact on
the total recovery of expenses and overheads. Deegan (2013) has also argued that the
assumption of fixed cost to remain same is also regardless as along with the time and
improvement in the sales volume, the fixed cost of the business also improves.
Absorption costing:
It is a principle where the fixed and the variable cost of the business are allocated to
cost nits and the total overhead of the business is absorbed by the production houses on the
basis of the activity level (Damodaran, 2011).
Treatment:

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In the absorption costing, the stock of a production house is valued at the total cost of
production not as the marginal costing, on the variable cost. Thus, the worth of the stock in
absorption costing is always higher than the marginal costing. Along with the improvement in
the sales volume, the improvement in the profitability level is always higher in absorption
costing rather than the marginal costing. It avoids the separation of the fixed and variable
costing which is quite confusing (Davies and Crawford, 2011). The cost plus pricing method
of absorption costing ensure that all the cost of the business has been covered. In this
approach, the overhead are allocate and absorbed by each of the department on the basis of
the nature of overhead and the contribution of each of the department.
Arguments:
Various managers have argued in the favour or few managers have also criticised the
approach. As Brigham and Michael, (2013) has said that stock valuation process of this
approach complies with the accounting standards and the fixed cost of the business are
absorbed in the stock. Further, it has been said by Arnold (2013) that this process avoids the
separation of fixed and variable overhead which cannot be easily identified. However,
Brigham and Ehrhardt, (2013) has criticised the approach and said that in this process, the
fixed cost of the business are not charged against the total revenue of the year in which they
have actually occurred. Blocher, Stout and Cokins, (2010) has also added that this approach
reduces the practical utility of cost data for the purpose of control. Brealey, Myers and
Marcus, (2007) has also argued that the behavioural pattern has not been given any
importance in this process.
Conclusion:
To conclude, both of the costing method is better at different level. marginal costing
and absorption costing, both are fundamentally different in terms of treating the overhead,
appropriateness of decision making, inventory valuation, calculation methods net income etc.
in the marginal costing, only variable and direct cost would be charged to cost per unit
whereas in absorption costing, the inventory of the business is valued on the basis of the total
production cost of the production house.

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References:
Arnold, G., 2013. Corporate financial management. Pearson Higher Ed.
Blocher, E.J., Stout, D.E. and Cokins, G., 2010. Cost management: A strategic emphasis.
Includes index.
Brealey, R., Myers, S.C. and Marcus, A.J., 2007. FundamentalsofCorporate Finance. Mc
Graw Hill, New York.
Brigham, E.F. and Ehrhardt, M.C., 2013. Financial management: Theory & practice.
Cengage Learning.
Brigham, F., and Michael C. 2013. Financial management: Theory & practice. Cengage
Learning.
Bromwich, M. and Bhimani, A., 2005. Management accounting: Pathways to progress. Cima
publishing.
Damodaran, A. 2011. Applied corporate finance. 3rd edition, John Wiley & sons, USA
Davies, T. and Crawford, I., 2011. Business accounting and finance. Pearson.
Deegan, C., 2013. Financial accounting theory. McGraw-Hill Education Australia.
DRURY, C.M., 2013. Management and cost accounting. Springer.
Du, J. and Girma, S., 2009. Source of finance, growth and firm size: evidence from
China (No. 2009.03). Research paper/UNU-WIDER.
Garrison, R.H., Noreen, E.W., Brewer, P.C. and McGowan, A., 2010. Managerial
accounting. Issues in Accounting Education, 25(4), pp.792-793.
Gitman, L.J. and Zutter, C.J., 2012. Principles of managerial finance. Prentice Hall.
Higgins, R. C., 2012. Analysis for financial management. McGraw-Hill/Irwin.
Kaplan, R.S. and Atkinson, A.A., 2015. Advanced management accounting. PHI Learning.

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Lord, B.R., 2007. Strategic management accounting. Issues in Management Accounting, 3.
Schwartz, M.S., 2017. Corporate social responsibility. Routledge.
Ward, K., 2012. Strategic management accounting. Routledge.
Zimmerman, J.L. and Yahya-Zadeh, M., 2011. Accounting for decision making and
control. Issues in Accounting Education, 26(1), pp.258-259.

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Appendix:
Allocation and apportionment of expenses
Overhead
Tota
l
Basis of
apportionm
ent
Machi
ne
Centre
A:
Machi
ne
Centre
B:
Assem
bly
Materi
al
Purcha
sing
Factor
y
Suppor
t
Indirect Wages
and Supervision
4,90
0,00
0 -
£
800,00
0
£
800,00
0
£
1,000,0
00
£
1,100,0
00
£
1,200,0
00
Indircet
Materials
1,20
6,00
0 -
£
400,00
0
£
700,00
0
£
100,000
£
-
£
6,000
Lighting and
Heating
400,
000 Area
£
88,889
£
33,333
£
122,222
£
122,22
2
£
33,333
Property Taxes
800,
000 Area
£
177,77
8
£
66,667
£
244,444
£
244,44
4
£
66,667
Insurance of
Machinery
120,
000
Book value
of
machinery
£
68,571
£
34,286
£
10,286
£
3,429
£
3,429
Depreciation of
Machinery
1,10
0,00
0
Machine
hours
£
733,33
3
£
366,66
7
Insurance of
buildings
180,
000 Area
£
40,000
£
15,000
£
55,000
£
55,000
£
15,000
Management
Salaries
600,
000
Number of
employees
£
176,47
1
£
105,88
2
£
176,471
£
70,588
£
70,588
Total
9,30
6,00
0
£
2,485,0
42
£
2,121,8
35
£
1,708,4
23
£
1,595,6
83
£
1,395,0
17
Re-apportionment of expenses
Overhead
Machine
Centre A:
Machine
Centre B:
Assembly Material
Purchasing
Factory
Support
Total cost
£
2,485,042
£
2,121,835
£
1,708,423
£
1,595,683
£
1,395,017
Factory support £ £ £ -£

Management Accounting
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465,006 465,006 465,006 1,395,017
Material
Purchasing
£
797,842
£
797,842
-£
1,595,683
Total
apportioned cost
£
3,747,889
£
3,384,682
£
2,173,429
£
-
£
-
Calculation of overhead absorption rate
Overhead
Machine
Centre A:
Machine Centre
B: Assembly
Total overhead
£
3,747,889
£
3,384,682
£
2,173,429
Labour hours 800,000 800,000 2,000,000
OAR rate 4.68 4.23 1.09