Comparative Analysis of Costing Methods and Budgetary Control Report

This report provides a detailed analysis of marginal and absorption costing methods, comparing their application in preparing income statements and calculating cost per unit across three years. It highlights the differences in profit measurement and cost allocation between the two methods, emphasizing the impact of fixed costs. The report further examines budgetary control, discussing the advantages and disadvantages of various planning tools such as cash budgets, variance analysis, pricing strategies, fixed budgets, flexible budgets, and incremental budgets. It also evaluates the management accounting system's responsiveness to financial problems, ultimately providing a comprehensive overview of financial accounting and management techniques. The report also covers the application of marginal costing in business, and the reasons for differences in profit or loss under marginal and absorption costing methods.

- ``
“Business”

TABLE OF CONTENTS
TASK 1............................................................................................................................................3
P 3 Preparation of income statement and calculation of cost of production using marginal and
absorption costing techniques.....................................................................................................3
TASK 2............................................................................................................................................8
P4 Advantages and used disadvantage of different type of planning tool for budgetary control
.....................................................................................................................................................8
P 5 Evaluation of management accounting system as to responding to various financial
problems....................................................................................................................................10
CONCLUSION..............................................................................................................................14
REFERENCES..............................................................................................................................15

TASK 1
P 3 Preparation of income statement and calculation of cost of production using marginal and
absorption costing techniques
Calculation of opening and closing inventory using fifo method
Particular Opening Production Sales Closing
Year 1 0 40000 36000 4000
Year 2 4000 48000 4000
36000 12000
Year 3 12000 51000 12000
48000 3000
Calculation of cost per unit for year 1
Marginal Absorption
Direct labour 16 16
Direct material 12 12
Direct variable expenses 20 20
Fixed overheads 1.6
Total cost 48 49.6
Income statement using marginal costing method (year 1)
Particular Amount Amount
Sales 2520000
Less: Cost of sales
Opening stock 0
Production cost 1920000
Closing stock 192000 1728000
Contribution 792000
Income statement using absorption costing method (year 1)
Particular Amount Amount

Sales 2520000
Less: Cost of sales
Opening stock 0
Production 1984000
Closing stocck 198400 1785600
Gross profit 734400
Less:
Selling and distribution
overheads 10000
Administration overheads 15000 25000
Net profit 709400
Less: Interest expenses 1000
Net profit after interest and
taxes 708400
Calculation of cost per unit for year 2
Marginal Absorption
Direct labour 16 16
Direct material 12 12
Direct variable expenses 20 20
Fixed overheads 1.33
Total cost 48 49.33
Income statement using marginal costing method (year 2)
Particular Amount Amount
Sales 2800000
Cost of sales
Opening stock 192000
Production cost 2304000
Closing stock 576000 1920000
Contribution 880000

Calculation of cost per unit for year 3
Marginal Absorption
Direct labour 16 16
Direct material 12 12
Direct variable expenses 20 20
Fixed overheads 1.255
Total cost 48 49.255
Income statement using marginal costing method (year 3)
Particular Amount Amount
Sales 4200000
Less: Cost of sales
Opening stock 576000
Production cost 2448000
Closing stock 144000 2880000
Contribution 1320000
Income statement using absorption costing method (year 3)
Particular Amount Amount
Sales 4200000
Less: Cost of sales
Opening stock 591058.82
Production 2512000
Closing stock 147764.71 2955294.11
Gross profit 1244705.88
Less: Selling and distribution overheads 11000
Administration overheads 15000 26000
Net profit 1218705.88
Less: Interest expenses 1500
Net profit after interest and taxes 1217205.88

From the analysis of above calculations, it can be evaluated that in marginal costing
method measures the profit in terms of contribution whereas, the absorption costing measures the
cost in terms of net profit. Further, while calculating cost per unit in absorption costing, fixed
production cost is also taken into account, which is not considered in the cost per unit under
marginal costing method.
Analysis of the above calculation is also interpreting that the marginal costing income
statement provides higher amount of profit than the absorption costing income statement. The
difference is arisen due to exclusion of all the fixed costs in the marginal costing method.
Marginal costing method:
Marginal costing method is a method used in the marginal accounting system in which all
the variable costs are charged to the product cost (Hieu and Dung, 2018). Further, the fixed costs
are treated as period cost.
Absorption costing method:
Absorption costing system is a technique in which each production cost including direct
and indirect production costs are considered as product cost and taken into account while
calculating the cost of production as well.
Difference between marginal costing and absorption costing method:
Key difference between these two methods are as under:
Basis Marginal costing Absorption costing
Meaning It is the management accounting
technique through which the
managers can take decisions
regarding ascertainment of cost and
determination of fixed and variable
cost as well.
Absorption costing is a technique
with the help of which managers can
allocate the cost among various cost
centres and determine the total cost
of production as well.
Profitability Marginal cost provides higher amount
of profitability to the business.
Profitability of the business is
recognised comparatively low in this
method.
Measurement Profit is measured as contribution in
this method.
In absorption costing method, the
profit is measured as net profit for

the year.
Cost per unit Fixed production overheads are not
taken into account while calculating
cost of production(Difference between
Marginal and Absorption Costing,
2018).
Fixed production overheads are also
considered while calculating the cost
of production in absorption costing
method.
Classification of
overheads
Overheads are classified on the basis
of fixed and variable cost in this
method.
In the absorption costing method,
overheads are classified as
production overhead, selling and
distribution overheads,
administration overheads, etc.
Usage Income statement of marginal costing
system are used by the managers in
their decision making process.
Income statement made through
absorption costing method are used
for the purpose of external reporting
by the business.
Inventories Inventories are valued at the total
variable cost of production of the
company.
In this method, inventories are valued
at tota production cost incurred by
the business. Which results in higher
amount of inventory comes higher as
compare to the marginal costing
system.
Use of marginal costing in the business:
Marginal costing technique is adopted by the business organisations as it helps the
managers in their decision making process. Key usage of the marginal costing techniques are as
under:
 Planning for profit: profit planning can be defined as planning for the purpose of
predicting all the future operations of the firm so that the company could generate the
maximum amount of profit from its business operations (Christian, 2018). In the marginal
costing method provides information about the contribution of the business through

which managers can easily determine the change in sales and marginal cost, selling price
over the year which are helpful in predicting the future cost and profit of the business as
well. In this regard, marginal costing technique helps the managers as a planning tool.
 Decision making process: The contribution of the business is the key measure for ther
managers, as with the help of it, they can determine the production mix, sales mix,
variance in sales and marginal cost, etc. all these elements are the major elements
required by the managers in their decision making process.
 Cost control: With the help of marginal cost statement, managers can easily determine
the cost related performance of the business, through which they can make more effective
strategies sand plans for controlling the overall cost of the business. In this regard, the
marginal costing system can be used in the cost controlling procedure by the managers
(Jermias, 2017).
In this regard, it can be analysed that the marginal costing technique is useful for the
managers in performing various managerial functions.
Reason behind difference arisen in the profit or loss under marginal and absorption costing
method
From the analysis of above calculation and study it can be evaluated that both marginal
costing and absorption costing provides different amount of profit. Key reasons behind this
difference are:
 In both marginal costing and absorption costing, there is a difference in calculation of
closing stock. Which h arises the difference in cost of production and hence in the profit
as well.
 Further, while preparing the income statement under marginal costing system, the fixed
cost are not taken into account (Fisher and Krumwiede, 2015). On the other hand, each
cost incurred by the business while manufacturing the products are taken into account in
the absorption costing method. Due to this method, total cost differs in both the methods.
It directly results in occurrence of difference in the profit of the company as well.
TASK 2
P4 Advantages and used disadvantage of different type of planning tool for budgetary control
Budgetary control is a process for the managers to set the financing performance goals
with the help of budgets and compare them with actual performance and make adjustments

where ever required. The planning tools are various types of budgets which assist the process of
budgetary control.
Cash budgets:
Advantages:
 This budget assist in avoiding the debt with setting out the emergency situation which can
arise in the future.
 It helps in identification of the potential deficits as it determine the ability of the business
to meet its immediate cash obligation.
Disadvantages
 The actual availability of cash limits the spending power of the business.
 This budget also causes distortions as the cash flows never match with the profits.
Variance Analysis:
Advantages:
 Assist in finding the remedial actions with compression of actual and budgeted
performance.
 This helps in fixation of responsibilities for an individual, department of the business.
Disadvantages:
 Takes long time to examine the effect of variance and hence the correction actions get
delayed.
 The level and reason of inefficiency in the performance is not determined by this budget.
Pricing strategy
Advantages:
 This assist the organisation to set the prices of product as per the will of the consumers
which they are ready to pay.
 This makes the good appealing to consumers while covering its cost.
Disadvantages:
 This can make the price non appealing to consumers leading to their dissatisfaction.
 The prices can be set such which do not provide the organisation the income which it
requires.

Fixed budget: fixed budget is also known as static budget and is an essential tool to
measure the success of the business. The fixed budgets records all the financial a responsibility
when making the small and large expenditure for the business.
Advantages:
 Allows business to measure both long tern as well as short term budgets. The fixed budget allocates a set amount of money towards essentials such as overhead
cost.
Disadvantages:
 It operates at one level of activity only.
 Do not do consider the significance difference in the activity level.
Flexible budget: is the one which adjust and make changes in the volume to the activity.
This is more sophisticated and useful as compared to the static budgets, it takes into
consideration the changes in the activity level.
Advantages:
 Considers the actual changes in the volumes and activity level. The outcomes are always reals and positives as the actual volume is considered than the
planned one.
Disadvantages:
 Does not take into consideration the actual expenses as when the sales changes cost of
production also changes but the expenses do not change leading t to vary the selling cost.
Incremental budgets: is prepared by using the figures from actual previous data and it is
a traditional method of making the budgets (Incremental budgeting, 2018). This includes slight
changes in the earlier budget of the organization.
Advantages:
 Based on previous financial record so it is very simple to prepare. This require funding form data of multiple years to achieve a specific outcome, therefor
ensure the flow in the budgets.
Disadvantages:
 Only minor changes from the preceding period so actual figures are not considered.
 Managers tend to build too little revenue growth and excessive expenses into incremental
budgets.

Zero based budget: Zero base budgeting is recognized as method of budgeting in which all the
expenditures are justified for each accounting year. Such type of budgeting procedure starts with
Zero as base. It can also be considered to be as management accounting which includes
preparation of budget from scratch. Such type of budget emphasizes on preparation of new
economic proposal, where the revaluation of all tasks are being done. Zero based budgeting
assist manager in identifying the cots effective way of improving activities.
Advantages
 it is flexible and emphasizes on operations. Makes the budges from the scratch.
Disadvantage
 There is high chances of resource intensiveness.
 It is not effective for short term planning.
Variance analysis: is a technique which determines the gap between actual and budgeted
outcomes of the organization (VARIANCE ANALYSIS, 2018). This difference found out is
significant and material to the performance of the firm.
Advantages:
 it is very simple and act as a standard to attain the budgeted performance. This responsibly assist them managers in the performance analysis.
Disadvantages:
 This does not consider the forces of market changes in the analysis.
 The decisions of the departmental wise managers can lead to more consumption than the
actual and this raw information do not taken in account in the analysis.
P 5 Evaluation of management accounting system as to responding to various financial problems
Management accounting is the process of making management reports for the internal
members of the organization like mangers, stakeholders, employees who are directly related with
the organization (Otley, 2016). Management accounting is done to prepare the financial
statements which are used for strategic decision making to evaluate and analyse the information
and make strategic plans accordingly to achieve organizational goals and objectives.
Evolution of management accounting over decades:

 The international federation of accountants, 1998 describes management accounting
before 1950 as an activity which is necessary to pursue for the attainment of
organizational goals and objective. Cost accounting was the essential tool for determining
operational efficiency and financial stability for cost determination and controll of
finances in the business.
Illustration 1: historical evolution of management accounting
(Source: historical evolution of management accounting, 2015