Management Accounting: Advanced Costing, Variances and Decision Support
What the exam tests in management accounting
CIMA P2 focuses on advanced cost and management accounting: how costs are built up, how they behave, and how that information supports planning, control and decision making. Expect relevant costing, activity-based and lifecycle costing, variance analysis beyond the basic level, budgeting, transfer pricing and performance measurement.
Core rules and concepts
- Relevant costs are future, incremental cash flows. Sunk costs, committed costs and apportioned fixed overhead are not relevant.
- For a special order, compare incremental revenue with incremental costs, including the opportunity cost of scarce resources.
- ABC traces overhead to activities and then to products using cost drivers; it is most useful where overhead is high and products consume activities differently.
- Variance analysis can be extended to planning and operational variances, and to mix and yield variances where inputs are substitutable.
- Transfer prices should motivate goal-congruent decisions; market price is often the starting point, but dual pricing or cost-plus may be used.
- Budgeting should link to strategy; rolling budgets and zero-based budgeting address uncertainty and incremental slack.
Worked example
A company has spare capacity and receives a one-off order for 1,000 units at £18 each. Variable cost is £12 per unit. Fixed overhead absorption is £4 per unit. The order uses 2 machine hours per unit; the machine is otherwise idle. Reasoning: fixed overhead is not incremental because capacity is spare, so ignore the £4. Incremental contribution is (£18 - £12) × 1,000 = £6,000. Accept the order if no better use of capacity exists. If the machine were scarce and each unit displaced a product earning £5 contribution per machine hour, the opportunity cost would be 2 × £5 = £10 per unit. Relevant cost would be £12 + £10 = £22, so the £18 price would be rejected.
Traps that cost marks
- Using absorption cost per unit in a short-term decision and rejecting profitable incremental business.
- Ignoring opportunity cost when capacity is not spare.
- Treating avoidable fixed costs as irrelevant; if the order requires an extra supervisor, that cost is relevant.
- Mixing up planning and operational variances; the planning variance is based on revised standards, operational on actual versus revised.