Cost and Management Accounting
Cost and Management Accounting tests cost classification, the build-up of a cost sheet, and the CVP tools used for short-run decisions such as pricing and break-even planning.
Cost build-up
- Prime cost = direct material + direct labour + direct expenses.
- Works (factory) cost = prime cost + factory overheads.
- Cost of production = works cost + administration overheads, adjusted for opening and closing work-in-progress.
- Cost of sales = cost of goods sold + selling and distribution overheads; Sales − cost of sales = profit.
CVP tools
- Contribution = sales − variable cost. P/V ratio = contribution ÷ sales.
- BEP in units = fixed cost ÷ contribution per unit. BEP in value = fixed cost ÷ P/V ratio.
- Margin of safety = actual sales − break-even sales, or profit ÷ P/V ratio.
Worked example
Selling price ₹50, variable cost ₹30, fixed cost ₹60,000. Contribution per unit = ₹20, so BEP = 60,000 ÷ 20 = 3,000 units, i.e. ₹1,50,000 of sales. P/V ratio = 20 ÷ 50 = 40%. At 5,000 units, contribution is ₹1,00,000 and profit ₹40,000; margin of safety = 40,000 ÷ 0.40 = ₹1,00,000, which equals 2,000 units.
Traps that cost marks
- Treating fixed cost per unit as a constant when volume changes.
- Feeding sunk cost (already-incurred research spend) into a decision.
- Mixing BEP in units with BEP in value, and forgetting that a higher P/V ratio means a lower break-even point.