Management Accounting and Cost Accounting
This domain tests how costs are collected, absorbed, controlled and used for decisions - cost classification, job and process costing, standard costing variances, marginal costing and budgeting.
Core rules
- Classify costs as direct or indirect, and by behaviour: fixed, variable, stepped or semi-variable (high-low method separates them).
- Overhead absorption uses a predetermined rate based on labour hours, machine hours or a similar base; the difference between absorbed and actual overhead is under- or over-absorption.
- Activity-based costing traces overhead to activities and cost drivers, correcting distortions from a single absorption base.
- In marginal costing, profit moves with sales; in absorption costing, profit also moves with inventory because fixed overhead is carried in stock. The profit difference equals the change in closing stock volume × fixed overhead absorption rate.
- CVP: contribution per unit = selling price − variable cost; break-even units = fixed cost ÷ contribution per unit; margin of safety = (budgeted sales − break-even sales) ÷ budgeted sales.
- Relevant costing uses only future, incremental cash flows - avoidable costs and opportunity costs - and ignores sunk costs and apportioned fixed overhead.
Worked example
Standard: 3 kg at Rs 40 per kg. Actual output is 1,000 units, using 3,200 kg costing Rs 121,600 (Rs 38 per kg). Price variance = (40 − 38) × 3,200 = Rs 6,400 favourable. Usage variance = (3,000 − 3,200) × 40 = Rs 8,000 adverse. Net = Rs 1,600 adverse. The usage variance uses the standard price so price and usage effects do not double-count.
Traps that cost marks
- Valuing the usage variance at the actual price instead of the standard price.
- Mixing marginal and absorption profit when stock levels change.
- Including sunk or apportioned costs in a relevant-costing decision.
- Ignoring the opportunity cost of scarce resources.