MODULE 4

MANAGEMENT ACCOUNTING
TOPICS TO BE COVERED
• Scope, Purpose of Management Accounting
• Cost Volume Profit Analysis: Meaning-
• Methods of determination
• Applications OF C-V-P
• Managerial Decision-Making-Make /Buy etc.,
• Short-run Decision Analysis
• Decision situations: Sales-volume related,
• Sell or further process,
• Make or Buy,
• Operate or shut-down.
MANAGEMENT ACCOUNTING-MEANING &
DEFINITION

• It is a study of managerial aspect of accounting.

• It is helpful to the management in formulating policy, control of

execution and appreciation of effectiveness.
DEFINITION

• According to Robert N. Antony, Management Accounting is concerned

with accounting information that is useful to management.
• According to Anglo American Council of Productivity, “Management
Accounting is the presentation of accounting information in such a way as
to assist in the creation of policy and the day-to-day operation of an
undertaking”
SCOPE OF MANAGEMENT ACCOUNTING

• Financial Accounting

• Cost Accounting

• Budgeting and Forecasting

• Inventory Control

• Reporting to Management

• Interpretation of Data

• Internal Audit

• Tax Accounting
PURPOSE OF MANAGEMENT ACCOUNTING

• Increases efficiency
• Proper planning
• Measurement of performance
• Maximizing profitability
• Services to customers
• Effective management control
MARGINAL COSTING

• According to the official definition "Marginal cost is the amount at any given volume of
output by which aggregate costs are changed if the volume of output is increased or
decreased by one unit, in practice this is measured by the total variable cost attributable to
one unit.

• " Marginal costing is defined as "the ascertainment of marginal costs and of the effect on
profit of changes in volume or type of output by differentiating between fixed costs and
variable cost".
APPLICATIONS OF MARGINAL COSTING
TECHNIQUE
• Evaluation of performance
• Fixation of selling price
• Fixing prices below the total cost
• Maintaining a desired level of profit
• Decision involving alternative choices
COST VOLUME PROFIT (CVP) ANALYSIS

• The analytical technique employed to study the inter-relationship of cost of production,

volume of sales, and selling price, and its impact on the behaviour of profit is known as
Cost-Volume-Profit Analysis.
• Thus, CVP analysis studies the relationship of cost-volume-profit at different levels of
production.
• In the short run, profit planning can be made with the use of CVP analysis.
• CVP analysis helps management in deciding the quantum of sales required to be made to
avoid losses as well as reaching a particular level of sales to achieve the targeted amount
of profit.
• CVP Analysis is also know as Break-Even Analysis.
BREAK-EVEN ANALYSIS

• Break-even analysis is an analytical technique used to study the relationship between the
total cost, total revenue, total production and sales volume, and profits.
• In the narrow sense, it is concerned with finding out the Break-Even-Point (BEP) i.e,
level of activity where the total cost equals to total revenue or sales.
• In the broader-sense, it refers to the study of relationship between costs, volume and
profit at different level of sales or production.
ASSUMPTIONS OF BREAK-EVEN ANALYSIS

1. The total costs may be classified into fixed and variable costs. It ignores semi-variable cost

2. Fixed cost will remain constant and will not change with the change in the level of output.

3. Variable cost will fluctuate in the same proportion in which the volume of output varies

4. The selling price of the product is assumed to be constant. The volume of sales and volume of
production are the same, so that there is no operating and closing stock

6. There will be no change in operating efficiency.

7. There is only one product or in the case of many products, product mix will remain
unchanged.

8. The cost and revenue functions remain linear.

9. The factor price remain constant.

10. Change in input prices are ruled out.

MEANING AND DEFINITIONS

• Break-even point is the base of Break-even analysis. Break-even point is that level of output in which
total sales revenue equal to total cost. This is the point of no profit or no loss. In other words, this is that
point where net income is equal to zero. It can be defined as follows:

• a) According to G.R. Crowning Shield. "Break-even point is the point at which sales revenue equal to
the cost to make and sell the product and no profit and loss is recorded”.

• (b) According to Charles T. Horngren "The break-even point is that point of activity (Sales volume
where total revenues and total expenses are equal. It is the point of zero profit and zero loss

• (c) In the words of Keller and Ferrara "The break-even point of company or a unit of company is the

• level of sales income which will equal the sum of its fixed costs and its variable costs.

• (d) In simple words, Break-even point is that point of production where total costs are recovered.
BREAK-EVEN CHART

• The break-even point can be easily illustrated by means of a chart.

• A break-even chart is a pictorial or graphical representation of the cost-volume profit
relationship and Break-Even point.
• According to Dr. Vance "It is a graph showing the amount of fixed costs and variable costs
and sales revenue at different volumes of operation. It shows at what volume the firm just
covers all the costs with revenue or break even."
BREAK EVEN CHART
MARGIN OF SAFETY

• In the chart, we find that the actual sales value amounts to Rs. 10.000
while the break-even sales vale is only Rs. 4.000.
• The difference of Rs. 6.000 is called margin of safety.
• Thus margin of safety is the excess of actual over the break-even sales.
• In this context, break even sales figure functions as a red signal i.e., actual
sales fall below this minimum amount (Break-Even sales) the company
will incur losses
ANGLE OF INCIDENCE

• Angle of incidence indicates the rate at which profit is earned in an

organization after crossing the break-even point.
• In a break-even chart, the angle at which the sales line cuts the total cost
line is called the angle of incidence.
APPLICATION OF BREAK EVEN ANALYSIS

• 1.Calculation of profits for different sales volume

• 2. Calculation of Sales Volume to produce desired profits
• 3. Calculation of Selling Price per unit for a particular Break Even Point
• 4. Determination of Margin of Safety
• 5. Calculation of BEP in terms of Capacity
• 6. Calculation of Sales Volume required to offset price reduction

•
P/V/RATIO

• P/V Ratio indicates the relation between the sales value and its
corresponding contribution.

• It explains the rate at which sales are contributing towards the recovery of
fixed costs and profit.

• A high ratio means that the break-even is achieved soon after which profit
is earned at a higher rate and a low rate implies the opposite
USES OF P/V RATIO

• It helps to determine the

• Break-Even point
• Profit at any given volume of sales
• Sales volume required to earn given amount of profit
• Profitability of product, etc.,
HOW TO INCREASE P/V RATIO?

(a) Increasing the selling price per unit.

(b) Reducing direct and variable costs by effectively utilising men,

materials, etc.

(c) Switching the production to more profitable products showing a higher

P/V ratio.
APPLICATION OF P/V RATIO

• (a) Calculation of Break-Even Point (BEP)

• (b) Profit Planning and Maintaining a Desired level of Profit
• (c) Calculation of Variable cost
• (d) Margin of Safety
SHORT-TERM DECISION ANALYSIS-MAKE OR
BUY DECISION

• A factory sometimes may produce some components in the factory itself or purchase the
product. In this case if marginal cost of manufacturing is more than the cost of buying, it
is worthwhile to purchase the product. If the outside price of the component is higher
than the marginal cost of production, it is worthwhile to make the product.
ACCEPTING FOREIGN ORDERS OF BULK ORDERS
OR SPECIAL ORDERS POR EXPORT ORDER

• Bulk orders may be received from large scale purchaser or wholesale dealer asking for a
price which is below the market price.

• This calls for a decision to accept or reject orders.

• The marginal costing recommends for accepting the order provided the foreign price
more than the marginal cost, but if it is less than the marginal cost, reject the order.
PROBLEM OF KEY FACTOR OR LIMITING
FACTOR

• Key or limiting factor is a factor which restricts or limits the production. Examples, non-
availability of materials, labour, plant capacity, and sales. Under such circumstances the
profitability is to be calculated as follows:
• Profitability – Contribution
Limited or Key factor
CHOICE OF SALES MIX OR PROFITABLE MIX

• A concern which produce different kinds of product, has to decide in what proportion
should these products be produced or sold.
• The decision is taken on the basis of contribute on made by different mixes of different
combination of products under marginal costing
THANK YOU