Determine Profit in Long-Term
To demonstrate the point about profit in the long-term, let us assume that a company sells and makes a single product. There are no opening stocks of the product at the beginning of period 1, for that the variable production cost is Ksh.4 and the sales price Ksh.6 per unit. However fixed costs are Ksh.2, 000 per period, of that Ksh.1, 500 are fixed production costs,
|
|
Period
|
Period 2
|
|
Sales
|
1,200 units
|
1,800 units
|
|
Production
|
1,500 units
|
1,500 units
|
What would the profit be in all period utilizing the following methods of costing?
a) Absorption costing. Suppose usual output is 1,500 units per period.
b) Marginal costing.
Solution
It is significant to notice that even if sales and production volumes in each period are different and then the profit for each period via absorption costing will be different from the profit via marginal costing, over the full period, net production equals sales volume, the net cost of sales is the similar, and hence the net profit is the same via either method of accounting.
a) Absorption costing: the absorption rate for fixed production overhead is,
= £ 1,500/£1,500 units
= £ 1 per unit
|
|
Period 1
|
Period 2
|
Period 3
|
|
|
Ksh.
|
Ksh.
|
Ksh.
|
Ksh.
|
Ksh.
|
Ksh.
|
|
Sales
|
|
7,200
|
|
10,800
|
|
|
|
Production costs
|
|
|
|
|
|
|
|
Variable
|
6,000
|
|
6,000
|
|
12,000
|
|
|
Fixed
|
1,500
|
|
1,500
|
|
3,000
|
|
|
|
7,500
|
|
7,500
|
|
15,000
|
|
|
Add opening stock b/f
|
-
|
|
1,500
|
|
-
|
|
|
|
7,500
|
|
9,000
|
|
15,000
|
|
|
Less closing stock c/f
|
1,500
|
|
-
|
|
-
|
|
|
Production cost of sales
|
6,00
|
|
9,000
|
|
|
|
|
(Under-)/over-absorbed overhead
|
-
|
|
-
|
|
|
|
|
Total production costs
|
|
6,000
|
|
9,000
|
|
15,000
|
|
Gross profit
|
|
1,200
|
|
1,800
|
|
3,000
|
|
Other costs
|
|
500
|
|
500
|
|
1,000
|
|
Net profit
|
|
700
|
|
1,300
|
|
2,000
|
b) Marginal Costing
|
|
Period 1
|
Period 2
|
Period 3
|
|
|
Ksh.
|
Ksh.
|
Ksh.
|
Ksh.
|
Ksh.
|
Ksh.
|
|
Sales
|
|
7,200
|
|
10,800
|
|
10,800
|
|
Variable production cost
|
6,000
|
|
6,000
|
|
12,000
|
|
|
Add opening stock b/f
|
-
|
|
1,200
|
|
-
|
|
|
|
6,000
|
|
7,200
|
|
12,000
|
|
|
Less closing stock c/f
|
1,200
|
|
-
|
|
-
|
|
|
Variable production cost of sales
|
|
4,800
|
|
7,200
|
|
12,000
|
|
Contribution
|
|
2,400
|
|
3,600
|
|
6,000
|
|
Fixed costs
|
|
2,000
|
|
2,000
|
|
4,000
|
|
Profit
|
|
400
|
|
1,600
|
|
2,000
|