Costing is the process of estimating and recording the total costs incurred in producing and delivering a product or service, including the value of the resources consumed.
The resources can be human, physical, natural and artificial, and the cost can be financial, economic, and technical.
In this post, we are going to discuss the difference between two costing approaches in cost accounting, namely marginal costing and absorption costing.
Both approaches differ regarding the treatment of marginal costs. We will discuss more specific details about both approaches and will compare them with each other.
Marginal costing is a technique of accounting that may be defined as “the ascertainment of cost by differentiating between fixed cost and variable cost of marginal cost and of the effect on profits of changes in the volume of the type of output”.
Marginal costing distinguishes between fixed costs and variable costs as conventionally classified. The marginal cost of a product is its variable cost.
Under marginal costing, variable cost is charged as the cost of production and valuation of stock of work-in-progress or finished goods is done based on variable cost. The following are the elements of marginal costing.
The following are the elements of marginal costing:
- All elements of costs are classified into fixed and variable costs.
- profits are calculated by deducting the fixed cost from the contribution.
- This technique is used for cost control and decision-making.
- The profitability of various levels of activity is determined by cost-volume-profit analysis.
Absorption costing is also known as financial absorption costing. The basic principle of Absorption costing is very similar to that of costing, which is recording and estimating all the production process costs.
However, Absorption costing is much more specific because it focuses on the financial performance of an organization. Absorption costing takes into account the following four aspects:
3) Fixed and Variable Costs.
Difference between Marginal and Costing Absorption
The difference between marginal costing and absorption costing
|Marginal Costing||Absorption costing|
|Under this method, only variable costs are charged to production.||Under this method, both costs fixed as well as variable costs are recovered from production.|
|Inventory valuation (including work-in-progress and finished stock) is based only on total variable cost.||The valuation of inventory (including work in progress and finished stock) is done based on fixed cost and variable cost.|
|Marginal costing is used for short-term decisions.||Absorption costing is used for long-term decisions.|
|Marginal costing focuses its attention on selling and pricing aspects.||Absorption costing focuses its attention on production, operation or process.|