AsffAnftGB& m Mmmwm castas m cm*imp m TUS mm Mm m Imms* OOSSSHG T W mst m F » B A S I S O P

mid mmmmmtm m t® fos*$ mvmm qw N S M M S A W M W

A**S0VSI>T

, *_&<&<'-*. / F J O P F F O F I I I ® ?

M f t . f F k f r .«* / IMMF

i-~\MjUifrLULlL^ TF TFA* S M < I I I « T I S E B M L

Proaontod to ttao Gounoll of tfcas

Worth Toxaa Ftata Collogo la tart1*1

Fulfillment• of tb» Roqulroaotita

For tto® Degree of

By

®*ynt# Mwm»0 £• B» A.

Bon ton, foxm*

May, 1955

t m m o f cowrsmes

Chaptar Pag®

I , IlKfROXWCTIO* 1

Statement of %hm Prob la* Background o f tfas Pr©bl#» Bmal«*•»« Condit ion® • O l f l a g Bia« to tb®

Cos t ing Protolam Basle f r i ^ l a g Procedturaa Usiiag t t » fforaml

C«st£ag Matted

I I . f i l l *HS&8£ OF ® f l RATE OR VQWkL m&T S A f l t - Mm m m m m t , e o s f i i ® . . . . . 11

Ttui Warsml $ * t * Thmvy Objaet ivas o f Hoar fiata Coet ing D e f i n i t i o n o f Term*

fte® Theory of ffomal Capacity M o r n i l Capaci ty *>«flnad T rans fe r o f Sqifdpwmt beteeen P lan ts Ih r ts t C s p t s i t j Operat ing Budget Sag@d ©a Jforstel Capaolty M a t a r l a l Costa Operat ing Ceatera and Factory Hour i lstes Chargeable Monr Rat io Mm&'t S a i l i n g Expense fiat# ii@»®ral Overhead l a t e

ffee Msrg ina l Cost Theory Marg ina l Cost Def ined Ob jec t i ves o f Marg ina l Cost ing

III* FBE TSCHMIQCTg OF SO HMAL M B MAFTCKSAL SOSHIA • • SO

Sonaal Cos t ing Teelmlqiae Marg ina l Coat ing T®etol%ti©

IT.* fsi mm OF wmmnrn* mm w PHI C M A 44

Pr ice Datarminot 1on a f a r t o f Bmainaaa Management StrwBsry

t • F iacg © i f S f t n i A f i o i 9sxso jurqimai* o o s s i a • . » 08

Marg ina l Co at l a g f o r P r i c i n g Conclaelons aod KeeosaBendatlons

l i t

CHAPTER I

IHTUODBCTIO*

S ta t aasn t of tha Problas#

For k i m jraara thara haa baan a i?a#®|piis®d naad f a r • tha

davalop«ant of a eeet accounting aystasi *M«h ©o«M# with

r e l a t i v a l ? minor variations, fe® adoptsd ®n a teeli of p r ioa

datazttimation fey most eosqpanlas is tha business ferae la*

dustry. With t he m&rm nea r ly aeemirate knowledge of produc-

t i o n eoata made a v a i l a b l e , eaeh eowpaay w©«lil aonaeivmbly

he in a b e t t e r p o s i t i o n to detarariLne vhether the a e l l l n g

p r icaa of i t * products are fair end aqu i t ab le to its @u«~

t M » w and to the eawpany i t s e l f . Moreover, « f u r t h e r

davalopoant of sost consciousness should help tin* aa»«gaiiant

of eaah aonpftny t o decide which, If any* - of i t s product*

i s t o o unprofitable to to® continued.

fM« t ha s l a l a deelgned t o asphaalsa wad i l l u s t r a t e

t h a t marginal costing i» a tool of management that earn

s*fce e l e a r tha boa, when, wfcgr, and wharafor of the prloa

determining affort and its r e s u l t s * -

Background of tha fratelavi

Tha d a s i r a b l l i t j r of undertaking a planned progress of

research wi th tha g»tl of developing a ss®re effective east

ft

«y*t«a for tfa* laduttry w»« mllifi %f tfe# B««inf»» F&rraft

Institute, wM@h la 1968 ««nd,fil9Btd ife# fim ©f Price,

WatarhouM & Company to plan Ami pttcal a cost systam which

could fee «<t&jrt*6 fey ita »sfeer« • fh# ayat as pmpmvm& by

trie©, Baterhowe % ©«a®p«sy mi distributed %@ nil members

for tbalr study «od e0w»#ist# la 1958.

Tha BttiiMti Ferwi X&atltmtft# an asaoeiatlcm ©f awon*

faeturara ©f Manifold tms las as funna, was originated is 194*,

far tha p*r$#*a ©f axehsaigitig ««9»r^l» statistical

tlon about tha o^r«ti«at which wawM parstli m&&hsrs t©

maaaura tha affSetlranaas wt thai* MingrfttttoMFiiiff {Kraeacsss*

Xxt If§9 thar© »«r® fc*ra»ty«thraa voting mnfear aampaalas•

kwmmg tha MmOmm ara tha aost important firm of tha print*

lag ia&gstry, tush aa tha Baltlaora SaXasbaolt Gottpaay, ?hs

Yatioosl Carhoa Coated Bapsr Coapaagr# Tb» Sisalby Saleebook

Co&paay* Moors Bmslassa' For*#, la©.# Ware# l&sarjp&ratsd*

%py fia^istar Company, and Phillip Bano Incorporated* ¥hs

of tasiiiars of this assselatlsa la father 11-

lustratad fey tha fact that #f ths 117 fflilll©» dollars

C0a»arelal# fasfsld, and fsdsrsl $ovsFMM>afc sala® made daring

19SS* tha asanas®!*# rassivad IS p f ««ik or IM alHi«i dollars*

Xm <launt«ryt 1983, a *®ati»i »f tha Business Forma

fastituts mm hold in &Mmtand, ©hi# to 41 trots tha «oit

aysts* davalopad hy Pries* Wafartens® Company. As affori

*** wads t# iron mat sons of the 'ofcjBetiO'fW raised toy aaai-

%ar> companies t© installation, »f the plan* Of the tUrtHi

mmbmr eoaspanlos attest&lttg the meeting only tǤ# The Samiltoa

Autograpbla ®ogi iter Company wad The Belfciaiore Salaabook

Coqpaagr, ware at that tlsse -aaiag atan&ard sosfc ayeteuMi {or

nrifttl«m of tbaa) felt that ifeay eon Id adept tfc# p»o-

poaed system.

One aiembor,, Xoe?e Bmari&aas Foima, In»*» «ta%#€ that the

iww coat sy steai m M b® - imafcaXle<a ©» a pilot baaia In ©na

•f the Moor® plant* Is the last ©re Divialom* m& &#feh the

#M and. mm eoat eyetern mil# b® »iaia%a.ij*e€ for abevt »

y«tr. ffe# fim «U« expreeaed the ©piaioi* thai the prepeeed

eeat system wmW, sot fit ltt eperatlett wit boat vaetlng W.#-

torleal data, aeoscHnalated thremgh tin year#, baaed on normal

coating. ffea I m of tlsoae reeavd*# plus the tiai a®i«t »aS|r

aaeeeaary to lnatall the were t# the® it* salm die-

edventegee* Other ®«satoert «xprea»<i aiwllar fueling*»

Hoore Wm9lmm Fomi, Ia©.» taatalled the ayateai la wm: ©f

It® planta fc«t dl aeontlnved It after approximately tvtlvt

months of operation* :

fh« Butlwai turn* Xnetltnte tea reported no further

davelopasenta la a&optioa of the plan fcy other m»?aheFa«

taerous reaeena M*# "been advaneed for th# ffellnre of fth#

member eoapanlep to utilise the reanlte of the M&m

of ttoaaa appear to refiset eSrereely on the merit a of tfee

wofk aa presented, v M d wae a very earefally prepared

Otandard ooat ayatem, aontalnlng amfHoieat schedule# to ;

pan&t * ©onprohansiira review of any jsaaafactwiiig unit. The

manual was wall pmmmaM «nt« was la ISaa witfe a # at

af tii» last1tats*

failaro ©f tfee Baslnsss Forms Xnstitata to

It# deeirad $ m l mmj b« attributed to tfca fullowing cause#:

(»i the failaro af tfa» Bttsinsss Fasms Xmatltttta to dattadaa

properly tha aaad of t l» member companies, and (b) tfe#

ffti5.nr# of tb* aaafear easqpaalsa af tho I n i t l t i t * to praparly

iaf©r» that* ataapiag eosH&ittaas of tho study's iBjpopteBM

a»d *»*&** I t appaars tteara wae ao maad by tfea master aai#»

P « I m f®J* ths d#t«il«4 ataadsrd o©81 aystarn pre abated In®

tin®a# ami tbs la tha almitas of t&a Xastitwta giva*

®*«ry ladiaation of th i s shaaklag raalisattaa*

8f«wber« ©f tfea Iastitwta faal ttest tlmm 1*.# baaa a

dafiaita *t#*iid®rata»dliag and that tfealr needs wara not

proparly avalaata*. A partlaa af this d i f f i e a l t y mwtmm* b«-

eawsa tba Xnstltuta Is not la 4 1 » o t aantaat witU fc&© aatnal

problems af mmmtmtnrlng*

*• * awaba* af the audit dapartaaat of a Item* aams-

facta par* la 1952 ft&a fhasls wrltar uadartaafc to dataiwiijia

«hat wmttfaatwar# of basinoss faiwa mm m$m *• * basis

fa* pricing* A qaaatiaaaalra wa# daaigaad to aaalallata fell®

aaaassary p?i®a Information.

l a tha aarly part of 1953 this qaaatiannsira was aailad

to alxty-taa of tba printing ooapaaias l a tha felted Statas*

§

fh* firsts to tm qnmMtiammtm mm de-

t«radn«d toy

|*| K*n*faotxjr«r« of the eo»pl©t» lta*y !• .

beak** w» si li t er wippll**, and

interfoW «a* la%#rl*«v«d product®„ m&

<b) «h»thar tfeey w«r@ * ffcctor to m im %

wmvlmt. fl» wettlmair* *«# <Iiiri«t®a im.fe© ttoee a»lm j»rfc«*

la) the typ* ©f «o*t mjetim mm ©mploytd by fcb« eo»p«ny»-

i . «,f J®l» c#«t» px»oo*«8 eo«t# standard «#«t# of .

•nj other coadJlmtloa,

ffe® art)a@i «««& ia pr«p«rla« p*b2M*4 p?i@#

i . • », • *t«&d»r4a, special j@b ee«t w #*w» •

form ©f ttss B«€eam ®»tho&, «®ft

{©} Slai w»©€ ia d,®teraiii.»tl®& of prlo©« for

•poelftl or#®**# ©f dealer, «r f#<ter»l *

g©¥«m&«sit taurine** •

XtMi (•) «pMd«l ord*r*» r#pr«*«»ts fett«rlxs.«8s sought t©

•bsarb tb® »XM«I e*p*olty over wh»t amy be ©«nald*r«d «•

pr sdwfcl ® otpteit7< Prising of th®s« orfltM aonftlly

gives primary eemsld®rati oa to overhead *ith th« profit ®«rgia

being a eeeoiatfisry factor.

Of the fixtylv* qneetlannftire* mttleA cwt, replle*

wer® *»•©»!v«ft frm flr®*» i« alweat m®tf in-

stance til® answer* referred the writer te the it**ija**s For**

Institute for fnrther tafowmtion*

¥h» forwt divlalon of tha printing industry me€m a baa la

of da t» mining tha soiling prloa of varlona prodnota to oos*»

mercial en® tower a* or g«r®mmmm% aganoXa* wtoar# tha

quantities or tha conpatltlon la aneh that spaoial prlalng

la warranted* the to lane la c«oh that m o w r y of oi«rb»«i

fins ft smmll profit la aonalderad adequat® »nl tha nianber of

oonpatltora la Xinlted* Xowaver, em the aamlX volume baaineaa,

the priwarj concern of prlelng la to knap the aoootmt* that

hatr® boon aold over t)» ft era* Oompetltion ©a tin® assail

•oXtsae Xevel haa beoone the nain oauoe of worry froai a pric-

ing standpoint and *a» brought about by the davaXopaiSBita

dtscueeed below.

Bnalneaa Gondii lotia Olftag Klae to the Costing froblea

After World *ar IX the heavy imimstry of tbla eonntry

m m faced with the teak of finding t»oii-®iXXtary piodmotlon

©Mora to keep Ita extended production lines buay* For

the fir it fcl®e la hlatory 1% became possible to purchase

printing equipaaent, aapoolaXXy preeaea, with the only re-

quire no at balag auffleieat capital*

fh® now preaeee offered woro not the iitaadiird dosign

need prior to tha war but were of tba latest and boat that

engineering know-how could develop* frier to 1948 tha »o«t

•odarn and effloient equipment eould bo obtalnad only by

thoae aonpanlaa flnanaiaXXy abla to Maintain tbair own re-

search, engineering, and nana factoring faolXltiaa to

apeelalXy sake the prcasea*

the mm awal laMli iy ©f •Qnlgmfe fctoa *!€•

equipment d i ^ t r l t | te®t»#©a the small Jolf p r i n l t r ftomft

l a n»wly m r y town aad t i e U r g t volume piwtaM** Today

tto# J ok p r ia to r «*n purchase equipment necessary to produo*

the f a a i l t f aad typo ©f p r f a l l s g tat provioutly **a inoapafcl#

®f handling* Yfc» a»al l $m p r i a t a r w » ©a» not only prodiae#

t M wife, tout t » tba majori ty of i M t t n i t f A«t to lo* flxa*

ofaargaa and owm®r-»ep*rft t •& •qplfwsafc l a ©as m d e i t i d *11

oosapatltloiu

lAP«i pissdaotloa jriatoi*# hive now loafc t fetal i* aquipment

advaataga, and itaa oaly means avallabla to maintain tba l r

posi t ion i a tha market i# a reduction i a eos t s . f M a r#«

$a iw« a knowledge* of what coat a raa l ly mm and i&» ab i l i ty

to r a f l a e t ttoaaa eoata in' current sa i l ing prleaa# 'flss

majority of 3*pg« pr ia ta ra toad alraady £ r o l * j » d ©oat #y«-

tame • Za many caaas, tfa® ay* tama war* ian ta l lad during

tto* war to *»t t«fy ragttlatioaa to otoiaia gotramaaat *Ri«ia#aa*

Maw&ver, price tmmmm impoead aadar mmv-tiam ragalatloa#

bad la rgaly a l tn laa tad tha iWMii l ty fo r toavlag ««r*9afc

aost* availa$la« Bat with Its* removal #f pr iaa control#,,

t&a iMporfeaao® of cmrraat ooata mmm agaia was e»pJ*»»l*#d.

Apparently the only method of cost accounting available t o

ftwlih tfe# duairad eoat i a fo rs» t ioa was ttas* one t r ad i t i ona l l y

m»ad by ttoa iadiuat ry--*the tioiir rata* or *a© ratal eo stiag*

m®thod»

§

Baslo P r i c ing Proeodixroo M a g

ths Sormal Cost ing Hot hod

tho largo product ion p r i n t e r fotifid tha t tad©!* tfao wfeotar

rate1* or *normal eostittg® method h i s d i r o o t cos t s woro ©or-

» e t , bnt tho awmnt ©f f lxod <xptM»t *fe#©rfe«Ht and tho p r o f i t

w » • • • r a g e * basod on a normal oapaoltjr m d e e i l d w p y f ? o s

one oxtroa* t o tfc# othor* This was o spoo la l l y undoalrabl®

whon b idd ing oa go*erna«rat w l i a i sub jec t to fee Ronegotiat ion

*©t of 194?. Tho p r i n t e r d id not km&w u n t i l t f t « r tho ordor

w&s saurofaettirod and tho cos t s woro eoaqpllod what h i * p r o f i t

would bo*

Ittdor tto# *noff«*tl m e t i n g * sys t a» , th# p ro iao t i ' t o ea*

p a a i t y of tho p l a a t l o basod on a t w o - s h i f t pro*# ®p#r»tl®a.

Departmonts o thor than prodta&ing, sueh a s ©oatposing, ea»era#

pas to -«p , earboa wmmfmttm and fo ld ings Mad**?, and

•h ipp ing dopar taonts whloh a ro not oa a two-gfci f t ope ra t ion

mm ad jns tod t o tho pros# eapse i ty l o v o l . f h i s I s oa l lod

"normal production* oron though I t i s probata* tfcat there i s

00 t r u e *nor&al .* ' The. woaknsasos of tho ttk©*ir r a t o * method

©an l a rgo ly bo t raood to t h i s as a c t i o n of m *mmmlm

capao i ty .

t h i s m y b® I l l u s t r a t e d by asswjalng t h a t tho p r l n t o r

has a l a rge ordor f o r whleh ho has detorwlnod tho d i r e s t

M a t e r i a l s , d i roo t l a b o r , and a l l o t h e r expenses t h a t va ry

d i r e c t ! j w i th production m d la f aced ©1 fch tho astotu&t of

f i x e d expense and p r o f i t t o bo i n e l u i e d l a the s o i l i n g p r i m *

I f t he eompaay i s a l l o o a t i n g e e s t a oa tho "Wmr r a t o * o r

*»emal m<%tn l»a» 1* ttot d rat® Is dttigaad t» spraad

fluad axp«i*s« •« tfaay *111 be ateaartsad slam fch# taatury 1*

©p#rating at the twa-*hift l m l . If tiia If aparat&if

at * t&*aa-aM£t ar »»e-ahiffc laval, or if i t la &av ©parating

at a two-shift aapaelfcy but aseordiag t® tli® plamlag ««&©&»!«

It id 11 b« at * thr@#»#M'ft ©r oa®*»Mft k t t l whan tte »r£*r

4* j&ada# irkat Metis of absorptiaa for t£a&«« ftasad M9*BI««

will be a#edt f&ar® i* only ©a® a&swar tt»d«y tfa» waortal

•«oat* aatteod, tua tw#«»Mft baiii t t atlliaad ,1a tfea "oomil

coat* rataa nut atlll b® wad*

*h» ©rial? *b«a will - be fast to top aanagaawiit, *M»k

will *ary likely aat tl» jpt@t#d' aalllag priea at A 1#%#! i t

faalt will seeura the order* TM* laavaa tHui aaot M#®i»t®»t

witfe *- two-fold jab that may to® alatpat lmp®#£lbla* f'irat,

lis srasfc adjuat M» tw»»«Mft mmema.ln; m that la«

my m®w@Mm the *aotaal* job ooata with tfaaa* prepared %

tfe* aatlnatiag or prialag dapartaast* Itxt* laa swat try te

aaeesmt for tha dtffwrvwitr' liatwaai* the f i*@d axpaat#* absorbed

*&A tfea estimated expense t*f aaki&g an adjustment for m*

over-absorbed or :ua*i®r-abs©rbad flxad ©varfea»d» Tha ba»i$ ^ •

mmmmUm 1» *ta»* t® rallaw management ©f tfe® mmmnltj

®f reviewing all wiotattoaa and tb» ©©sfe aeatmafeaiit of tht

*b«arptioa' adjuatatiift, • ' ; ( • . • •' I

^©r * printing plant to prapara tour rata# or normal j; eoat vmfcaa» tha following lafovvaUen rat h® airailafelai 5 • "'

a* analysis of diraet labor %y proclmsti'r# and iia»»pr®|*. dnetlwa ti»® by oparatia* / \

10

"fcu ataralard mfcsrial tasa.se t>y pro due t» «. taalyata ©f ftx*d ©xpsmteir d* aanlysi® of verlatel# axpanaaa « «• analyst* of pw>is»ti*« -mpmlif*

ffcl* a»m Inform* ten mnM bm auffielant fur tea adoption

of a marginal »»%- ay»tarn whlofe w i M aMssiiiafea ttaa fa&aa

S 8 S m f r t i © B © f H . ftakMHTlMi to t t » faOtStr-r»ta

m m H - of ovarhaad app&laatlMu Tlmm* a Mmilfftl*

approach ecratld &© ma da uaftar mhl®h rates w « M *• Iwtaai «

wfcafc tha menufsetyring wait ©am and will 4b* wkilwr tfeM* 0#

« toypottetleml aosnaal*

®l2ai fcapla ttooriti aa<t teebalqa«« of thai* two 4tfttM*rai

a p p r o a c h ® ® t o c o t t i a g f h r a r r a t ® * o r " n o r m a l e o s i r a t e * a r a i

^MUPginal or fitraat ooata*) ar® aaca&lnad to t&a following

©baptar*.

.. - . *Caall § l l l # i t j & a f A g & <

Cosf (8av Tortc, mm), pp,

CHAPTER II

TUB THI3R? OP EO-cJfi RATES OR XOR*AL*COST MT1S

Am MARSHAL CdSfHTO.

tfca i a m l Coat

0liJ«®tlT#g of Hoar Hate Coating

Correct and tip~t©-d®te normal h o w rate# are extremely

lsportaxft» ffeey are, la eonjwtetlott with isorreet and ao~

crara t© t|a» elementa# the fcaaia mpon which coat 11 eta and

•illialsa are fafcrieated. In addition, they are \taed la

4 oh coating of individual order# and in group coating and

speeial cost studies. With this lagiortt&M in ®ind» the

objectivea of hoar-rate det emina t i on# aret •

(a) f® rfefleet accurately at all times correet and np-

to-dat® eoata baaed on a tvo~ahlft normal operation.

(b) To promptly anticipated and actual coat

ohangea from which reooneiliatlena and other reeerda

are formed.

(a) To provide ratea in enah f o m that thay are readily

ttgafele In eo#t lict ealsmlations, eatlKatlng, job

eoatlng, and other ooat wrk.

{d> To prepare normal ratea that can eaaily and ae«

enrately be compared and reconciled with actual

experience*

XX

12

Definition ©f forwt

T<*rm« «••«. 1» tho tootur r a t # or »ovBftl*e0*t m i ® tfcoory

•ro 6« f in«6 • • fel low®?

gforoal capac i ty i » tho «§» fw# o f p r o d u c t i v i t y ©a tto®

pres* l i n # «s * t w o - s h i f t f t * eapaetty ®t otter

dop&rtaent? i* mdjusteA to tb« pro»» fepartatntf s work M d *

Stmp^<4iy I n old o^iaiptieitt wfei oh ««n bo

t© Mylat* tho opera t ing ' pre«to» I s « » « of antjor toroate-

d < m i o r ovortaMtl*.

Ciigtoater yolwao 1* the teUi at aolling p r l eo of © r i o ra

_ «oM d l r o e t t© tho eotLWHor*

^notation* «2*@ offer* to m i l « t » s ta te A p r i e e , for m

dafiaod period, * quantity of f o r * weetiftg eertaia cpeolfl*

catieaju

Slaoood tKrare are the t o t a l Itoiars p«M f o r oa any pi#®#

of ©qwlpiBoafc ©r la «ay 4#f»iPtwtat*

ffhargmfrlo hotirg « r# the pro&vet ive b ran t o f * pro®#

o r a d«part«#»t «tM are n i raa l ly expressed m a pereoatago

of elapaod feo«r«. For oxaisple, pr®«« matt l a SO per ©oat

ofc»rg»*bl« »«**»« tha t tfce p r o m l e producing f o r 80 per m a t

Of the t l i f l t d t l M .

W m m mpml»y 1« «h* average eale* d o l l a r of

P«r hour tiMi the elopeed tow«»

letfoed volute is the tolling prleo «f good* pp@«ne#« fey

. o ther aiaiaafaetttrora or other dlvleioBta o f th® aaia® ooapany

f o r the eelling company.

15

Operating; centers are defined as the productive areas

of a factory. These nay follow departwsntal lines or say,

a® In the ease of a press line, consist of ©ash major piece

of equipment.

The Theory of Hormal Capacity

genual Capacity defined

fhe definitio© of normal capacity probably ha® as many

variations as there are Member» of the industry and ls»

therefore, stated on an individual company basis. However*

the points discussed below are basic to the theory of normal'

capacity, whicfa, as previously pointed out,, it fundamental

in normal costing.

lormal capacity is usually calsulated on an annual

basis of two standard shifts for a five-day week. Ordinarily

it Includes the capacity of all press equipment for which

there is potential volume. Cutbacks to less than a two-shift

level on some equipment are mad© only with caution, and care

wast-be exercised, so that competing pieces of equipment are

not os « different basis. Stand-by equipment should not he

Included in the norasal capacity calculation. In calculating

the annual production hours for normal capacity, allowances

are made for vacation periods and paid holidays•

*f© Illustrate the determination of normal capacity,

8.MUS3© an eight-hour working day, ten-day paid vacation

14

aaft six paid hoXidaya. "Staadard* ar "normal* hxmr# m a

tvo*ahtft H i l t «•*!.€ te© eompatad aa follavat

fata l day* in yaar 365

£••# Saturday® ami S»d*fa ( i x S ) 104

Lesg paid teolidaya 6

£*«* paid vacation* 1#

SB' daya s 245 days * If teniae par day * $»tS9 te«n JMlr jraar,* •

f® tltoae e*§#» vfaare vacation# ®f aor» than two waeka

ara granted aad i t ia plan&ad to aparata tit# ®qiaipB#&fc tm y%he nuaibep of femurs ©alaiiXated on tisa baaU striata**. abwa, •

.pfttaUl** stoold b® »ad« for «aa ineraaaad mwmt-mmrtUm

dwa to tha loggar vacations. If. i t ia act planned to oparafc*

tba afntpwwifc for fctea aoraftl murabar @f b»«r», the feaaia far

dataraiimiag awa«al ppodmotlos teura am®t t» adjusted a©~

eordtagly.

fraag Capatitr

Xn d*taraial»g iiowal aapaaity for feba plmt* a *efa»dttX*

atiewi&g ma following iofoxsatian ia mamally yr*p*r*&.

(a) frsaa swiabar aod daacriptioa ®f «p#©ifl©ati©a8

(b) VM*» of oparation sMfta

(ml fa ta l Jwwra par yaar of oparatiozi

%©ora Corporation, £>td»* Poma Diiriaitm* Cost Itasraal,* Eavisad «*„ Ctoroato* Canada, 1964), p * ft, —

15

c«l Estimated hmmlj production at list sailing pi* ©a

{«) SstiMated annual production at II#t selling frloe

lour rates will be developed for e*«b indivianel press ©*

group ©f presses if mm$&r speeifieetlons of tba Individual

f m « M ft re reasonably similar '«* cost alaswats, s««i* •• .•--*•

mmning the presses* do not vary isatorielly * Car# vast b»

taken to insure ttoat tbe rates for simpler presses are net

averaged with the m m complicated equipBant.

transfer of tanlg—»t between ll^nM

Hation-wide ©©-rerage and service oeeessitete tfae loca-

tion of printing plants la strategie areas tfarom- iomii tl»

Salted States • fbese are grouped into aaeti ©as «11*4

visions, 4*tenstasd by •*!•» and geograpM© location la

aiost eosipsnles• For example, tbere stay "be a Southern

division and a **»*«» ©ivislon, eaeh tertag a number of

plants wit tela its jurisdiction. fb® division mmally #©n~

a lata of a large plant ««t**ily located, plvm frm two to

alx m i l plants located la rural -area#, Sb» transfer of

equipment between %ts» mala plant and one of the small plants

sreates serious problems in arriving at noifstal oapaeity aa4

bo«r rates at the plants concerned. fiie following are tfee

sit nations wbieb tmrm&lly o©our*

(a) Major tranafera of efoipwrnt abieh are ©r *111 be

replaced in tbe near fa tare so tfea* the total

Chargeable boors in tbe vain plant will fee «i b»

stentially maintained and

IS

M Traaafara of a ttipsiaafc wfeich Hill raaalfc 1b « lowering of tte® ehargtatbl* temrm %m tha

wmln plant*8

Krary effort .to rataee th» mala plant faetory w-fti'toWi# a»a balsnea It with tha ra&«««& efcargaabla tes wwt, fe© roada wM#b eqwlpasfit 1# transferred fro® th« main plaat t© tfa* . mmtt one. fto® following pro« •&&»«• are snggaatwA*

(•J fa thm first altttstlan it weald obvl***ly b© ma.-eotmd to Increase tmw&mmlly tlm® luonr rates in tfe# «*ln plant tin ring ttm p@rt©4 awiitt&g the arrival mf additional aipalpsasit* It i* a«gg»ct*4 tfeat the ©fmipwat program of tfa* «•&»' plant to© stir-•ayeit ant amffleient vQttipnanfc it la - < anticipate# it will "to® received vitfeitt tlar«e year#)

la tte hour rate ©alemXstlQ.s. to. Maintain femt not fee inereaae flat t$tal e&argeabX# Itemr*? ta tfe* mim plant. Suefe equlpnent whmM toe ssegrega%#§ ami' olaarly designated * tfe »ppr@aiiaftt® or i *ee«lpt la the eehsdal* ©f aaranl prea* p dmetioa. hy In&lvldtaal yreeaea» If future 'in*' elnML In the tew rata **lettlation«# th<§«ie@»#»*ip* cos fee should he ineltided ia the wmmt matttifaetariog budget. la aidlti-om a d«te*wdnattoii he **de of the anount ©f dlreet «ad ladlvent oeet* •lleoated to future eijiiipwiitt ac that th# ifrfMt « « th« plant hoar rataa e*n h* »ppw3ri»8t«if 4t-ternlned* . -1 .;:p'

(to) la th# iftfwnd citaatlen toy »em tqaipmt It i« anticipated will he reeeived wit Mm tpe tbm» yaar ptrlod may he traated a# raggostsd SmjM' m&Wm . However, aa the chargeable hours Willi he lowered# the oaly raal aoimtiou woul<l It# tj® 4l«or»a«» tfe® plant _ werfea&t—.©febewis© tbar# i» go

* I , !l\ tlw# to tel##r rataa in ttem wmin plMmt

%tota». p, «, '

! ' \ ' I . i I / >

/ n //

'/ , 1 ^

f i

lf-1.

»«•»* J S M S B l S S E S B E — ; -

tomdg«t», teeliidlag isatowf©©tarlmg. *ad operating #t

* m aupportimg »oho4tile» »re »©»«l ly prepared* !%••• e re .

beted «poa n o n f t l eepeclty 1b ad&tfciem to Jobbing w&lWRto*

l a j>r«p*ri»g Itete a a w a l imiget , ogrreat «•»%* and #3cp«m#«»

f t t t h Jt**e lieea adjusted t© trnwml mlmm a r e « e d . ;Xsfe**»'

- oMlaapy eoeta, eaeh e« epeetel ..wrttag expeaeee, are met

iiietoded l a n&maX fcydgefc flpp«i. Sana*! e*e*ti»e eoste

' a re Imelwtei in the budget slmee fJwy wi l l pytfMltiLy fee' lii-

n r i « l even wfeea ©peretiome are Wl&w mmml* f h i e over-

' time e s t l l i eameed tof aervlq* pr«fe3*av er uutoalsaeed p?©»

duetlen and extj*a p i^ tee t lve eapatflty abeuld not be laelttdNMU

toterlal Ceata

ffa#;f*#ll#stf®g mat a r t a. l a are laeiialXy not toeiwdei l a

tiie 'two? r&i«s bnt are mmmrnwy Jft>r t*» preparation ©f tb*

aeraial pro<S«etlo» bti&gefc. Material coats f e l l into three

c Ma mm 6* t he l i e s * included In eaeh alaae aM the

ing t rea taent t o fee git«n each are U r t e d I s t lwi

Claea A—ffele elaaa Includes*di reet* material charged t e the Job «7i«r and are thvrftforc s e t ineluded In the hour rat«« • '\ Material#!

f U i t t paper O&rboaiaed pager ! Geet of out t ide work •' Carton* md boxes } Snrelopee ..;• • ''• Cloth tape '• •. '.. Chipboard need in the pre#t@%</ -l '. Cover material iCnltleolor mater ia l i te le type a applies ' : f a g sundries // ;s: ;

18

Clmse B—fM® elaaa Includes material* tfeafc are dlreet "but, dxtm to tbeir Inherent nature* are tepoeslble to allocate (Street to th© Job oHhwp* ' ffaeae eockf are elpiiTleamt la mmmmt' and are absorbed through material write-off jwt##r based ©a total badgetiedl lt#atf p o l l of . plain paper* and per eqmare list©te of jaaterlal. 91* toast# «#e€ ia mm% mm la *• follows* Katertml® t

Lltho mM plat#®) Far lte» ©r Rubber plats# and mate | per efnare inah Segsatltree) ?#r Item or Fibre »ti) per aqit&r® ineb Ink) Fouxtda of plain paper

Clase C'—®Mi elaae lJielttit# indirect materials * $&*** coete mm email and tber&fore way be bandied la any one #f tfew following m p

(aj Included in t&® bam9 rata fb) Handled tfee saw aa Clase 1 material* Materials:

ftlmi' Wire Wrapping paper §ta»ed Jcraft Stook cut a 4 Shipping a&teriel#

0-perafcisy gen-tare and Ffceteyy Hottr flatet

Ratea of overhead application are nan ally determined

for each operating center• Theae rate* are divided Into

tvo aain section#—labor and burden. tfee f0llowlng' eefaedulo

ebowa a detailed breakdown of each rate for eaeh operating

center.

Malm Rub-

ta) tmb®T 1* Plreet 3tth«r "Sagea #»d salaries, la-• ©lading overtipe* beam** and giwdwsie to dlreet departmental worker#.

4|bld., p. 8.

m

M Bvatoa

1* Other k b « r Cfaargat

Xrrers aad Allowawsaa

4 . Bejjreetatlim

S* S#»eral Faoto*r Haft**

®. Oti»* lanisfae-turing Kxpeaae

?aeati«m« «»# ptM tell-daf t , e©a.ipemsatl©» mad d l i f tMl l tx t»®mr «**©#» «@©lal wwir l l7 sod m k « ployiaent ineur sae# f « M on tohftlf of iadiraefc «« wall a* direct operators*

factory arror «at «X1« in ame# ©h&rgea.

Bopraolatioa at no rami rat# a on a l l equipment l a pro&sotloa whathar f u l l y

Flan* imdireet workers-©ttear than laeliadad in dlra«t l«b<Hr.

Wmlance @f expense, d i -rect *mi variable and any othsr fa i l r«ot material® mot i w M d amy other tetif»®

Hatbod of Allocating Xtaaa Xneladad tm Sour %t«»

a bo-re annrtaetwiftg eoets and « p n s t {wMeh ex»

elstd# «at«rlal>) ara allocated direotly to operating oentere

where dlreet al locat ions ar® not possible

tit® distribution sfeotiM !»• aado a# follows*

B&sts of Spread t© Operating geafcerg

On a direct basis a# cost# incurred*

(ft) Lebor

I-* Direst Labor

f . Ofcl»r labor charges Direct labor dollars.

S lb ld .» p . 10.

20

(to) Bur&ea

3* Errors and all waiiaea

4* Bepreeiatloa

i« General faetery lat>or

®* Other isaiwsfastsarliig eSp-enae#

Repairs and Mint** UftlKSO

Frodnettoa supplies

lollop coat®

Xadireet materials

Fewer

Light

Qoe tpajaey

Pensions and retire-

Gtoraeral faetory la&or

Dij® ©t on paat experience «f .. at least • three 7»«r«*

Dlreat ©m actual basis #» *21 #f»ij®*$at inelwded In «>r«sai • production Inadget#

Direct as inuch as possible. 33»# to varying e&adltioaa fee-tween plants, Mian®# spread mi as fair a basis as potclbU. lay fee imolmted In- gene ral fac-tory expense spread# {See item t below) *

Sireet on past experience of at least %tar** years* weighted for aatieipated eests. .

Direct <m past experience and . antieip&ted @o#t»«

Direst on paat experience ef at least three years* weighted for anticipated costs.

Uireet on past experience and aatieipated m«?t»»

Power load after allocating speolal charges dlreet»

Floor apaee

Floor space after allocating special charges direct.

Employees* payroll dedttciloiis for ptailMUt*

©ireefcly a# aairh as possible. Due te varying conditions existing between plants balance atemM be spread o§ as fair basis as possible,®

®.£bld • « p« 11*

21

Stusrgeahle hour r»ti«*>*Thsre 1# a #!#«© relationship

between hrnar. rates* ehargeehle rttlM, and tiae element®

In their effest ®a prioing. A stands is nay ©me ©f these

' throe itesi® will possibly hawe an effect on the others* treat

©are therefor®, he easereised.to insure that a constant

relationship between the* is Maintained at ell tl«e«.

The chargeable hotir ratio represent® the pereentags

that the §etn*l production hour® hear to the total mam or

machine hours pa it for and in el tided in the direct east por-

tion of the has«r rate* these ratios, based on past experi-

- enee, ere developed for eaoh operating- center. It is important

that the ratio be as aeowate as possible b«®mu«a of ite ef-

feet in determining the honr rate* Accurate time reporting

ie essential to this objective. Baeh saoiath m( each quarter

the actual chargeable ho«nr rati© is deteradned and compared

with the ratie developed in the normal howr-rate @alii®lst»

tions* The rati@a are changed from time to time •* experience

imdieaten and corresponding adj-astiaeafcs are made in the hour

rates*

Mrect Celling Expense Jiates

Mrecfc selling expense rates ere determined separately

for selee to *e«-«t@»erew and to the federal gov&rnpmt»

fhe direct selling expense rat# for velsms

ifi.ll he the, st» eft

(a) She average rate of salesmen*® salaries included

22

%m t 1 m compensation p l e a — t h e ratio being based .

m . l l « t selling p r l c e i , - ami

("b) the mwmt rate of e o w e l e e l o n e l&nluded

In tbe compensation plan ©a tales at fu l l l i»t prise#

S h e a w a i t i n g rete wi l l H# applied I n n i l prleing oel-

culations of e*js*ii*®rif volume to determine ttoeffall eost

llefc p r i c e , regardless ''of etether or aot th® order i# #old

fey afreet i « U « m b or m * n * g « r « .

. . • fk# d i r e c t selling expense rate t e be Applied to * v 6 e ? *

of t lM'f f t f tMl ^irerwest *111 n o t the marmt rate tout -... •

w i l l b * t h t i « t l o of the' t o t a l d l r e e t a a A I n d i r e c t ©3ep«m«®«

applicable to federal government shipments (a§ thown in the

hoots 1 budget) to t h e l i s t selling p r l e e *

&n illustration of tt» method of determining overhead

rates used by mm for mm mmmtmtmmr 1 » m e follows# fhe

general overhead rat© laol tidee tfce following expenses dl«

vlded into two groups.

Ill Mattel astrstlve Heste i a * A d m i n i s t r a t i v e ' h » B e d d e b t s V ' \ ' \ e. Sundry t a x e s

11 t A (8) Selling §mtg

su' IMl feat e e l l i n g b« Advertising e n d e e l e e pronation . @# 411 other dlreet e e l l i n g expense™ :

' !\

m 7 I b l d » , p . ! « • '•>

\

23

ftio following are tha ml@ el*»aia of b«sla»«s which

amat be considered aoparatol j t a tha preparation of genoral

«T»rte«ul rataaJ

a . Custo^era—print uid esrbon

b . ^odaral go ve rnrcent —print

©. B©»1«r#—primt sad earbon

d . &t©Olr flVHUKHttt Wholesale pri«»S

e . 3ther sMmfaetvivwr*

f* Othar divisions

g« Bogistar s i e M » i and sold attachment. a--custowers

h . Beglater machines and sold a%taahaont •—dealer a

1. Jobbing--enst©*Bera

J * Jobbing—dealers

l a order to develop aepar® te r a t u f o r eaoh of the walm

classes of business and for manufactured pr in t products, the

following; prinoiplea w i l l g w « » the spread of general w a r *

head*

a» WQ general overhead Is a l located to federa l

b . Senerel overhead i s a l ieoated on a l i s t ehlpaent basis

to major prodnets by p l an t s .

e* A% eaeh plant the general overhead al loeatod to

a* jer prodaot i s re la ted to t t e conversion eost of

tha t prod wet a t that p l an t .

d» Tina aiKmat of overhead al located to dealers and static

f o r m way ba weighted» Such weighting should b#

based on experience and de&tovlMid froai ipeoial

s tudios . 1

24

e. Otter siaraifaettsrars and other Alvliiont ahoiiM only

to* assassad with administrative costs on the basis

of a 75 par cant weighting# Mo alio eat ion of sailing

costs should b« »«t# to this class of business.

f » Jobbing voliasss should only b® assessed with adslni*

stratlve ©osts cat the basis of 75 per ©ent weighting*

Sailing costs thottld be charged in fall to this class

©f &»ftilta«a» . ;

As covered ta it©® (e) above# general overhead is alio-

eated to the print product on the basis of ©oWeKsion coisfu

This method h&« the effect of 'loading** amy' prodaet vblob

has * high labor contest* therefore, a product «hlch due

to technical advancement has a ssjall latex* content will b©

assigned a sisal 1 portion of general overhead* In plants • • :

asimfeeturlng manifold books and ealeaboolts mmbteed with

register supplies this has rn.tS.-mly nullified the use of

normal terns? rataa for estimating and has brought into being -

a "trial and »»rer* basis combined with a knowledge of

competitive levels•

This is only mm of the many methods msed in an attempt

to level' ©tit the overhead contained ia a selling prica to

ohtaia a better eoapetitife lttal*

25

The Marginal Gost fheory

Marginal Poet Dmfined

In reeent years the theory that "marginal costing* or

"direct • costing1* offers certain advantages! not found in other

eoB ting mot ho da has been advanced by writers of Recounting

textbooks, both in the United States8 and England.9

Marginal eest way be defined «• wdirect cost1* and con-

aiata of direct w&terlal cost, direct labor eost, .and dlreet

factory expense. All other expense® of the business are

not "marginal* "but fixed. A distinction between fixed and

variable costs can be made only -after an investigation of

.fact and. the application of soma formula that can give a

reasonable indieation of the definite lines between marginal

and fixed expenses. «J«st a® the statistical method is em-

ployed la factories in what has been known as *quality

control,* so it.can be used for arriving at this basic di-

10

vision for marginal costing. That, there is a oholee

between the analytical method and the ""intelligent estimate.m

The first ia jsreferred. However, the second is usually

sufficiently accurate for general purpose#. Whichever method

%illiaa k» Paton, Recent ami Fro Bisect lye Beveleipiitta in Accounting Theory. Business leie&ren Sttidies Mo. 25 '{tJoston, 1940}, pp • 9-10.

% « P. I*awrence and 1. N. Humphreys, Marginal Costing (London, 1947), p. 29.

' I0Phillp Lyle, 8>'gwt»tw Analysta of Production Ooata and Factory Operatlong cited in Lawrence and Humphrey®,

glnal Co stlag (London. 1947), p. 29.

m

i s adopted, tto» f a c t remains tha t t o » expenses are wholly

var iab le ifeil# o the r s , within normal l i m i t s , *m abol ly f i x e d .

Between these s re the aea l - f lxed or semi«»srgiiia 1* varying

not coat izmotasly with Reduc t ion , tmt by iwtannRpfetjft s tages , '

and subjee t p a r t i a l l y t o the cont ro l of management •

Qb^eetjgeg' of MftrKlMal Hotflmat

The whole concept of sutrglnal cost ing i s baaed on the '

theory tha t p r o f i t i s not saade when goods are wm«faatnr«4#

but only when tkey ar« toad*2,1, $h» e f f i e l e u s y of a fac tory

mm to® seasured by i t s pr@deeti©mt but the p r o f i t made by

i t l a i epsa i ea t ©a the sale ©# goods produced. • '£)pi f i xed

expense of a business l e a cemstaiit ijaamtify incurred

during a period of t i a i . When the period ha# expired, the '

f i xed expense i i e i i m € has been exhausted in conducting t t»

' business aa a whole dnr lag t h a t p e r i o d . 1 2 t h e r e lic^|to4fc!Jtg

- l e f t t o : carry forward* ffa@ whole of the f ixed '

t h e r e f o r e , should l og i ca l l y he a l loaa ted t o what 1 /J'J'i,

• o ld , s ince t h i s i s the only source of revenue• "'] .\ h « • \ , '}

the f ixed expenses r e f e r r e d to a r e those *M eh

i n c u r . i * e ~ . U B g « . * » « . » * . i f J j

accept and manufacture order a stteh as rent# wt t l i fc l^a , i n -

surance, and e l a r l a a l l abo r . These a re vMlYteetadjtr«nfteW any

, ^ A v X X c * f l J . . i m t . A.ag<m»tt»g m i / i a a l i a l a 1950), p . foe* ;/\r'

1& - '''

*nfoto #• Blocker, Poet Accounting (lew Yorlt*'-'ftlNHj)«' pp. 44S-466. i -

" " u \ \

J (• \

«?

given »et of ©audition*, by tb® mtwm of woiSl wa&ortalsoii.

'fhe «o»t accotmtafit, bavin® aoparatod tho flx«4 #xpoaao« froit ,

fcbe variable ooata, aan provMo tbe p r l ae r with tb© d e f i n i t e

do l l a r figure® wfei eb wtat toe s*e®ov»i*ea f r w the aatr|£ika to . ,

cover f i n d iOEpiw»«ti»

So, l a t rying to es tab l i sh t r i c e determination eoundly

tbe p^reqmislfco# are as follow#* :"

1* Coi»r®ct eoste f r o * tbe faotory

8* Attmal mete* mot ov«*»ab*o'xfeed or tnai«r*al?ti0rbo€ ' •

$» Faotory jtapaolty. fey" p^ms^pont ro l l ed by a isaobine -

.load ©toart

4 . Soiling of f o r t l a p»Of®rtism to ex ie t lng aarkot

S« Factory ©fflel«m®y l a proportion to require4 qmftlity •

«®fi quant i ty .

f b i - ftgmt two need fa r the r explanation? feJae • «&Ta«r' .":

tbree ara « • f j T \V, -

- f i r s t * 'mmwrnl ooa&ltlone natura l ly i i t t s f i

Iwaal^ '-mwt to repre sent ebangea im fee t* 0»e« ,,,•

ar® iuoltsdoi., tbe tout becomes? r e s t r i a t ed to the pekftijaj* '

#«t o f ' eire«»»ta»eo® te©*®t ®-aphasiatioally a» ' ^o r^a i ,* sM

la i j iwr ree t In any. other aet of eireunateneea. Conseqnwatlyv

i t amst be dieaartfjM f o r p r i t e determination jrarpoiteev

Second, the only t&mi of treataarat of f ixed overhead*

tbat w i l l amid over- or wnd«r ~«feaor pt 1 on 1* the i r ©mteeioji ; I

from eoat of pro&aete* ®rj& tbe plaeimg of them l a the iff ,

£8 PwfP

»gt«ral surroimdl»g8»~tl5®i it, in fchsir relation Intact t#.

IS

t&» margins to mmt tfe»*. •

' This tfceth# primer'a *lm# aid*4 t>y tb» eoti accountant*

production ©mgl»®®y, and «*!«.«" st&ff, to qwt® pricas giving

sufficient margin to pay tb« expenses tad provide a net

'-profit. .'Ste priser with the aid of tte® eo«t a^emmtant astart :

study tli® mtct&n available to provide tmr overhead an# profit,

la Addition, tbs prieer, aided by the prodactlon an^lnae**,

srast determine the faatory capacity out ©f *tel#li wist m m

the goods to suites tto© 4#tlr«4 ptfcfit •

fbe. production engineer will hit# cherts op planning

boards shoving the factory lead toy press. Ht wills h@ « M #

to give the prioer « elssr picture of ttaa #ap*@ity,Vla us© - et the moment and to be used In the issssedlat© future for

' ' I*;,

mmpleiting orders received. Iter® important, - fee cimlHiittMs

clesrly what part of M a p ® capacity is net ©esmplifeA _

m«©opted orda?s« fstiig this information ©n a y&MBjittilg fc»a*d

®f Ills own, the prieer It able to shew bcth the ssaciti i# lead

by press and the dollar m&r&ine contained la evtct«ns|ae

quotations* Halite order®, quotations are proa©

away and never turn into factory load, fh® planning board \

wait be as n»oh in excess of tb® factory load m poasritol©.

^Lawrence and Suiaphreys„ w . »!>«« p» SB* • r / ' i ;' * . .V '• < .> ; •; i A

I '•

29

Yavartbalaae* tba partloular a®#4« of aa«b bmsisteat

«*i»t to# siwHad and appraeiatad %•£»*• tfe» praalaa datalla

®f any amah mmthod mn to# fh» pr«aMfc atojaatlva la

to glva a gaaaral ldaa ©f bov tba needs ©an toa aat ted la tls§

ensuing ahaptar to eh&w la a faw rapraaaatatlfa easaa bov the

aathod writs la praetlea*

CHAPTER JLX1

THB TBCBMQtBX OW MORTAL II© MASgt*4& COSTOlCt

Bonsai Cost lag 'feehalqtte

Those *h© have never heard of marginal costing* and

those who, having heard, teav# m% t»#a It la operation,

»ay wonder why it la mmmMmzy to replae* exist lag aettasds

of eo sting by something ne-w, <l««a€iag a eompletely revised

ooneeption of tb» technique of easting* To appreciate th®

truth la the marginal ®ethod, the cost accountant suet have

c©»® experience la price deterwinatloa, fMs experience it

mot restricted l& tb® printing ladtastry, at the problems'

presented mm universal la eeope«

The conventional * total ©out" of a produet is oonprlsed

of not only ttm direct or Marginal e##t but alio & provision

for fixed expems#. It should fm particularly noted that

total ©©ft la not mm>ginsl cost plu« fixed expense, for that

has no real meaning, since it ia l«pct**ible to allocs te to

eaeh produot the actual amount of fixed expense Incurred for

ea@h individual product .*• in the details of the marginal

eoet method It was atated that an indivldualprroduct does

!• Alfred, Soet fend Production Handbook (Bfew Xork, 1994}» pp. 1081-1090*: -

30

51

aot oraata fixed expanse slue® find m p ® n « # la lnomrrad

Irraapactiva ©f tfc® work dosia*

An ®3E*i#l« ii.il. aarva to llluatrata IM» point. A..aets» .

that 'tb»;inirtAM« ooat of ; am art!el® la $2.00, and iha fixad •

aacpaaaa is #1,000. par waak or #4,333 par month. fht aonoal -

eapaelty 1« <§»SSf Malts par aoatfe, Baking tte fixed axpauta

#1.00 par mil. If# 'la tba flrat *o»th 5*000 artiolaa war#

produoad and all of ttota wars aold dtsrlag tlaa aaoath for

14.00 aaote# fcfc© Profit a»d Ioaa Stataaaat would appear mm

followat

Production and 2*1**, 5,000 artlelaa at $4.00 amah $20,000.

Cost of Prodwetion « M Salaa, 8,000 at |S .00 a sola IS,.000.

Sat from . - I Mfr f

If that statement vara tnaa, 1% wjiiM fea a vary al»pl« '

«na a tral$it-forward aeeoamt of tetivttjr* It 1« isairtsa for

ana ra*sos~~tha total aoat actually Is not |S.OO par artiela,

avaa though ttea marginal ooet is &2.0O. ttea arror la found

la tfaa $1*00 ©harga par mlt for fixed •spans*. It »l#.t

twa Imfarrad from, tba atataaent that t&a fixed expeaae tppll*

©atel# to 5,000 article# 1# i§t00Q ar #1.00 aaa&» Bat It

la mot so, ainea tte® actual fa |l,000 par week or |4»5SS

: la average mms&Iu Oonseqmntlf the total aoat ©barged to

production la ##§¥ too groat« Tba net profit earned la

not |S,0O0 but $5,000 plue the ovarapplied burden of $657

• or If, la the aaocmd stonth, pro (taction aad aalaa

m

a gala ay# lut only 3,000 artlelaa ara said# tba

Profit ami. Loea %»tasi»nt tatoaa IMi ft»i

Production and Sal##, 5,000 artlolaa mt #4.00 ®a@ti ' $12,000*

Coat of Production and "SSalaa,

3,000 artlelaa at $3*00 aaeli' f.,00Q.»

I 3,000.

?ha flxad axpanaas arc still $4,083*

but tha applied ©ost la only 3,000+.

Wbioh It "ander-applied by #1#333*. 1,333•

S©c|..ttia telwl Bet. spflniara to 1M Lii2£2i-

-:fii« ',r«p«|t it tbat wiB«g#«iat fcaabaan isf@w»d that

•profit in tha fl rat woFth ist #967 laaa than it raally was

and In the aaeomt month that tba profit waa $1*333 mors than •

. - -. fh® gro«« arror la ti#©0© « M # si no® tt® aataai

profit mada In the tw© aontfas is $7,354, tba grot® #»«r .

' li mora than is par ©ant.

It tea baan mmwm& tlsat aalaa and production ara #fu«l

• aaeh month, wbleh it a par© happening. The ©lament ary exaaspl®

gi" ®n la ipffleiant for praaant purpoaaa and now no ad a to

bo paranad Into tha ooaplaxitlaa of total aoatlng, for no

- ©oat aoeoantant would b© content to praaant etioh atialaadlng

.statements aa hava been eltad. fha corraetlon of the atata-

manta to allow for ttos ravlalon of total ooata and net profit

to thalr prapar proportiena aaa b« aftd* in a variaty of vaya*

To affaet tha raviatoa# about forty yaara ago Hamilton

Starch coaealvad tha atxppleawntary rata . Sadiaead. to It a

58

simplest terns fop application to tills case, the supplementary

rate troald reduoe the overhead rata 1m the fl ret month from

§1.00 per article t© *3@@§ per article. la the second month

--the rate wcmM he increased to $1.44433 per article* In

other words, a supplementary reducing rate of .1334 cents

per artiele It used In the first month and a supplementary

Increasing rate of .44423 per artiele la the second swnth.

These suppleasemtary rate# are determined hj dlvMlag the

variance of the applied fixed expenses from actual by the

units eeld.

toother wethod used to correct the overhead rate Is to

determine the variance of the fixed expenses from actual.

The variance la then deducted or added to the total cost

to arrive at what sight be tersied "actual total cost* for

the Profit and lose Statement presentation. Alternately^ •

the variance e*» he added to or subtracted from the net

profit to give the actual net profit.. The first month;'s

statement, of Profit and leas correctted. In tte&m way® bvli

- then appear as followsJ \ \ -

1. Supplementary %tei \ - • Sales 3,000 artleles at #4.00 each #20,000. -

Total Cost*-5,000 artleles at $3.00 each |1&, 000.

leas supplement«ry rate of .1334 m*?« 14.333. \

Set Profit at Actual | 5^667*

S* profit Adjustment :

Sales, &,000 articles at #4.00 each $20,000.

Total Coat, 5,000 articles at #3.00 each 16.000.

Apparent Set Fro fit t f 5,000.

24

Brought Forward* ' Apparent Ket Profit 000#

' Fixed expense applied t© Production |6,000.

Actual fixed espenee 4»333» <67.

. Aotual Wet Profit ' iliSL*

3* Co»t' #d..itiet!aeat« ' 1 ; " Sales, 8,000 articles at $4.00 eaoh • $20,000.

; total Cost, 5,000 articles-'• at $3.00 each •- f 15,000.

FimeA expense applied to Production f-6,000.

£»«• Actual Fixed - Expense 4.533. SS7. s

: . Actual let Profit f- S.667. '.

Each of thes# methods of adjm®t»nt i s elumay. Sach indi-

cates that nomsl eoet is sot really the total coat but is a

theoretical eoet always subject to adjuatneat. So no on©

loao«rs until after the end- of the accounting period whim the

adjustments are calculated what the actual total cost is . .

Even if the pricier ie instructed always to quote upoa\,

a baal# of the "normal* total cost—that it the #3*00 per

article in the example above-~he will rarely be worried to •

see monthly statements informing him that the cost i» never .

actually #3.00, hut sroise thing at©?® or less, depending on

the season, the atate of production, supply and d«mnd# . *

or «o»e other eause beyond hia control. In the example

given it has been oowreniently assumed that the sales and;

production of eaeh period was equal, which la seldom true

in practice. Hearly always there must exist between

m

prefect ton and tales a varying work 1m p t m m n and a varying

finished good® inventory• As a result tales ara graatar or .

lass than production. Tha noraal cost taahsiqua- met, thara- '

for#, he axtandad to daal with tfeaaa variation#* Mam*, tha

adjustment of fixad axpansaa must ha mada in relation to

production costs* £•©» tha nontb* s production aost is ad-

justed. for tha varitness fro® tha provision fhr fixad axpansa•

Than, tha total adjnstasat smst to® dividad hatwaan work - i®

process, finishad foods inventory, and coet of goods sold*

• 4 sore difficult protola* arises here, for in the Majority

".of eases tfaa work in pri«#i# is oomprised of two mr mora '•

successive months1 production. ftoa production of ona month

assy reflaet aver-afesorhed fixed expense while ttacefckft* is

V;«nde r*absorhed . \

One nethod ©f eliisih&ting Ufa* difficulty is ta price

stGoksat a 'standard total mmtm and allow tha ©*5£t„>4; . . .

•••each nontti*s produotion to absorb the mxmm or defieit of •

overheads. Sowever, this doss not eliminate the rsal problem »

fb« "over* and "under* absorptions of the periods in whieh \

.the good# sold ware sumnfaatared have to b® transferred \

through tha work in proaase and finished good# into the mmt

of goods sold. Only than, aftsr the sraltiple adjustswnt

of this .oast to give what is assisted to ha tha total cost

. ©f goods- sold, can net profit ha determined.* Se-eausa ths'

*»®t profit* is asses&led in this way, a prooass analysis •

\ \

m

©an %m •#«% up vb«r«l>; tha sourm of each increment ©f net

profit ©as to# traced hack fco the production that it supposed

n

to have created it • The net profit la analysed a» though

it vara ' caught in a ai-sve aa the goods are aold, upon the

preauaptioa that it axis tad in eabryonl© atate in the factory . ft

and developed into its mature atata Just at tba right sioa«nt.

Thia ia tha hypotheela inherent in the treatment of • coat

including fixed overhead, and it it upon auch a hypotheala A

that "total* or *aor»al* coating «caa into being.

Marginal Costing Technique

If, in a factory, the expense incurred tm a veek for

aupervleion, rant, ineuranoe, dapreoi*t ion and other factory

overhead amount £ t© f.1,000 and the week'a output comprises

exactly 1,000 articlea of one aiae and type, than ©bvioualy

the cost of tha fixed expenaea are fl.OO per article « How- '

ever, if 100,000 are wade in the aaae factory, without ©bang-

ing the fixed axpesae, the element of fixed cost per unit la

reduced to f»01 per article# If, on the other hand, produc-

tion la only IS© unite, the coat- la 110*00 par unit* Suofe

2 C, f * Bovine, Cost Aeeountlna and AnalTcla» (Hew York

1950), p. 70?» n C. P. Lawrence and 1# II* Humphreya, Marginal Coating

{London, 1947), j>» 25#

&* fat ©a, laoent and Proapeefclvo Pev#loi«^mta r, Buaineaa ft©aearoh §tudiea '£»*< 2§7

m

mmtwemm fluctuations in output are not realist!®, teat It is

quite weuel for Use predicted 1,000 to &•©©»* SO® ©a® week

and 1,200 the next * The corresponding costs would tee |l*2§

and | .SSS3 per article# $fa« large difference between $!•£$

and $•£$$& per unit It apparent. The prieer supplied with

such figares j®lght to® •zmtitd if he stiff ©red confusion tm . •'

netting a selling price design®d to meet such costs*

la addition, if tbe sales <rr.ry trm that of produotlen,

;s© that *h#n production it only ©00 the teles are 1,600, as

sight easily be the ease, an eiren sore difficult problem

In determining fixed expenee per article i« met* Is it

|l#2g or in it i»62M The correct answer to this question

is the key to sound costing*

The other pert of the total cost ie t toe dlreot coat,

which consists of the materials, used in staking the article,

the cost of labor used in converting the re* sateriai' into,

finished product, arid th® expeas® di rectly incurred in ite

production {such as th® eleotrie p@mr tor manning thik , - ' -...

Machinery, the tools used, and the production'supplies neces-

sary) . If eonditlens are stable, these should always cost

"the same per article produced, m A "tor that reason they earn

he easily accounted for as the cost of production* In both

the cost of production and tbe coet of good® sold, this

direct cost is the same per artlele • It is constant under

stable condltiona, and any variation from stable conditions

38

m n to® treated as variances • e@«t aad axpaaaaa of ft

- factory tharofore are two eoaataftti'i

I*)" Yha dlreet or marginal is®ft per artlelo way be

-•- • '4A9t£j&ftt*& ft| X.

•„ (b) -ffa® total of fix## ©faargot of a period which my ' . •' ' - '

designated mm F# :X7 . ..

>V-. v;'#|ysi# t w o ' constants t f i ln#»pobi#Bt af m m f a otter*•

llnce a© relationship exlsta between thesu . There It another

.©lament thfct for varying longtfts of MW Is a fixed amotrat. i

Tht» Is 3toe tailing price of tte artlele. Subject to vary- •'••

ing the basis price 1* a fixed quantity, S«;' Jto»,

£' aad V ire axpresaed in the saaai t«ras*—do 11a r s p«r article,

they are, therefor®, subject to the emmet lews of siathoisMaties*

They e&n bo sutetraeted to give a deficit or a profit, or.

divided into on® another to' gtv® "a .ratio* Oa the other head,

•W and F, or S and F, are not eo related* This baale fact la

Y neeeaaary for a clestr onderatandlng of Marginal @o#timg* ,

(a| a is a constant ratio --,'Y '

; . - tb}'*;F la a. constant aaonnt '••_•• ;

;';-froflt- for a week he expressed. «« 8, • (1 * F K where '

f# i m tii@ selling price per wilt, M - 4 * marginal cost -per emit,

;F It total fixed expenses par week, aafl f 1* of mite

m k . .

. • km as 111ms fcrtf.t ion It la assnned thst 1,000 articled

:perwoek are produced, with fixed expense - o t tl,GG®, marginal

s-oost per article of $2,00 ®a4 a selling price of |S*OG par

39

article. la this mm, the profit; aoounts t®

f§»00 » ($2 *00 / tlQOO) - $£*00 rikioh is 40 per cent of the isii

telling prlet • But, if la mm- «Mk the production and sales

are only 500 articles, what is th« fixed expense per mitt

1# It F divided by 1,000 or F divided by 500T If It is F

divided by 500, them the fixed expense ha* increased 100 per '

«ent per article* ?hen the profit on the selling priee is

.$1*00 or 2© per cent of the selling prioe, bat still SO per'

cent less than originally* It has been shown that the direst

'or marginal cost <M) is a constant ratio to the selling

.prise {S)| and the difference '(S * 'I) is the contribution

made by eaeh unit toward the payment ©f fixed costs and

the realisation of a profit. When all such contributions

are collected for each period they can be put together to

fona * fund oat of whlefe fixed expenses (F) and profit am»t

•be provided* thus* the fundamental ©qyatlom is profit •

equals? (S • I) • P ta which ($ •» U) indicates the svm. of

*11 the aar#ns from the wits sold in the period during "

which F l» the total fixed expense *

let profit is not made per-unit Manufactured. let profit

it aade only from the total activity of otsnufaeturlng and

; distribution during a period, and the unite made and sold •

eontrlbute their quota to a pool from which the profit -- -

;finally emerges. A.dad»ietration, {'all eeste that are not

variable'in total for a"given period) is a constant fuaatity*

40

tfonvaraloa Is a constant ratio, «xsetlf a# w© tur#® ealled

fix®a expanse iW) ® constant quantity, maA marginal cost (M)

st constant ratio. •

ffe® marginal concept is not based on way hypothetical

or arbitrary treatment of coats but upon the solid, physical

facte of the case.

Marginal-Cosfc Priolng

In many btaalnastses it it essential to sail car tain e w

moditlas at unrennane rat iwe prices in order to conaolldate

the gales ©f other eoannodltief- that will provide sufficient

earning power to pay for th® losing lines. fM« praetica

la still a featnre of the printing business* In the majority

©f esses, the r#gl«t#r machines, collators, detachers, and

imprinters ara sold at a lew price with the knowledge that

tha printer will be reiintrarired by the earnings fJK*» tha

sale of foms for the mmshine over a p«riod of ysiw fol-

lowing the sale. *t other times it is mmmmmry ft* a firm .

to be abla to supply a whole range of articles* sowe of

whl eh eannot ha nud* hy them in sufficient fwsntliy to > b®

profitable* Such @»#®a M m to e®pha»iase tha fact that it

ia not tha Individual prodnct but tha whole activity of su

business that aarna tha reward of new profits. t© axhlfclt \

tha application of marginal costing «* an aid to price de-

termination and revenue control in #«ch circumstances, tha

following example is offered. •.

41

A eonpatijr nssnufaeture s five main classes of print

products, whieh will Us referred to it# I, B, C, D, and S,

each being ehsrged. under the hour rat® or normal rate a

portion of overhead. The following facte are aaf*umed«

Total general overlie ad or fixed expense amount# to $35,000

par period* General overhead absorption rate under the hour-

rate method 1* equal to SO per e«mt of total oovt (or M per

oent of total factory cost)« arose revenue la $175,000 for

the period. She Pr®ftt and Lose Statement based on missal

rates is presented below:

Profit and Xioas Rtateaent

Print Product

A « B. C. D. I*

Groaa Total Cost l i v m (Inel. Overhead)

$100,000. *65,000. 5,000. 9,400, 15,000. 25,000. 80*000» £2,500* 55*000* 57.S00.

$175,000. $157,500.

Set Profit

156,900.

$38,900. 19,400.

$17,500.

let X«e«

4,400. 10, .000. 2,500-2,600.

t19,400.

Apparent Set Profit

Net Profit Adjustment!

Actual Fixed Overhead

Ceneral Overhead Absorbed in Total Coats (20 per oent of total cost)

waia absosb&b

let Profit According to Coet Accounts

Least Under-abeorbed Expense

Actual Set Profit

|55,000.

51.500.

#17,500.

5,500.

45B

If lb® reaalta •hown on the previews page, after tfeo

adjustment for trader-absorption, are aoeepted as eorreot,

what uae eaa fee made of thca la <!• aiding what action to ttln

In order to Improve the profit poaltlont

the most misleading fester®, however, of ffe» statement

ste.ow&"tit the apparent effeot oa pro.fi.t»earming tfeftt would

follow withdrawing one or aero of the predueta. tiki, for

laatanoe, B, B, and f. It appears from thle Froflt ®«d lees,

Statement that the if aeontIntt&aee of theae prodwete would

result In nrlagt of #4,40®, #8,500, and |StSOO respectively,

or a total of |9,4O0» If the trader-ab sorption were added

(tiaat la, adding f per sent of gross ravenae to eaote of the

leases), the savings would total $10,600* Tho profit thorn

would bm expected to rise to $84,600* f&e roirome would

redwood from 1175,000 to $115,000 fey ttoe lost of ttoa $60,000

revenue of the three dt scout irmed protests*

It i# not Implied that management wow Id $vmp to awofa

conclusions. *hat la Intended Is that fefe® Fro fit and &®»a

Stetea»nt does not show cleerly wlatst the effeot of siaeb

aotloa would toe*

43

The frofit and Lose Statement based on marginal cost

{to til® nearest #100) and the some assisted facts as stated

above would has

Profit and Loss Statement

Print Gross Margin*! Jir© «•.Karate Froduet «even«e Cost F r o f i t L o s s

4, #100,000. #50,500. #49,500* B. 5,000. 7,500. - #2,500. 0, 15,000. 20,000. - 5,000. D. 20,000. 18,000. 2,000. g. 15,000. 50.000. " 5.000. - .

#175,000. 1100,000. #56,500. #7,500. -2*500.

P P C Lesss Fixed Expense _ 55,000.

Aetual Met Profit ^ S i

The effect on the set earnings of withdrawing three of

the products ean he seen at once. ^he result is an additional

loss ©f #4,500.

Comparison between the two statements point out that

net profit is earned by the whole concern and not by each

of it® Individual products. If one department 1® inherently

a losing enterprise, It wast be subsidized by the others in

order to give oustoMer satisfaction and service. %at is

not to say that efforts should not be made to reduce losses

and increase net revenue, fo do so is a sain objective of

management. But, to think in terras of net profits and net

losses from the separate products of the manufacturing unit

is to develop a false perspective.

OltttflR I f

l i s mm os Mmmmt* m^fe i s prxcxvq

Wrtm E x a m i n a t i o n As at Part of 'Bmmtmmm Mastngaaiaafc

l a ord#r to tranalata f#®t* Into f igurea the cost

accountant sm©t fee capable ©f discovering and r^eogaizlag

the facte that are relevant• 1® baa, however, assay other

dut ies, and M t role l a price 4 * te ra ia» t i»8 r@Q«tir®« the

translat ion of f igure* into faots . I t i e of tan aaid that ••

eoste do not dateratln© prices, but tfaet costing undertakes

priswtrily to shsw whether the ®«arte®t* pr iee* are rwronara-

t i va. Under th ia theory, supply and demand are the agenda*

by which prieaa are detersdned, and publ ic i ty , •ftlenntfUMhip,

M B t g w m i t , coating, and other functions ars only of

fctslarylaexorabXe lav* Jfeqtialifled acceptance of sueh gener-

a l ise tiena and plat i tudes nay breed a eosiplacency tfcafc daniaa

responsibi l i ty for ana of tha pr incipal functions of bo alnaaa

imnn^mmnt 1m prie# determination. Although some of the €•-»

t a l l a of aoating aan ra re ly ba preelae, i t ia essential for

tba coat aoeountant to ba always preelse in hie dealings

v i t h coeta, and i n th ia par t ieu lar sphere ba aan i l l af ford

to l e t his preele le* a l lda Into sueh a comfortable but a t a r i l a

a t t i tude toward priea deters&nation.*

*C. f • Eevlae, Coat and tealus 1» (law York, 1950)» pp. 704-71*•

44

m

I t mmm i l l o g i o a l to say t h a t pr loea mm alwaya f ixed

by eesspatit ton in the saarket and tha t the coat aoemmtaat *«

funct ion Is atarely to provide »oi®® »«*«*?© agaiaa i *t&*h

pr ieaa ea» h« #*a*i»#d and judged* fit® M*t accountant 1#

not a sal* anas* s®r l a be a p r i c c r . SI# duty i s to axprata

l a f iga raa ' the a c t i v i t i e s of the f&etory, gany people t * f a

a teahaiqva f a r determining prloea* Recognition

«*»t to® given t© the importance to any fcttalneea of the cap**

M l l t y t« eat prle«a a t a X«v«l which wilj, . laaore p r o f i t a b l e

t r ad ing over the | t t r i . I t t» a technique bom a t t x p e r t s a t t

which develops tha xmomtcioai, *«*e#«wrat o f tha Tain* of

' t ransact ion#

• fh»r© a re few# reaaena why a® few people pm»m»9 th®

true" technique f o r determining p r i c e s . One i s the lack: of

apprec ia t ion of the technique &a an element of hwalaee®

MiBtgmMit and the consequent laelc of f a o i i l t i a a f o r t r a i n -

ing of management» ' Tha other i s tha abaenee of am adequate

cont r ibut ion fro® the cost a c constat ant to t h i s l i t t l e - u n d e r -

stood a r t • I t may b® amid tha t mm t i l th® cost accountant

provides hi© con t r ibu t ion , a c&mpt ate technique cannot be

es tabl ished* Tha two mate f a u l t s of tha contr ibut ion ©f tha

coat ao count ant appaar t o hat

a . Hie coste and f igurea da not f i t in to tha Integra**

t l o n of p r ice determinat ion.

m

Hit tips*## mm net founded on the oaeontlftl .

Coating and prica de t® mine 11cm are tout part# of the

atruatura of bafflaea* eeono*jr« Production control* pur-

obaaing, estimating, budgetary ©oisfcrol, ' s»d aelling potential

ar« otbar important parta* Hal### the contribution to fee •

iR&de by those «tteer parte of the .wfeele i» accepted end' plaeed

'.«t the aervioe of the prieer, Ms technique oannot be cou-

plets'.5 fill*- is another way of fftytng that ©oat® tM fih con-

• fain provision for *11 overhead eeaaet adequately .

«®w» the prieer in M s »©rk, He »art know i wssedl @ te ly *mt

Iff likely - to happen if Js» p»ot®» « certain priee level and

%» order 1® aubeequently plaoed ®t thet priee* fhat It to

;.««$•* be swat Mvs established fact® on which. to determine

the limit© of prieea that are available to Mi* If, there** '

for®, the efforts of one of th® other parts of ilia baaineea

.*t*a*ture are mlt&ppXied, the ©there will b@ eorrea poBdIiagly

;handicapped and their effort* mollified* If the judgment -

or experience of the pricer is wrong, the cost accountant

and th® firm w y be feeed pith:';*erl«fc# aad wtfereaeeii lees of

$jfBG0&. If th# sost eecountant does not eupply the prleer

2C. ?* M w m m m end 1. I* Haralnel got time (Un&mx;. W€T), p. ??. ' • • - . . .

• » ' 'mi.i p. 78.

4*?

with tli® information necessary for M s activities, the pricer

cannot exercise freely and fully hia potential influence la

the development of employment and profit.

The matter of over- and under-absorption 1» of paramount

importance to Mm* If ta® is given total coats he should alto

to# told what under-aba orptiGn or over-absorption la likely.

He cannot be told this because It Is sot know at what capacity

the factory will be working daring the period la which, the

contract for which he is quoting prices .will be manufactured.

Instead of being given total costs with their Inevitable

under-absorption or over-absorption or the qualification

®ba®ed on a 0 » l production,® the pricer could he gives that

portion of west® known to be correct whatever happened.

fhia would b® ^marginal cost? le" known fro® M l planning

hoard what factory capacity oould be'filled by aeceptanee

of a number of hi* bids.

Another routing in perhaps simpler form would be MM

follows. ®he general production manager may indicate what

unused factory capacity he hit®. The pricer can then find

out how to fill the unused capacity to the heat advantage.

Be can assemble in figures the sale® value and the costs

of variou® selection® of possible 3 oh a. Having done that,

he can then determine the margins that would become availa-

ble if each group of jobs selected was manufactured, and

thu® compute the total margin® and proceed to classify the

group®. Be would then grade the group® according to their

48

margins. Shus having graded. th@»* when inquiries eoa® ia,

he ©am decide which to choose for quotation and which will

fill the factary and procure the beat net profit. true, fee

must be aware that it is better to accept an order of very

small margin than to leave the factory empty. If be had

tried, to do this on a "total* or *px>mml* cost basis, to

obtain a given-per cent of profit on the total cost, he

night very well have found that -the fir® would make less

profit than if he bad taken other work at what itpppared t©

be a lower profit percentage but with a small labor cohtent

because then he would have been able to take many wore orders.

On the other hand, with total or normal costs in v.m, fee

might find that the firm is worse off than if he had taken

©ther ^oh® showing less so-called **net profit1* with a larger

labor content that, for the same volume of orders, would

fill the shop.

there is no use in pretending that each order yields a

net profit? it does aot.^ It may appear to yield the pre-

determined 5 per cent or 10 per cent net profit if, after

the order has been made and sold, the factory was "normally®

full. But such lucky chances are extremely rare and should

not he ruling factors la industrial activity. Always ac-

companying "normal* cost# is the uader-absorption or over-

absorption that alters the 5 'or 10 per cent profit

%illia» A. Paton, Seeeat and groapeetlv# Sevelopeiita Accounting Theory, Business Research Studies

Tioston, 1940), p. 10.

4©

anticipated. It Is obvious that the lump 011m profit, like

the lump sua overhead, belongs to the business as a whole

and not to Jobs or any other sectional interests. Eaoh job

contributes to the aargia earned, which la turn ©over® fixed

expenses and, if sufficient, yields a net profit ae a lump

sim*

Bwamnrj

fhe following sujuamrizes the pitfalls in tha techniques

©f ®nonaal® ©eating as generally applied i M the advantages

t© b® gained by tha use of ^marginal® eosting* During a

ti»® of stable factory conditions, "normal4* costs are based

on a niseoneeption of the nature of overhead expenses.

lowal costs are never eorreet, because they always have t©

n

he adjusted*

1. They are incapable of being incorporated in clear

statement® ©f costs and profits#

2. When conditions are not stable and prices, wage

rates,, or other factors make it necessary to alter

eeata to reflect altered facts, normal eests are

elu»sy to adjust•

Marginal costs are always correct, and in fact the true

cost of production and of goods sold,®

s *%awreaee and Humphreys, op» clt», p. 2$.

®Ibid.

50

1* Thsy stataswnta of cost and profit tfa#t mvm

clear and fally inforsu*tlva»

t» 1than conditions ara not stable and prices, wag®

rates, or other factors ntk« It neeessary to altar

costs to reflect altered facta, varglnal eosts tit

staple and easy to adjxjst»

Perhaps enough lias been said to display feh® technique

of price determination with the aid of siarglnal costing,

bwt @ii the other band It m&j be wise to add a not® about

the f sirens old bogey *the half-filled shop* which tea® racked

the brains of industry for a qnarter of a oentnry. Tha

prlcer baa a fang© of prices from which to choose th© level

at which to fiat « particular prim, Boubtlessly, the mora .

sever® th© eoaspetiti an, th® smeller is th© rang*. But it

is essentlsl thst #®»e latitude .tibefeld-remifjt# whiefc mm be

insured only by such factors a* efficiency and economy in

tha factory and a auffieiont potential In sailing. It is*

however, certain that whsn depressions causa wit*thr6&t

competition in scans linas of production, a clearer view

than ever is naadad to enable tha prlcer to exercise his

function to th® bast advantage« For that purpose it is

essential that sumage»ent ba abla to see at a glance what

is happening.

-the quotation planning board and tha racord of margins

«nd budgeted expenses profit# tha only nethod giving tha

picture at once« In addition, tha trands of bus Insas and

prices ©an also ba seen If th# boards sat records are so

sa

deal ied* Marginal easting It the only ®&&m fey which for

each period It ©en be told at what level a loan 1* node. It

ha« been «*ld, "In wj a m the man who determines pricea 1*

.the eomptroller or the general manager flo he will know,*

It be added that th.la ocoupleft a gra«t deal of hit.

tine • of tb® prim© advantage* of* marginal oo eting In

P*iee determination it that the comptroller or general

manager la no longer required to set mil prices. So, in-

gfc«?»*id of toeing a Minor advantage, the reUevlug of senior

aanagenent of the greater portion of the pricing function

1# in Itself aufflolent to warrant the adoption of the

costing sethod*

In conclusion, what la needed la a revolution of

thou^it and conception, and the aeonar Industry awakes the

better''. W® can waintaln o*w pea&tioa In commerce only by

new and better thinking* new and better ottt looks, and new

and better method*•

k method of prlee .dtteratlnstlon with the aid of

Marginal costing has bean outllnad and Illustrated* Atten-

tlon oust now ba directed to the routine that la retire#

to *twe effect to tMs method.

CHfcFTBR V

PRICE DSTEfiMIHAKOS TJSIHG MARGINAL COSfliS

Marginal Costing for Prising

Consideration ©ay now ba given to the application of

marginal coating as a basis of price determination to a

epe#lfle problem in the fcrna division of the printing in-

dustry. to illuatrate this point, it'ii asmatrnd that a

printing plant la now using the hour-rat© or normal-rate

method of prloa determination, fims® rata® are it®®# in de-

termining prices covering type a and quantities of business

needing cpaoial eonaid®ration. Tb0&& fnotatleas ar® pre»

pared by the prlcer or estimator and are in turn reviewed

by top management before being released as firm qiaotationa.

9?he volume of business of the plant is appr oxitnat©ly ona

million dollars par month of tMsk 15 par ©eat la "estimated11

for prising purposes, the manufacturing unit utilleea field

aalasmen who eall directly upon the consumer and quota priees

from published sailing lists. The component parta of material,

labor0 variable expanse, fixed expense, and profit contained

in each selling price is known*

On the basis of the above information, the contribution

made by each order sold from the published lists to meet the

fixed expense la determinable. This mean# that the marginal

€©®t le-known for all order® manufactured during any specific

m

p«riod» and the contribution that these orders nalte to p w «

vide for the fixed overhead It also known*

Therefore, at amy tlsm during a period the pri ©or or

estimator will know the total soiling prloe of the orders

maimfaetmred and the &mo«at they have oontributid toward

fixed expense sad profit.

Combine this inforaiatif® with the total fixed oxpea»«

tad profit as reflected la the forecasted budget for th» soafch

or quarter, and the additional revenue needed for fixed ex-

pence and. profit 1# tenowxu Tbe pricer or estimator will #om»

s slt hie planning board ia order to determine the wanned

oapaeity available, and then study the record of siargins

quoted* He will then be able to determine a priee with foil

knowledge of the faets and a clear perception of the offest

of taking the order. Copending «p®m the circumstances,

his prleing will follow one of three alternative*t

1* To get the order aa long as there 1« scene wargin*

2, To get as nueh margin as possible to eospeasate low

•arglne already quoted

5* To select the prioe level whioh is ealeulated to

wRiatai» the good will of the austens? without too

great a loss of margin

Under present day praotioe and methods, the above repre-

sents the wishful thinking of every estimator or prioer.

The guess-work is g&vtm* Be knows the tsouat of unused capacity

54

and the amount of fixed expense m & profit. If my, that

-met be absorbed *

To farther Illustrate, It 1® sseua»d that the volua*

sold from the published lists has completely absorbed the

fixed expense end produced a profit• The prlcer or estimator

it new In a position to bid upon types of business which

represent large volume production, such as certain types of

dnl«f or gwermaent buslneee. Since 1m knows whet portions

of M s fixed expenses been absorbed or will he absorbed,

tee can with confidence bid for large volume la order to have'

a fall plant* If top «*nage«ent so directs, he can aim for

more lucrative orders with larger profit margins«

By this method, the prlcer or estimator will always

tmow- the margin for whioh he has quotations outstanding and

will know whether this margin le, sufficient to satisfy the

needs of the business in accordance with the polley in effeet

at the .tlMu

Shi ike orders* quotations are ..prone to fade away sai

never turn into factory load# Wtmn the quotation falls to

materialise, Its contribution of smrgin also fades out*

*hieh quotutions will eventually toectaw® orders# and when* la

unpredictable • Orders are cancelled, but not with the eawe

frequency that quotation.® becewe unsuccessful* Other factor#

which will affeot factory load* are- the stoppage or breslr**

down of production* and f el lure to obtain sufficient orders*

The prlcer or estimator atust be aware of these failures, as

§6

fa# must be aware of umsnecessful quotations, so that he amy

know the variations In the demands that are wad® upon M a

for extra ®arglns.

It is not within the pricar's power, nor that of any

individual, to ©onduet hi# own affairs to inirere that there

will always to© the necessary flow of work and the necessary

margins. that ©an only come from the malted effort® of all

sections of the business. the essentia! point 1® that the

prlcer or estimator shall haw available the information

and the equipment t© enable hia to perform M a part ©f the

*fcol£ task, and that he shall use th®» to the best advantage.

This will guide management in establishing price policy, with

the full story in marginal foraa#

Conclusion# and Recommendations

1?he advantages of marginal coating over the hour-rate

or normal costing now used a® the basis for prie® determina-

tion in the feme division of the printing industry are

based upon solid, physical facts of the case, plus the

•istpllsity of approach. - It is hoped that the representative

examples of. accounts and theory prove this point* The

adoption of this method is recommended to those of the in-

dustry as a basis of price determination, fhe procedure

described has been designed for that purpose and, with

modifications to suit specific applications, wi11 provide

the essential feature® of the pricer* s technique#

BXBUOOBfcffSr

Books

Alford. M* S«. Coat atnA Production Handbook, So* York, Th# mmutllmn ^5p«^7 WIST—

Blookor, John 0*, Coat Aocottntlna:. Bow fork, HoGr*w~HiXX leak Company,Tne.*» 1954 • '

Casiffism, Srle A*, B»glc Standard Costs. low To**, Aworiean Institute ItabXiohing "'to., l^WTT"

Hmwlxm, C* T», Cost iceoimting and Apilyilt, Mew York, ffao MacMillan tfowpany , ' 19&6• ***""*

GiXlotpio, CoelX, £ counting Premdmr% for Standard Costa, Se® York, fteo""S©®SlJJ"K#gfi ' w«, 'i#'S¥#

Lawreneo, C. P« sad Jhmpbroyc, S» 1., MarginsX Coi London, laeBonald and lvan«, X947* '

Reports

Ftioa, WilllMB A., B®o#Rt and Pr gp®otlv® B®ye3.op«i#atg< In fty panting yfe ,ry7""1ioll6la.." ira fel#'"School o# Bualnoa* Adraiki* t r»t1on, mrTwd Snirorisity, Business l#«#®rob Studios Xo* 25, 1940.

Etipabllshad Kst*rlal

Moor® Corporation, Ltd., Perms Division, Cost KarraaX, Rovisod ed., Deoember, W M *

m