In Marginal costing, explain what is contribution accounting and the difference between contribution and net profit. Explain what is contribution, contribution costing,and contribution graph.

Contribution is:

  • The difference between selling price and variable costs.
  • Can also be called “contribution towards fixed costs and profits”
  • This is because contribution is available to pay the fixed costs of a business and once the fixed costs are covered the contribution becomes the profit of the entity
  • Often seen in profit statement under marginal costing method.

Contributing accounting:

  • focuses on identifying fixed and variable costs and calculates the total contribution generated by a business. The total fixed costs are then deducted to give the net profit.

See below for the difference between Contribution and Net profit

Income Statement of Company XYZ

$ $
Sales 100,000

Variable costs-direct wages

Variable costs-direct materials 10,000 30,000
Contribution 70,000
Fixed costs-factory overheads 50,000
Fixed costs-administrative overheads 10,000 60,000
Net Profit 10,000

Contribution costing:-

  • Values a product using only the variable costs incurred in its production

Contribution pricing:

  • Sets the selling price of a product at a value below total unit cost but one that will cover variable costs.
  • Used in short-term decision-making so that the pricing is able to give a positive contribution that is able to cover variable cost to contribute towards fixed costs and profits

Contribution Graph:

  • An alternative presentation of a break-even chart. Sales revenue is graphed from the origin as in a traditional break-even chart. Variable costs are also graphed from the origin and then fixed costs are built onto the variable costs.

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