Marginal Costing and Cost-Profit-Volume Analysis€¦ · even below the total cost. For instance, when there is a general trade depression (or) exploring new markets (or) accepting

CHAPTER-3

Marginal Costing and

Cost-Profit-Volume Analysis

Introduction and Marginal Costing

Applications of Marginal Cost Technique

Principles of Marginal Costing

Main Features of Marginal Costing

Advantages and Disadvantages of Marginal Costing

Determination of Marginal Costing

Break Even Analysis

Management Tools

Limitations of Break Even Point

Problem Limitations and Uses of Break Even Charts

Marginal Costing

Comparative Analysis of Cost Management

Profit Margin Analysis

· Operating Profit Ratio

· Gross Profit Ratio

· Net Profit Ratio

INTRODUCTION OF MARGINAL COSTING

Marginal Costing is the process of identification, measurement,

accumulation analysis, preparation, interpretation and communication of

information used by management to plan, evaluate and control within an

entity and to assure appropriate use of and accountability for its

resources. Management accounting also comprises the Preparation of

financial report for non management groups such as share holders,

creditors, regulatory agencies and tax authorities.

Marginal costing is not a separate method of costing like contract

costing, process costing or operating costing rather it is a specific

technique of costing where variable cost for different levels of sales is

presented in such a manner that manager can take day to day decisions.

Marginal cost means change in cost which will be observed when

Production is increased or decreased by one unit up to a certain level of

Production. As fixed cost is fixed, change in cost will be equal to

variable cost per unit. Thus from practical point of view, marginal cost is

just equal to overall variable cost per unit. Where overall variable cost

per unit is sum total of the followings1:-

(1) Prime cost per unit.

(2) Variable overhead per unit

(3) Variable Part of semi-variable overhead.

91

1. Cooper R. (2010), “Cost classifications in unit-based and activity based manufacturing cost

systems”, Journal of Cost Management, Fall, pp.4-14.

The marginal cost is the cost to produce one additional unit. This

cost would include the raw materials used to make the item, the average

labour cost of the item, the average machine or hardware cost associated

with creating the item. Marginal costs are sometimes very difficult to

assess. First, we must determine the useful life of our machinery, that

can be a very subjective determination. Typically, the raw material is

easy to assess, although not always, determining Marginal cost is much

easier in a manufacturing setting that it is in a service oriented area.

Marginal costing what is it? Marginal cost is a term used to

describe the change in total cost of production resulting from the

addition of one item. It can also be seen as the avoidable cost of not

producing an additional item. It is usual to look at short term marginal

cost, which is an additional cost when only some of the cost of

production can be varied in long term or more commonly known as long

run marginal cost is the change in cost when all input cost can be varied.

It is closely related to marginal cost pricing, in which prices are set at an

amount equal to the Marginal Cost.

Marginal Costing is that technique of costing in which cost and

profit are ascertained on the basis of marginal cost per unit. It can be

defined as follows :-

“Marginal Costing is the ascertainment of marginal cost and of the

effect on profit due to changes in volume or type of output by

differenting between fixed cost and variable cost.”2

92

2. Green F.B. and Amenkhienan F.E. (1992), “Accounting innovations: A cross sectional survey of

manufacturing firms”, Journal of Cost Management for the Manufacturing Industry, Spring

58–64.

Definition of Marginal Costing

In the words of J. Batty, “Marginal Costing is a technique of cost

accounting which pays special attention to the behavior of cost, with

changes in the volume of output.” According to ICMA, England,

“Marginal cost in the amount at any given volume of output, by which

aggregate cost are changed, if the volume of output in increased or

decreased by one unit.”

Applications of Marginal Cost Technique

Marginal costing is the most powerful and popular technique in aid

of managerial decision making, As already seen, It reveals the cost,

volume profit relationship in all its ramifications which is useful in profit

planning, selling price determination, selection of optimum volume of

production etc.3

Marginal costing, with its focus on variability of costs and

avoidance of overhead apportionment, is so versatile that it is applied in

varied circumstances and to tackle diverge problems by those in charge

of such situations. The following are some of the more popular areas of

application of marginal costing.4

1. Fixation of Selling Price

Price is one of the most significant factor that determines the

market for the products as well as the volume of profit for the

93

3. Drucker P.F. (1994), “Cost control and management”, in Management Controls: New Directions

in Basic Research (eds C.P. Bonini, R. Jaedicke and H. Wagner), McGraw-Hill, p.174.

4. Kaplan R.S. and Cooper R. (1998), “Cost and Effect: Using Integrated Systems to Drive

Profitability and Performance, Harvard Business School Press, p.251-55.

organization. Under, normal circumstances, the price of a product must

cover the total costs of the product plus a margin of profit.

However, under certain special circumstances, price has to be fixed

even below the total cost. For instance, when there is a general trade

depression (or) exploring new markets (or) accepting additional orders,

the producer has to cut the price even below the total costs of the

concerned product.

Under these special circumstances, the concept of marginal cost is

usefully applied to fit the prices.

2. Accepting Bulk Orders (or) Foreign Market Orders

Some bulk orders may be received from local dealers (or) foreign

dealers asking for a price which is below the market price. This calls for

a decision to accept (or) reject the order.

The order from a local dealer should not be accepted at a price

below the market price because it will affect the normal market and

goodwill of the company on the other hand, the order from the foreign

dealer should be accepted because it will give additional contribution, as

the fixed costs have already been met.

3. Make (or) Buy Decision

In a make (or) buy decision, the price quoted by the outside

suppliers should be compared with the marginal cost of producing the

component parts. If the outside price of the component is lower than the

marginal cost of producing it, it is worth buying. On the other hand, if

94

the outside price is higher than the marginal cost, making the component

in the factory may be preferred.

4. Selection of Suitable Product Mix

When a factory manufacturers more than one product, a problem is

faced by the management as to which product will give maximum

profits. The solution is the products which give the maximum

contribution are to be retained and their production should be increased.

5. Key Factor

It is also known as limiting factor (or) governing factor or scarce

factor. A key factor is one which restricts production and profit of a

business. It may arise due to the shortage of material, labour, capital

plant capacity (or) sales.

Normally, when there is no limiting factor, the selection of the

product will be on the basis of the highest P/V ratio. But, when there are

limiting factors, selection of the product will be on the basis of the

highest contribution per unit of the key factor.

6. Maintaining a Desired Level of Profit

Management may be interested in maintaining a desired level of

profits. The sales required to earn a desired level of profits can be

ascertained by the marginal costing techniques.

7. Alternative methods of Production

Marginal costing is helpful in comparing the alternative methods of

production i.e., machine work (or) hand work. The method which gives

95

maximum contribution is to be adopted keeping in mind the limiting

factor.

8. Determination of Optimum Level of Activity

The technique of marginal costing helps the management in

determination the optimum level of activity. To make such a decision,

contribution at different levels of activity can be found. The level of

activity which gives the highest contribution will be the optimum level.

The level of production can be raised till the marginal cost does not

exceed the selling price.

9. Evaluation of Performance

Evaluation of performance efficiency of various departments or

product lines can be made with the help of marginal costing. The

management has to discontinue the production of non-profitable

products or department so as to maximize the profits. In such cases,

decision to discontinue will be on the basis of the lowest contribution or

P/V Ratio.

10. Cost Control

The two types of costs-variable and fixed are controllable and

non-controllable respectively. The variable cost is controlled by

production department and the fixed cost is controlled by the

management.

11. Closure of a Department or Discontinuing a Product

Marginal costing technique shows the contribution of each product

to fixed costs and profit. If a department or a product contributes the

least amount, then the department can be closed (or) its production can

96

be discountinued. It means the product which gives a higher amount of

contribution may be chosen and the rest should be discontinued.

12. Profit Planning

Profit planning is a plan for future operation (or) or planning

budget to attain the given objective or to attain the maximum profit. The

volume of sale required to maintain a desired profit can be ascertained.

13. Introduction of a New Product

A production firm may add additional products with the available

facility. The new product is sold in the market at a reasonable price, in

order to sell it in large quantities. It may become popular. If favourable,

the sales can be increased. Thus, the total cost comes down and

contributes some amount towards fixed costs and profits.

14. Choice of Technique

Every management wishes to manufacture the products at the most

economical way. For this, the marginal costing is a good guide as to the

products at different stages of production, that is to say whether the

management has to adopt hand operated system (or) semi-automatic

system or complete automatic system. When operations are done

manually, fixed cost will be lower than the fixed cost incurred by

machines and in complete automatic system, fixed costs are more than

variable cost.

97

15. Decision Making

Price must not be less than total cost under normal conditions,

Marginal costing acts as a price fixer and a high margin will contribute

to the fixed cost and profit. But this principle cannot be followed every

time. Price should be equal to marginal cost plus a reasonable amount,

which depends upon demand and supply, competition, policy of pricing

etc.

If the price is equal to marginal cost, then there is a loss equal to

fixed costs. Sometimes, the businessman has to face loss when

(a) there is cut-threat competition

(b) there is the fear of future market

(c) that goods are of perishable nature d) the employees cannot

be removed

(e) a new product is introduced in the market

(f) competitors cannot be driven out etc.

16. Introduction of New Product (or) Product Line

The technique to assess the profitability of a line extension product

is the incremental contribution estimates. The same technique of

contribution analysis would be followed in assessing the profitability of

a new product line sales forecast would result from a market survey and

market research.

98

PRINCIPLES OF MARGINAL COSTING

The principles of marginal costing are as follows5:-

1. For any given period of time, fixed costs will be the same, for

any volume of sales and production provided that the level of

activity is within the relevant range. Therefore, by selling

extra item of product or service the following will happen: (1)

Revenue will increase by the sales value of the item sold. (2)

Cost will increase by the variable cost per unit. (3) Profit will

increase by the amount of contribution earned from the extra

item.

2. Similarly, if the volume of sales falls by one item, the profit

will fall by the amount of contribution earned from the item.

3. Profit measurement should therefore be based on an analysis

of total contribution. Since fixed costs relate to a period of

time, and do not change with increases or decreases in sales

volume, it is misleading to charge units of sales with a share

of fixed costs.

4. When a unit of product is made, the extra costs incurred in its

manufacture are the variable production costs. Fixed costs are

unaffected, and no extra fixed costs are incurred when output

in increased.

MAIN FEATURES OF MARGINAL COSTING

(i) Marginal Costing is a technique of decision making.

99

5. Berliner C. and Brimson J.A. (1998), “Cost Management for Today’s Advanced

Manufacturing”, Harvard Business School Press, p.217.

(ii) The total cost is classified into fixed and variable cost.

(iii) Fixed cost are ascertained separately and excluded from cost

of production. The fixed costs are charged to Profit and loss

account.

(iv) The stock of work in Progress and finished goods are valued

at variable cost. Fixed cost will not be included in valuation

of the stock.

(v) Contribution is ascertained by reducing the variable cost from

the selling price.

(vi) The profitability of products or process is determined on the

basis of contribution.

(vii) Profit is ascertained by reducing the fixed cost from the

contribution of all the products or departments or process or

division etc.

(viii) The profitability of various levels of activity is ascertained by

calculating cost volume profit relationship.6

ADVANTAGES AND DISADVANTAGES OF MARGINAL

COSTING

Advantages

1. Marginal costing is simple to understand.

2. By not charging fixed overhead to cost of production, the

effect of varying charges per unit is avoided.

100

6. Merchant K.A. (2008), “Modern Management Control Systems: Text and Cases”, Prentice-Hall,

New Jersey, p.85.

3. It prevents the illogical carry forward in stock valuation of

some proportion of current year’s fixed overhead.

4. The effects of alternative sales or production policies can be

more readily available and assessed, and decisions taken

would yield the maximum return to business.

5. It eliminates large balance left in overhead control accounts

which indicates the difficulty of ascertaining an accurate

overhead recovery rate.

6. Practical cost control is greatly facilitated avoiding arbitrary

allocation of fixed overhead, efforts can be concentrated on

maintaining a uniform and consistent marginal cost. It is

useful to various levels of management.

7. It helps in short-term profit planning by breakeven graphs and

profitability analysis. Comparative profitability, performance

between two or more products and divisions can easily be

assessed and brought to the notice of management for

decision making.

Disadvantages

1. The separation of costs into fixed and variable is difficult and

sometimes gives misleading results.

2. Normal costing systems also apply overhead under normal

operating volume and this shows that no advantage is gained

by marginal costing.

101

DETERMINATION OF MARGINAL COSTING

Marginal costing is ascertainment of the marginal cost which varies

directly with the volume of production by differentiating between fixed

costs and variable costs and finally ascertaining its effect on profit.

Marginal costing is an accounting system where only variable cost or

direct labour will be charged to the cost of units. This costing technique

is also known as direct costing. Fixed costs are never charged to

production. They are written off to the profit and loss account. Marginal

costing focuses on the relationship between cost, price and volume. This

method concentrates on the controllable aspects of business by

separating fixed and variable costs. Marginal Costing helps in Pricing

decisions, showing the true profit of the period, preparing break-even

analysis and also Business Decision making like, Fixation of selling

price, Key or limiting factor, Make or buy decisions, Selection of a

suitable product mix, Effect of change in price, closing down or

suspending activities, Maintaining a desired level of profit. Marginal

cost is the cost management technique for the analysis of cost and

revenue information and for the guidance of management. Absorption

costing and marginal costing are two different techniques of cost

accounting. Absorption costing is widely used for cost control purpose

whereas marginal costing is used for managerial decision-making and

control.7

102

7. Cooper R. (2010), op.cit., p.10.

Estimation of Units Produced

The Gems and Jewellery industry is associated with differentiated

products and the estimation of the amount of quantity produced and cost

of the item will vary greatly, depending on the types of gems and

precious-stones used in the jewellery. In addition, the accurate cost

estimation of the product cost is not possible because jewellery is

manufactured using different metal alloys, different gem stones, and

different precious-stones. In order to estimate the quantity of items

manufactured during a particular financial year we estimate the material

equivalent gold used in production by dividing the cost of material

consumed with the average price of gold during the corresponding

financial year. Further, we assume that the company is manufacturing

homogenous product and each product weights 100 grams. Using this

method we can estimate the number of units manufactured during a

given financial year.8

Costing Pattern at Surana Jewellers Corporation Ltd

The results in Table 3.1 summarize the cost pattern at Surana

Jewellers Corporation Limited during the last five financial years. It can

be observed that material cost is the main cost for this company followed

by administrative expenses and personnel expenses.

103

8. Kaplan R.S. and Cooper R. (1998), op.cit., p.259.

Table 3.1

Cost associated with Gems and Jewellery Manufacturing at Surana

Jewellers Corporation Ltd

(From 2009-10 to 2013-14)(Rs. in lacs)

Particulars 2009-10 2010-11 2011-12 2012-13 2013-14

Material Consumed 1,58,527 2,20,631 3,93,861 5,18,424 8,50,190

Personnel Expenses 158 253 280 357 374

Manufacturing Expenses 58 25 43 36 139

Selling Expenses 19 4 11 17 -

Administrative Expenses 441 224 337 337 1,254

Cost of Sales 1,59,202 2,21,137 3,94,531 5,19,171 8,51,957

Average Gold Price 12.23 15.23 18.24 24.87 29.71

Material Equivalent Gold (in kg)

12965 14484 21589 20848 28614

Number of UnitsProduced (1Unit = 100 gms)

129653 144843 215891 208477 286137

Source: Annual Reports and Accounts of the Company from 2009-10 to 2013-14.

Table 3.1 shows that cost of material consumed had an increasing

trend throughout the period under study. It was Rs. 158527 lacs in

2009-10 which increased continuously as Rs. 220,631 lacs in 2010-11,

Rs. 393,861 lacs in 2011-12, Rs. 518,424 lacs in 2012-13 and reached up

to Rs. 850,190 lacs in the final year 2013-14.

Personnel Expenses also have continuously increased trend.

Initially, in the year 2009-10, these expenses amounted Rs. 158 lacs

which reached to Rs. 253 lacs in 2010-11, Rs. 280 lacs in 2011-12,

Rs. 357 lacs in 2012-13 and up to Rs. 374 lacs in 2013-14.

Manufacturing expenses for Surana Jewellers showed a fluctuating

trend during the study period. In 2009-10, the amount of manufacturing

104

expenses was Rs. 58 lacs which came down sharply to Rs. 25 lacs in

2010-11, then increased to Rs. 43 lacs in 2011-12 but again decreased to

Rs. 36 lacs in 2012-13. Finally, it increased and climbed up to Rs. 139

lacs in the year 2013-14. From this analysis, it seems that manufacturing

was not consistent during the period under study.

Selling and administrative expenses also showed a fluctuating trend

but cost of sales increased continuously. It was Rs. 159,202 lacs in

2009-10 which increased to Rs. 221,137 lacs in 2010-11, Rs. 394,531

lacs in 2011-12, Rs. 519,171 lacs in 2012-13 and reached to Rs. 851,957

lacs in 2013-14.

Number of units produced by the firm also had an increasing trend

except in the year 2012-13. In the year 2009-10, 129653 units were

produced. This number increased to 144843 in 2010-11and reached to

215891 in 2011-12. It 2012-13, it came down slightly to 208477 but

increased up to 286137 in the final year 2013-14.

Now, different ratios e.g., material to prime cost, direct labour to

prime cost, direct exp. to prime cost and profit to sale, have been

calculated and given in Table 3.2.

105

Table 3.2

Different Ratios of Surana Jewellers Corporation Ltd(Ratio in Percent)

Year Direct Materialto Prime Cost

Direct Labour to Prime Cost

Direct Exp. toPrime Cost

Profit toSale

2009-10 99.86 0.036 0.099 4.01

2010-11 99.87 0.011 0.110 1.51

2011-12 99.91 0.071 0.011 2.80

2012-13 99.93 0.007 0.053 2.33

2013-14 99.94 0.043 0.016 1.72

Average 99.90 0.034 0.058 2.47

S.D. 0.036 0.026 0.046 0.99

C.V. 0.000 0.775 0.792 0.403

Source: Annual Reports and Accounts of the Company for the period from 2009-10 to 2013-14.

Table 3.2 shows that among the ratios calculated and presented,

material to prime cost ratio was always highest (more than 99.8 percent)

which is obvious as material (gold) is most precious in gems and

jewellery business and other costs and expenses are very low in

comparison to its cost. Direct Material to prime cost was almost

consistent but had an increasing trend as the ratio was 99.86 percent in

2009-10 which increased slightly to 99.87 percent in 2010-11, 99.91

percent in 2011-12, 99.93 percent in 2012-13 and reached to 99.94

percent in 2013-14.

For Surana Jewellers, direct labour to prime cost and direct

expenses to prime cost ratios have low values with fluctuating trend.

Profit to sale ratio had a decreasing trend for the period under study

except in the year 2011-12. In 2009-10, the ratio was 4.01 percent

(highest) which decreased sharply to 1.51 percent (lowest) in 2010-11

106

but increased to 2.80 percent in 2011-12. After that it came down to 2.33

percent in 2012-13 and declined up to 1.72 percent in the final year

2013-14. The average ratio was 2.47 percent which is very low, high

values of standard deviation and coefficient of variation indicate

fluctuating trend which should be controlled and the ratio should be

improved in future.

Costing Pattern at Classic Diamonds (India) Ltd

Table 3.3 summarizes the cost pattern at Classic Diamonds (India)

Limited during the last five financial years.

Table 3.3

Cost associated with Gems and Jewellery Manufacturing at Classic

Diamonds (India) Ltd

(From 2009-10 to 2013-14)(Rs. in lacs)

Particulars 2009-10 2010-11 2011-12 2012-13 2013-14

Material Consumed 56382 54489 58070 44335 20793



Selling Expenses 297 93 72 - -

Administrative Expenses 750 491 480 509 289

Cost of Sales 64169 58236 60695 45970 21540



4610 3578 3184 1783 700


46101 35777 31837 17827 6999


Table 3.3 shows that cost of material consumed had a decreasing

trend throughout the period under study except in the year 2011-12. It

107

was Rs. 56382 lacs in 2009-10 which decreased to Rs. 54489 lacs in

2010-11 but increased to Rs. 58070 lacs in 2011-12. Then it came down

to Rs. 44335 lacs in 2012-13 and declined up to Rs. 20793 lacs in the

final year 2013-14.

Personnel Expenses also had decreasing trend except in the year

2011-12. Initially, in the year 2009-10, these expenses amounted

Rs. 2871 lacs (maximum) which decreased to Rs. 1789 lacs in 2010-11

but increased to Rs. 1853 lacs in 2011-12. Then it decreased sharply to

Rs. 1025 lacs in 2012-13 and came down further to Rs. 423 lacs

(minimum) in 2013-14.

Manufacturing expenses for Classic Diamonds showed a sharp

decreasing trend during the study period. In 2009-10, the amount of

manufacturing expenses was Rs. 3870 lacs (maximum) which came

down sharply to Rs. 1374 lacs in 2010-11, Rs. 219 lacs in 2011-12,

Rs. 101 lacs in 2012-13. Finally, it decreased up to Rs. 35 lacs

(minimum) in the year 2013-14. From this analysis, it seems that

manufacturing was decreasing continuously which indicate the

decrement in business.

Selling and administrative expenses also shows decreasing trend as

well as cost of sales decreased continuously except in the year 2011-12.

It was Rs. 64169 lacs in 2009-10 which decreased to Rs. 58236 lacs in

2010-11, then increased to Rs. 60695 lacs in 2011-12, but again

decreased to Rs. 45970 lacs in 2012-13 and came down to Rs. 21540

lacs in 2013-14. It was because of decreased production. It is suggested

108

that the management of the firm should try to increase the sales but

increasing additional expenses on adjusting and marketing.

Number of units produced by the firm also had a decreasing trend.

In the year 2009-10, 46101 units (highest) were produced. This number

decreased to 35777 in 2010-11, 31837 in 2011-12, 17827 in 2012-13,

and came down to 6999 units (lowest) in the year 2013-14.

Different ratios have been calculated for Classic Diamonds and

given in Table 3.4.

Table 3.4

Ratio Analysis of Classic Diamonds (India) Ltd(Ratio in Percent)


Direct Labour toPrime Cost


Profit toSale

2009-10 89.32 4.54 6.13 4.16

2010-11 94.51 3.10 2.38 4.24

2011-12 96.55 3.08 0.36 13.42

2012-13 97.52 2.25 0.22 8.35

2013-14 97.84 1.99 0.16 6.58

Average 95.15 2.99 1.85 7.35

S.D. 3.51 0.99 2.57 3.82

C.V. 0.037 0.333 1.387 0.519


Table 3.4 shows that material to prime cost ratio had an increasing

trend. The ratio was 89.32 percent (lowest) in 2009-10 which increased

to 94.51 percent in 2010-11, 96.55 percent in 2011-12, 97.52 percent in

2012-13 and reached to 97.84 percent in 2013-14.

109

For Classic Diamonds, direct labour to prime cost and direct

expenses to prime cost ratios have low values with decreasing trend.

Profit to sale ratio had an increasing cum decreasing trend for the period

under study. In 2009-10, the ratio was 4.16 percent (lowest) which

increased to 4.24 percent in 2010-11 and reached up to 13.42 percent

(highest) in 2011-12. After that it came down to 8.35 percent in 2012-13

and declined up to 6.58 percent in the final year 2013-14. The average

ratio was 7.35 percent which is moderate. It is suggested that the firm

should improve the ratio keeping fluctuations in control.

Costing Pattern at Gitanjali Gems Limited

The results in Table 3.5 summarizes the cost pattern at Gitanjali

Gems Limited. It can be observed that material cost is the main cost for

this company followed by manufacturing expenses and administrative

expenses.

Table 3.5Cost associated with Gems and Jewelry Manufacturing at

Gitanjali Gems Ltd(From 2009-10 to 2013-14) (Rs. in lacs)

Particulars 2009-10 2010-11 2011-12 2012-13 2013-14


Personnel Expenses 1,163 1,580 1,505 2,480 2,651

Manufacturing Expenses 8,134 5,408 6,961 13,805 17,618

Selling Expenses 1,695 1,492 1,385 2,092 -

Administrative Expenses 2,076 2,467 3,111 2,981 15,582

Cost of Sales 2,47,610 2,48,625 3,12,500 4,76,887 7,34,959



19178 15606 16422 18316 23531


191776 156060 164220 183164 235310


110

Table 3.5 shows that cost of material consumed had a continuously

increasing trend throughout the period under study. It was Rs. 234,542

lacs in 2009-10 which increased to Rs. 237,679 lacs in 2010-11,

Rs. 299,537 lacs in 2011-12, Rs. 455,529 lacs in 2012-13 and rose up to

Rs. 699,107 lacs in the final year 2013-14.

Personnel and manufacturing expenses had increasing trend during

almost entire period which indicate that manufacturing was increasing

which indicate the improvement in business.

Selling and administrative expenses show some fluctuating trend

but cost of sales had an increasing trend continuously. It was Rs.

247,610 lacs in 2009-10 which increased to Rs. 248,625 lacs in 2010-11,

Rs. 312,500 lacs in 2011-12, Rs. 476,887 lacs in 2012-13 and reached

up to Rs. 734,959 lacs in 2013-14.

Number of units produced by the firm also had an increasing trend


produced. This number decreased to 156060 units (lowest) in 2010-11,

which then increased to 164220 units in 2011-12, 183164 units in

2012-13 and finally reached to 235310 units (highest) in the year

2013-14.

Different ratios have been calculated for Gitanjali Gems and given

in Table 3.6.

111

Table 3.6

Ratio Analysis of Gitanjali Gems Ltd(Ratio in Percent)




Profit toSale

2009-10 96.18 0.48 3.33 3.36

2010-11 97.14 0.65 2.21 5.90

2011-12 97.25 0.49 2.26 4.64

2012-13 96.54 0.53 2.92 4.32

2013-14 97.18 0.37 2.45 3.08

Average 96.86 0.50 2.63 4.26

S.D. 0.47 0.10 0.48 1.12

C.V. 0.005 0.200 0.182 0.263



trend except in the year 2012-13. The ratio was 96.18 percent in 2009-10

which increased to 97.14 percent in 2010-11 and reached to 97.25

percent in 2011-12. Then it decreased to 96.54 percent in 2012-13 but

increased and finally reached to 97.18 percent in 2013-14.

For Gitanjali Gems, direct labour to prime cost and direct expenses

to prime cost ratios have low values with fluctuating trend. Profit to sale

ratio had a decreasing trend for the period under study except in the year

2010-11. In 2009-10, the ratio was 3.36 percent which increased to 5.90

percent (highest) in 2010-11 but after that decreased to 4.64 percent in

2011-12, 4.32 percent in 2012-13 and declined up to 3.08 percent

(lowest) in the final year 2013-14. The average ratio was 4.26 percent

which is not satisfactory and should be improved. It is suggested that the

112

management of the firm should try to increase the percentage of profit

by controlling the cost.

Costing Pattern at Vaibhav Gems Limited

Table 3.7 showed cost associated with Gems and Jewellery

manufacturing at Vaibhav Gems Ltd for the period from 2009-10 to

2013-14.

Table 3.7

Cost associated with Gems and Jewelry Manufacturing at Vaibhav

Gems Ltd

(From 2009-10 to 2013-14)(Rs. in lacs)

Particulars 2009-10 2010-11 2011-12 2012-13 2013-14

Material Consumed 25399 6138 9464 10457 13075



Selling Expenses 138 110 146 205


Expenses Capitalized -37

Cost of Sales 28813 31443 11391 13058 16087



2077 1060 519 420 440


20768 10596 5189 4205 4401


The results in Table 3.7 summarize the cost pattern at Vaibhav

Gems Limited. It can be observed that material cost is the main cost for

this company followed by personnel expenses, manufacturing and

administrative expenses.

113

Table 3.7 shows that material consumed had a continuously

increasing trend throughout the period under study except in the year

2010-11. It was Rs. 25399 lacs in 2009-10 (highest) which decreased

sharply to Rs. 6138 lacs in 2010-11, but increased to Rs. 9464 lacs in

2011-12, Rs. 10457 lacs in 2012-13 and reached up to Rs. 13075 lacs in

the final year 2013-14.

Personnel expenses had a decreasing cum increasing trend. These

amount was Rs. 1882 lacs in 2009-10 which decreased to Rs. 1323 lacs

in 2010-11 and further cae down to Rs. 1132 lacs in 2011-12. Then it

increased to Rs. 1434 lacs in 2012-13 and inclined up to Rs. 1625 lacs in

the final year 2013-14.

Manufacturing expenses also showed exactly similar trend during

the study period. The amount for manufacturing expenses was Rs. 788

lacs in 2009-10 which decreased to Rs. 485 lacs in 2010-11 and declined

to Rs. 414 lacs in 2011-12. Afterwards, it increased to Rs. 602 lacs in

2012-13 and reached up to Rs. 811 lacs in the year 2013-14.

Selling and administrative expenses showed some fluctuating trend

but cost of sales had an increasing trend except in the year 2011-12. It

was Rs. 28813 lacs in 2009-10 which increased to Rs. 31443 lacs in

2010-11, but came down sharply to Rs. 11391 lacs in 2011-12, which

then increased again to Rs. 13058 lacs in 2012-13 and rose up to

Rs. 16087 lacs in 2013-14.

Number of units produced by the firm had a decreasing trend

except in the year 2013-14. In the year 2009-10, 20768 units (maximum)

were produced. This number decreased rapidly to 10596 units in

114

2010-11, 5189 units in 2011-12 and declined to 4205 units (minimum) in

2012-13. Finally, the number increased somewhat and reached to 4401

units in the year 2013-14. It is suggested that the management of the

firm should try to increase the sale by arranging and participating in the

exhibitions.

Table 3.8 showed different ratios of Vaibhav Gems Ltd for the

period from 2009-10 to 2013-14.

Table 3.8

Different Ratios of Vaibhav Gems Ltd(Ratio in Percent)




Profit toSale

2009-10 90.49 6.70 2.81 3.69

2010-11 77.25 16.65 6.10 3.06

2011-12 85.95 10.28 3.76 2.78

2012-13 83.70 11.48 4.82 6.12

2013-14 84.29 10.47 5.22 4.25

Average 84.34 11.12 4.54 3.98

S.D. 4.77 3.58 1.28 1.32

C.V. 0.057 0.322 0.282 0.333


Table 3.8 shows that material to prime cost ratio had a fluctuating

trend. It was 90.49 percent (highest) in 2009-10 which decreased to

77.25 percent in 2010-11, then increased to 85.95 percent in 2011-12 but

declined again to 83.70 percent in 2012-13. Finally, it increased slightly

to 84.29 percent in 2013-14.

For Vaibhav Gems, direct labour to prime cost and direct expenses

to prime cost ratios have low values with fluctuating trend. Profit to sale

115

ratio had a fluctuating trend for the period under study. In 2009-10, the

ratio was 3.69 percent which decreased to 3.06 percent in 2010-11 and

came down to 2.78 percent (lowest) in 2011-12 but after that it increased

sharply to 6.12 percent in 2012-13 and lastly, the ratio declined and

came down to 4.25 percent in the final year 2013-14. The average ratio

was 3.98 percent which is not satisfactory and should be improved in the

future. It is suggested that the firm should increase this ratio by

increasing sales and controlling the cost.

Costing Pattern at Rajesh Exports Ltd

The results in Table 3.9 summarize the cost pattern at Rajesh

Exports Limited. It can be observed that material cost is the main cost

for this company followed by administrative expenses and personnel

expenses.

Table 3.9Cost Associated with Gems and Jewellery Manufacturing at Rajesh

Exports Limited(From 2009-10 to 2013-14)

(Rs. in lacs)

Particulars 2009-10 2010-11 2011-12 2012-13 2013-14




Selling Expenses 256 321 308 1012


Cost of Sales 8,14,170 11,90,584 18,21,489 20,42,692 25,04,703



66147 77883 99668 81727 84162


661465 778832 996681 817267 841622


116

Table 3.9 shows that material consumed had a continuously

increasing trend throughout the period under study. It was Rs. 808972

lacs in 2009-10 (lowest) which increased to Rs. 1186161 lacs in

2010-11, Rs. 1817947 lacs in 2011-12, Rs. 2032542 lacs in 2012-13 and

reached up to Rs. 2500460 lacs in the final year 2013-14.

Personnel expenses had an increasing trend except in the year

2010-11. Their amount was Rs. 492 lacs in 2009-10 which decreased to

Rs. 430 lacs in 2010-11 but increased to Rs. 513 lacs in 2011-12,

Rs. 565 lacs in 2012-13 and inclined up to Rs. 1891 lacs in the final

year 2013-14.

Manufacturing expenses showed increasing trend except in the yaer

2010-11. The amount for manufacturing expenses was Rs. 34 lacs in

2009-10 which decreased to Rs. 31 lacs in 2010-11 but increased to

Rs. 33 lacs in 2011-12. Afterwards, it increased to Rs. 51 lacs in

2012-13 and reached up to Rs. 190 lacs in the year 2013-14.

Selling and administrative expenses shows some fluctuating trend

but cost of sales had an increasing trend. It was Rs. 814170 lacs in

2009-10 which increased to Rs. 1190584 lacs in 2010-11, Rs. 1821489

lacs in 2011-12, Rs. 2042692 lacs in 2012-13 and rose up to

Rs. 2504703 lacs in the final year 2013-14.

Number of units produced by the firm had an increasing trend


produced. This number increased rapidly to 778832 units in 2010-11 and

reached to 996681 units in 2011-12. Then, it declined to 817267 units in

117

2012-13. Finally, the number increased somewhat and reached to

841622 units in the year 2013-14. It is suggested that the management of

the firm shuld control the decreasing trend.

Table 3.10 showed different ratios of Rajesh Exports Ltd for the

period from 2009-10 to 2013-14.

Table 3.10

Ratio Analysis of Rajesh Exports Ltd(Ratio in Percent)


Direct Labour to Prime Cost


Profit toSale

2009-10 99.94 0.060 0.004 0.73

2010-11 99.96 0.036 0.004 4.71

2011-12 99.97 0.028 0.002 1.53

2012-13 99.98 0.018 0.002 (-)2.01

2013-14 99.92 0.075 0.005 2.43

Average 99.95 0.04 0.003 1.48

S.D. 0.02 0.02 0.001 2.45

C.V. 0.000 0.542 0.395 1.659



trend except in the year 2013-14. It was 99.94 percent in 2009-10 which

increased to 99.96 percent in 2010-11, then increased slightly to 99.97

percent in 2011-12 and 99.98 percent in 2012-13. Finally, it decreased

and came down to 99.92 percent in 2013-14.

For Rajesh Exports, direct labour to prime cost and direct expenses

to prime cost ratios have low values with downward trend. Profit to sale

ratio had a fluctuating trend for the period under study. In 2009-10, the

118

ratio was 0.73 percent which increased to 4.71 percent in 2010-11 but

came down to 1.53 percent in 2011-12 and became negative to -2.01

percent in 2012-13 and lastly, the ratio inclined and reached to 2.43

percent in the final year 2013-14. The average ratio was 1.48 percent

which is not satisfactory and should be improved by increasing sales and

controlling the cost.

TEST OF SIGNIFICANCE (Two Way Analysis of Variance)

Test of significance has been applied by using two way analysis of

variance as follows:

1. Direct Material to Prime Cost

Following hypotheses have been set and tested-

(a) Null Hypothesis: There is no significant difference in the ratio of

direct material to prime cost between the companies under study.

(b) Null Hypothesis: The year wise difference in the ratio of direct

material to prime cost within the companies under study is not significant.

F-Ratio between the Companies (Inter Company)

Computed Value of F= 27.01

Critical Value of F at 5 percent level of significance (V1=4 and

V2=16) =3.01

The null hypothesis is rejected because the computed value of F is

more than the table value, hence it is concluded that the difference in the

ratio of direct material to prime cost between the companies under study

is significant.

119

F-Ratio within the Companies (Intra Company)


Critical Value of F at 5 percent level of significance (V1=16 &

V2=4) is 5.84

The null hypothesis is accepted as the computed value of F is less

than the critical value of F. It is therefore, concluded that the intra

company difference in the ratio of direct material to prime cost is not

significant.

2. Direct Labour to Prime Cost


(c) Null Hypothesis: There is no significant difference in the ratio of

direct labour to prime cost between the companies under study.

(d) Null Hypothesis: The year wise difference in the ratio of direct labour

to prime cost within the companies under study is not significant.

F Ratio between the Companies (Inter Company)



V2=16) =3.01

The null hypothesis is rejected because the computed value of F is

more than the table value, hence it is concluded that the difference in the

ratio of direct labour to prime cost between the companies under study is

significant.

120

F Ratio within the Companies (Intra Company)



V2=4) is 5.84



company difference in the ratio of direct labour to prime cost is not

significant.

3. Direct Expenses to Prime Cost


(e) Null Hypothesis: There is no significant difference in the ratio of

direct expenses to prime cost between the companies under study.

(f) Null Hypothesis: The year wise difference in the ratio of direct

expenses to prime cost within the companies under study is not significant.

F Ratio between the Companies (Inter Company)



V2=16) =3.01

The null hypothesis is rejected because the computed value of F

(10.06) is more than the table value (3.01), hence it is concluded that the

difference in the ratio of direct expenses to prime cost between the

companies under study is significant.

121




V2=4) is 5.84



company difference in the ratio of direct expenses to prime cost is not

significant.

4. Profit to Sales


(g) Null Hypothesis: There is no significant difference in the ratio

of profit to sales between the companies under study.

(h) Null Hypothesis: The year wise difference in the ratio of profit

to sales within the companies under study is not significant.

F-Ratio between the Companies (Inter Company)



V2=16) =3.01

Since the computed value of F is more than the critical value of F at

5 percent level of significance, hence the null hypothesis is rejected and

it is concluded that the difference in the ratio of profit to sales between

the companies under study is significant.

122




V2=4) is 5.84



company difference in the ratio of profit to sales is not significant.

Marginal Cost of Production for the Sampled Companies

Marginal cost is defined as the increase or decrease in the total cost

of production for making one additional unit of an item. It is computed

in situations where the break-even point has been reached: the fixed

costs have already been absorbed by the already produced items and

only the direct labours have to be accounted for. Marginal costs are

variable costs consisting of labour and material costs, plus estimated

portion of fixed costs (such as administration overheads and selling

expenses). In this research, marginal cost has been estimated by dividing

the difference between the average costs of sales during the period from

2009-10 to 2013-14, by the average quantities produced by each firm

during the corresponding time period.

123

Table 3.11

Marginal Cost Estimation of the Sampled Companies

Company Cost(Period1)

Cost(Period2)

Qty (Period1) Qty (Period2) MarginalCost

(in Lacs)

Surana 4,96,699 3,23,510 2,13,854 1,74,718 4.43

Classic 46,610 57,268 23,110 32,886 1.09

Gitanjali 4,43,243 3,21,406 1,84,688 1,73,805 11.19

Vaibhav 17,995 21,176 6,098 10,189 0.78

Rajesh 18,89,867 14,67,234 8,58,601 8,13,561 9.38

Source: Annual Reports and Accounts of the Companies under study from 2009-10 to 2013-14.

From Table 3.11, it can be observed that marginal cost was

minimum for Vaibhav Gems that was Rs. 0.78 lacs, then Rs. 1.09 lacs

for Classic Diamonds, Rs. 4.43 lacs for Surana Jewellers, Rs. 9.38 lacs

for Rajesh Exports and maximum Rs. 11.19 lacs for Gitanjali Gems. The

large difference in marginal costs of the firms under study clearly

indicate that there is a huge difference between selling and expenses

among them.

BREAK EVEN ANALYSIS

Break Even Point

Break Even Point is the point at which total revenue is equal to

total cost. It is the point of no profit; no loss. In its broad sense; it means

a system of analysis that can be used to determine the probable point at

any level of Production.

Break even analysis is the analysis of three variables i.e., cost,

volume and profit. This analysis measurers variation of cost and

124

volumes and their impact on profit. Profit is affected by several internal

and external factors which influence sales revenue and cost.

Break even analysis helps the management in profit planning. Profit

of a concern can be increased by increasing the output and sales or

reducing cost. If a concern produces to the maximum capacity and sell,

contribution is also increased to the maximum level.

Heiser puts it in the following words, “The most significant single

factor in planning of the average business is the relationship between the

volume of business, its cost and profit.”9 Thus cost, volume and profit

analysis is an attempt to measure the effect of changes in volume, cost,

price and product mix on profits with the increase in volume unit cost of

production decrease and vice versa, because the fixed cost and constant

with the decrease in fixed cost per unit profit will be more. Break even

analysis is made with the objective of ascertaining the following:

1. The cost for various levels of production.

2. The desirable volume of production.

3. The profit at various levels of production.

4. The difference between sales revenue and variable cost.

IMPORTANCE OF BREAKEVEN ANALYSIS

We all known that the break even point in a business is when it’s

not making a profit or losing money. Most business owners either don’t

know it or think they know it, with neither exactly knowing. Break even

can be expressed as a rupee amount or unit sales, and once determined,

125

9. Berliner C. and Brimson J.A. (1998), op.cit., p.279.

one has a target to reach through carefully though out of Business

Plan.10

It is very important to understand that increased sales do not always

translate into increased profits. Many companies have gone out of

business by ignoring the importance of Breakeven Analysis, thinking

increased sales will lead to certain profitability. Unfortunately, more

often than not, the company’s variable costs, or those directly derived

from sales levels, get exponentially larger as sales volume grows. Not

knowing the variable costs is a silent killer for many companies.

When calculating the Breakeven Point, one has to make certain

assumptions and estimates error on the side of conservation numbers by

using more pessimistic sales and margin thresholds, while overstating

the projected costs. Business firms want the Breakeven Point to be in the

safe zone - a worst case threshold.

The Importance of Breaking Even in Business Finance

Breaking even is extremely important for all business. A business

breaks even when it earns enough sales revenues to pay for all expense.

In other words, all costs have been paid, though the business did not

suffer a loss or make a profit. The break-even point usually is calculated

on a monthly or annual basis. If the business is not at least breaking

even, then firm must revaluate the business strategy and make

appropriate changes.11

126

10. Lauderman M. and Schaeberle F.W. (2003), “The cost accounting practices of firms using

standard costs”, Cost and Management (Canada), July/August, 31–5.

11. Berliner C. and Brimson J.A. (1988), “Cost Management for Today’s Advanced

Manufacturing”, Harvard Business School Press, p.221.

Basics : To accurately gauge the break-even point, the firms need to

evaluate several factors. First calculate fixed costs, meaning all of the

expenses needed to one product. If the firm has a furniture business, then

calculate the total cost (e.g. labour, materials, shipping) of obtaining one

piece of furniture. Next, calculate variable costs, which increase or

decrease as the firm produce more products. Examples of overhead

expenses include - retail or warehouse space, utilities, insurance and

office staff, such as an accountant, receptionist or security personal.

Considerations : Do not be overwhelmed with expenses simply

because the business has a lot of them. One must understand how much

the business is spending, as the business can succeed instead of barely

surviving or even failing. Consider working with a certified public

accountant to ensure that you calculate all costs.

Price : After realizing how much the product or service costs the

business, assess the unit price. For example, if the business own a

computer repair business, one should know whether the business is

changing clients enough so that the firm at least break even. The break

even point (number of units one must sell) equals the fixed cost divided

by the difference between the unit price and variable unit cost. Use break

even point to establish the pricing structure as well as target sales goals

(e.g., need X number of clients each week).

Benefits : Make sure that management renegotiate long-term

expenses by contacting the suppliers and asking for better deals. For

instance, if the business operates a spa that is not breaking even, call the

supplier of shampoos and conditioners. Ask for different terms, such as

127

getting a 15 percent discount by ordering an extra box of create. If the

supplier is not interested, then research other ways one can get similar

materials. One should never rely on just one supplier, distributor or

manufacturer.

Potential : For the expansion of business, use break-even analysis

to estimate potential profit and calculate necessary sales. In fact, many

investors want businesses to include break-even analysis within their

business plans so investors can gauge possible returns on their

investments. There are many other calculations that can be prepared to

strengthen operations.

The break-even analysis depends on three key assumptions12 :

1. Average Per-Unit Sales Price (Per Unit Revenue):- This is the

price that business receive per unit of sales. Take into account

sales discounts and special offers. Get this number from the

sales forecast. For non-unit based businesses, make the

per-unit revenue rupee one, and enter costs as a percent of a

rupee. The most common questions about this input relate to

averaging many different products into a single estimate. The

analysis requires a single number, and if the firm builds its

sales forecast first, then it will have this number. The vast

majority of businesses sell more than one item, and have to

average for their break-even analysis.

2. Average Per-Unit Cost: This is the incremental cost, or

variable cost, of each unit of sales. If business buy goods for

128

12. Brealey J.A. (2006), “The calculation of product costs and their use in decision-making in the

British Manufacturing Industry”, Ph.D. dissertation, University of Huddersfield.

resale, this is what it paid, on average, for the goods from sell.

If firm sells a service, this is what it costs, per rupee of

revenue or unit of service delivered, to deliver that service. If

business is using a Units-Based Sales Forecast table (for

manufacturing and mixed business types), one can project

unit costs from the sales forecast table. If business is using the

basic sales forecast table for retail, service and distribution

business, use a percentage estimate, e.g., retail store running a

50% margin would have a per-unit cost of Rs.5, and a per unit

revenue of rupee 1.

3. Monthly Fixed Costs: Technically, a break even analysis

defines fixed costs as costs that would continue. Instead, we

recommend that one uses his regular running fixed costs,

including payroll and normal expenses (total monthly

Operating Expenses). This will give the business a better

insight on financial realities. If averaging and estimating is

difficult, use profit and loss table to calculate a working fixed

cost estimate - it will be a rough estimate, but it will provide a

useful input for a conservative Break-even Analysis.

MANAGEMENT TOOLS

A breakeven chart is a strategic tool used to plot the financial

revenue of a business unit against time or sales to determine to point

when sales output is equal to revenue generated. This is recognized as

the breakeven point. The information used to determine and analysis the

breakeven and point includes fixed, variable and total costs and the

associated sales revenues. They are defined as:

129

The Breakeven Chart

· Fixed Costs: costs that do not vary in relation to the level of

sales output, for example rent.

· Variable Costs: Costs that very in proportion to the level of sales

output, for example materials.

· Total Costs: The sum of all costs, including fixed and variable.

· Associated Sales Revenues: The total revenue made by the

company from sales. It can be derived by multiplying price by

output.

The analysis of a breakeven chart considers whether a venture runs

at a profit or a loss. Sales above the breakeven point indicates continued

and profitable growth. The principle of break-even theory is that during

the early stages of a business venture, total costs, both fixed and variable

exceed sales. As output increases, sales begin to rise faster than costs

130

and, eventually, they become equal (breakeven point). If sales continue

to rise and exceed total costs, the business achieves profitability.13

The tool assumes that all the goods which are produced will be sold

and that costs, namely the price, will remain constant. Likewise, it also

relies on the capacity in terms of output to remain unchanged.

LIMITATIONS OF BREAK EVEN POINT

Like all methods of estimating breakeven, this approach has its

limitations. The cost of goods sold method, like other methods, depends

on having accurate historical information. It is retrospective in its

perspective. Using this approach to look to the future to estimate the

breakeven point depends having on its assumption. If we are using

assumptions based on recent past history, one must assume future

consumer behavior will continue relatively unchanged into the

immediate future (into the next relevant short term period of the for

which break even needs to be estimated) This method calculates

breakeven in terms of rupees of gross revenue but not the number of unit

sold (customer served) to break even, but such an estimate will have a

margin of error that is unacceptable in a highly price competitive market

where customers are more price sensitive.

For every business that sells more than one product or service, the

issue of sale mix or product mix affects the break even point. The broad

approach does not attempt to take into account the sale mix. For some

business, the fixation of sale mix from day to day or week to week can

131

13. Sizer J. (1999), “An Insight into Management Accounting”, Penguin, Chs 11, 12.

be great. This variation has a direct impact on the variability of the

breakeven point. The greater the variability of the breakeven point, the

greater the rise that managers will not have the information needed to

make timely decisions as conditions change.14

By itself, the cost of good sold approach does not tell us the

breakeven point change with volume of sales or as the scale.

BREAK-EVEN POINT ANALYSIS

The break-even point is, in general, the point at which the gains

equal the losses. A break-even point defines when an investment will

generate a positive return. The point where sales or revenues equal

expenses. Or also the point where total costs equal total revenues. There

is no profit made or loss incurred at the break-even point. This is

important for anyone that manages a business, since the break-even

point is the lower limit of profit when prices are set and margins are

determined. The change in total cost that comes from making or

producing one additional item. The purpose of analyzing marginal cost is

to determine at what point an organization can achieve economies of

scale.

The calculation is most often used among manufacturers as a means

of isolating an optimum production level. A company’s breakeven point

is the point at which its sales exactly cover its expenses. The company

sells enough units of its product to cover its expenses without making a

profit or taking a loss. If it sells more, then it makes a profit. On the

132

14. Ibid.

other hand, if it sells less, it makes a loss. To compute a company’s

breakeven point in sales volume, one needs to know the values of those

variables. Those three variables are fixed costs, variable costs, and the

price of the product. Fixed costs are those which do not change with the

level of sales, such as overhead. Variable costs are those which do

change with the level of sales, such as cost of goods sold. The price of

the product has been set by the company through looking at the

wholesale cost of the product, or the cost of manufacturing the product,

and marking it up. The estimation of the break-even point for the firms

during different financial years is presented in Table 3.12.

133

Table 3.12

Break-even Point Analysis

*Company was in loss

Source: Annual Reports and Accounts of Companies under study for 2011-12 to 2013-14.

Surana Jewellers : Table 3.12 shows that total variable cost for

Surana Jewellers had an increasing trend throughout the period under

134

PARAMETER COMPANY 2009-10 2010-11 2011-12 2012-13 2013-14

Surana Jewellers 158527 220631 393861 518424 850190

Classic Diamonds 56382 54489 58070 44335 20793

Gitanjali Gems 234542 237679 299537 455529 699107

Vaibhav Gems 25399 16138 9464 10457 13075

Total Variable Cost

(in Lakhs)

Rajesh Exports 808972 1186161 1817947 2032542 2500460



Gitanjali Gems 13068 10946 12963 21358 35852

Vaibhav Gems 3414 15305 1927 2601 3012

Total Fixed Cost

(in Lakhs)

Rajesh Exports 5198 4423 3542 10150 4243



Gitanjali Gems 191776 156060 164220 183164 235310

Vaibhav Gems 20768 10596 5189 4205 4401

Number of Units Produced

Rajesh Exports 661465 778832 996681 817267 841622

Surana Jewellers 1.28 1.55 1.88 2.55 3.03

Classic Diamonds 1.54 1.74 2.21 2.82 3.30

Gitanjali Gems 1.38 1.73 2.04 2.80 3.30

Vaibhav Gems 1.50 1.62 2.34 3.46 4.01

Per Unit Selling Price

(in Lakhs)

Rajesh Exports 1.24 1.46 1.80 2.45 3.05



Gitanjali Gems 81094 53848 59181 68921 110366

Vaibhav Gems 12335 157758 3749 2676 2885

Break-Even Point

(Units)

Rajesh Exports 351205 -* -* -* 55002

study. Initially in 2009-10, it was Rs. 158527 lacs which increased and

finally reached up to Rs. 850190 lacs in 2013-14. Total fixed cost

showed an increasing trend also except in the year 2010-11. Initially in

2009-10, it was Rs. 675 lacs which finally reached up to Rs. 1767 lacs in

2013-14. Number of units produced had an increasing trend except in the

year 2012-13. Starting from 129653 units in 2009-10, Surana Jewellers

produced 286137 units in the final year 2013-14, that is more than

double in numbers. Per unit selling price increased continuously for

Surana Jewellers. In 2009-10, it was Rs. 1.28 lacs which reached up to

Rs. 3.03 lacs in 2013-14.

Break-even point for Surana Jewellers had a fluctuating trend for

the period under study. In 2009-10, it was equal to 12544 units which

increased sharply to 21836 units in 2010-11 but decreased more rapidly

to 11725 units in 2011-12 and further came down slightly to 11488 units

in 2012-13. Finally, it increased and reached up to 30814 units in

2013-14 which was the highest break-even point for the firm.

Classic Diamonds : The total variable cost for Classic Diamonds

had a decreasing trend throughout the period under study except in the

year 2011-12. Initially in 2009-10, it was Rs. 56382 lacs which

decreased and finally came down to Rs. 20793 lacs in 2013-14. Total

fixed cost showed a continuously decreasing trend. Initially in 2009-10,

it was Rs. 7787 lacs which declined and finally came to Rs. 747 lacs in

2013-14. Number of units produced also had a decreasing trend. Starting

from 46101 units in 2009-10, Classic Diamonds produced only 6999

units in the final year 2013-14, that is less than one-fifth of initial units

135

in numbers. On the other hand, per unit selling price increased

continuously for Classic Diamonds. In 2009-10, it was lowest at

Rs. 1.54 lacs which reached up to Rs. 3.30 lacs in 2013-14.

Break-even point for Classic Diamonds had a decreasing trend for

the period under study. In 2009-10, it was equal to 24876 units which

decreased sharply to 17264 units in 2010-11, 6819 units in 2011-12,

4943 units in 2012-13. Finally, it decreased and further came down to

2293 units in 2013-14 which was the lowest break-even point for the

firm.

Gitanjali Gems : Table 3.12 shows that total variable cost for

Gitanjali Gems had an increasing trend throughout the period under

study. Initially in 2009-10, it was Rs. 234542 lacs which increased and

finally reached up to Rs. 699107 lacs in 2013-14. Total fixed cost

showed an increasing trend also except in the year 2010-11. Initially in

2009-10, it was Rs. 13068 lacs which finally reached up to Rs. 35852

lacs in 2013-14. Number of units produced had an increasing trend

except in the year 2010-11. Starting from 191776 units in 2009-10,

Gitanjali Gems produced 235310 units in the final year 2013-14. Per

unit selling price increased continuously for Gitanjali Gems. In 2009-10,

it was Rs. 1.38 lacs which reached up to Rs. 3.30 lacs in 2013-14.

Break-even point for Gitanjali Gems had an increasing trend for the

period under study except in the year 2010-11. In 2009-10, it was equal

to 81094 units which decreased sharply to 53848 units in 2010-11 but

after that increased to 59181 units in 2011-12, 68921 units in 2012-13.

136

Finally, it increased and reached up to 110366 units in 2013-14 which

was the highest break-even point for the firm.

Vaibhav Gems : The total variable cost for Vaibhav Gems had a

fluctuating trend. Initially in 2009-10, it was Rs. 25399 lacs which

fluctuate and finally came down to Rs. 13075 lacs in 2013-14. Total

fixed cost showed an increasing trend except in the year 2011-12.

Initially in 2009-10, it was Rs. 3414 lacs which declined and finally

came to Rs. 3012 lacs in 2013-14. Number of units produced also had a

decreasing trend except in the year 2013-14. Starting from 20768 units

in 2009-10, Vaibhav Gems produced only 4401 units in the final year

2013-14, that is less than one-fourth of initial units in numbers. On the

other hand, per unit selling price increased continuously for Vaibhav

Gems. In 2009-10, it was lowest at Rs. 1.50 lacs which reached up to

Rs. 4.01 lacs in 2013-14.

Break-even point for Vaibhav Gems had a decreasing trend for the

period under study except in the years 2010-11 and 2013-14. In 2009-10,

it was equal to 12335 units which increased sharply to 157758 units in

2010-11, but declined rapidly to 3749 units in 2011-12 and came down

to 2676 units in 2012-13. Finally, it increased and reached to 2885 units

in 2013-14.

Rajesh Exports : It can be seen from Table 3.12 that for Rajesh

Exports, total variable cost had an increasing trend throughout the period

under study. Initially in 2009-10, it was Rs. 808972 lacs which increased

and finally reached up to Rs. 2500460 lacs in 2013-14. Total fixed cost

showed a decreasing trend except in the year 2012-13. Initially in

137

2009-10, it was Rs. 5198 lacs which finally came to Rs. 4243 lacs in

2013-14. Number of units produced had an increasing trend except in the

year 2012-13. Starting from 661465 units in 2009-10, Rajesh Exports

produced 841622 units in the final year 2013-14. Per unit selling price

increased continuously for Rajesh Exports. In 2009-10, it was Rs. 1.24

lacs which reached up to Rs. 3.05 lacs in 2013-14.

In 2009-10, break-even point for Rajesh Exports was 351205 units

which came down to 55002 units in 2013-14.

MARGINAL COSTING

Meaning of Cost Volume Profit

Cost-volume-profit (CVP) analysis is used to determine how

changes in costs and volume affect a company’s operating income and

net income. Key calculations when using CVP analysis are the

contribution margin and the contribution margin ratio. The contribution

margin represents the amount of income or profit the company made

before deducting its fixed costs. Said another way, it is the amount of

sales rupees available to cover (or contribute to) fixed costs. When

calculated as a ratio, it is the percent of sales dollars available to cover

fixed costs. Once fixed costs are covered, the next rupee of sales results

in the company having income. CVP analysis provides managers with

the advantage of being able to answer specific pragmatic questions

needed in business analysis. Questions such as what the company’s

breakeven point is help managers project how future spending and

138

production will contribute to the success or failure of the company. For

instance, when a manager knows the breakeven point, he can decide for

spending and increase production efforts to increase profitability.

Because CVP analysis is based on statistical models, decisions can be

broken down into probabilities that help with the decision-making

process.

Another major benefit of CVP analysis is that it provides a detailed

snapshot of company activity. This includes everything from the costs

needed to produce a product to the amount of the product produced. This

helps managers determine, very specifically, what the future will hold if

variables are altered. For instance, transportation expenses and costs for

materials can change. These variable costs can affect the bottom line.

CVP analysis allows the manager to plug in variable costs to establish an

idea of future performance, within a range of possibilities. This,

however, can be a disadvantage to managers who are not detail-oriented

and precise with the data they record. Projections based on cost

estimates, rather than precise numbers, can result in inaccurate

projections.

Even though CVP analysis is based on specific data and requires

tremendous attention to detail, the best that it can do is provide

approximate answers to questions, rather than ones that are exact. It

answers hypothetical questions better than it provides actual answers for

solving problems. It leaves the business manager to decide how to act on

the CVP analysis data he has at hand. For this reason, the manager has to

exercise extreme caution when making decisions about changes to

139

business operations and finance. Judgments have to be made after

careful investigation and deliberation — and not just be based solely on

statistics. Investigation may involve, for instance, interviewing

employees and carefully observing their daily activities, as opposed to

simply treating them as part of a statistical model. In performing this

analysis, there are several assumptions made, including:

· Sales price per unit is constant.

· Variable costs per unit are constant.

· Total fixed costs are constant.

· Everything produced is sold.

· Costs are only affected because activity changes.

· If a company sells more than one product, they are sold in the

same mix.15

Cost-Volume Profit (CVP) Analysis

Profits of business firms are the result of many factors such as:

(i) selling prices, (ii) volume of sales (iii) unit variable costs (iv) total

fixed costs, (v) combinations in which the various product lines are sold,

etc. To do an effective planning, management must analyse how profits

will be affected by a change in any one of these factors. A cost volume

profit (CVP) analysis is useful to management in knowing how profit is

influenced by sales volume, sales price, variable expenses and fixed

expense. Broadly, CVP analysis uses the techniques of (i) Break-even

analysis and (ii) Profit-Volume (P/V) analysis.

140

15. Drury C. (2008), “Management and Cost Accounting”, Cengage Learning EMEA, pp.150-53.

It was observed that in marginal costing, marginal cost varies

directly with the volume of production or output. On the other had, fixed

cost remains unaltered regardless of the volume of output within the

scale of production already fixed by management. In case if cost

behavior is related to sales income, it shows cost-volume profit

relationship. In net effect, if volume is changed, variable cost varies as

per the change in volume. In this case, selling price remains fixed, fixed

remains fixed and then there is a change in profit.

Being a manager, one constantly strive to relate these elements in

order to achieve the maximum profit. A part from profit projection, the

concept of Cost-Volume-Profit (CVP) is relevant to virtually all decision

making areas, particularly in the short run.

The relationship among cost, revenue and profit at different levels

may be expressed in graphs such as breakeven charts, profit volume

graphs, or in various statement forms.

Profit depends on a large number of factors, most important of

which are the cost of manufacturing and the volume of sales. Both these

factors are interdependent. Volume of sales depends upon the volume of

production and market forces which in turn is related to costs.

Management has no control over market. In order to achieve certain

level of profitability, it has to exercise control and management of costs,

mainly variable cost. This is because fixed cost is a non-controllable

cost. But then, cost is based on the following factors:

· Volume of production

141

· Product mix

· Internal efficiency and the productivity of the factors of

production

· Methods of production and technology

· Size of batches

· Size of Plant

Thus, one can say that cost-volume-profit analysis furnishes the

complete picture of the profit structure. This enables management to

distinguish among the effect of sales, fluctuations in volume and the

results of changes in price of product/services.16

Limitations of CVP Analysis

CVP analysis is a useful planning and control device, usually in the

form of a chart, showing how revenue, costs, and profit fluctuate with

volume. The CPV technique is useful to management in areas of

budgeting, cost control and decision making. Inspite of CVP being a

useful technique, it suffers from some limitations. Firstly, because of the

many assumptions, CVP is only an approximation at best. If prices, unit

costs, sales-mix, operating efficiency, or other relevant factors change,

then the overall CVP analysis and relationship also must be modified.

Because of these assumptions, cost data are of limited significance.

In a multi-product situation, different products typically yield

different contribution margins and are produced in various volumes with

142

16. Lauderman M. and Schaeberle F.W. (2003), op.cit., p.29.

differing costs. As a result neither the revenue curve nor the cost curve is

necessarily straight and the break-even point in difficult to find.

Therefore, while preparing or interpreting cost-volume profit

analysis, all assumptions and limitations should be carefully considered.

A series of CVP analysis based on different sets of assumptions and

circumstances may be prepared to reflect situations prevailing in

different business enterprises. When circumstances change, CVP

analysis should also be revised to reflect the changing situations. It is

also necessary to have up-to-date analysis so that it can act as a useful

device in profit forecast, budgeting. Cost control and managerial

decision making.

The CVP analysis is generally made under certain limitations and

with certain assumed conditions, some of which may not occur in

practice. Following are the main limitations and assumptions in the cost-

volume profit analysis:

1. It is assumed that the production facilities anticipated for the

purpose of cost-volume profit analysis do not undergo any

change. Such analysis gives misleading results if expansion

or reduction of capacity takes place.

2. In case where a variety of products with varying margins of

profit are manufactured, it is difficult to forecast with

reasonable accuracy the volume of sales mix which would

optimize the profit.

143

3. The analysis will be correct only if input price and selling

price remain fairly constant which in reality is difficulty to

find. Thus, if a cost reduction program is undertaken or

selling price is changed, the relationship between cost and

profit will not be accurately depicted.

4. In cost-volume profit analysis, it is assumed that variable

costs are perfectly and completely variable at all levels of

activity and fixed cost remains constant throughout the range

of volume being considered. However, such situations may

not arise in practical situations.

5. It is assumed that the changes in opening and closing

inventories are not significant, though sometimes they may be

significant.

6. Inventories are valued at variable cost and fixed cost is

treated as period cost. Therefore, closing stock carried over to

the next financial year does not contain any component of

fixed cost. Inventory should be valued full cost in reality.

Objectives of Cost-Volume-Profit Analysis

1. In order to forecast profits accurately, it is essential to

ascertain the relationship between cost and profit on one hand

and volume on the other.

2. Cost-volume-profit analysis is helpful in setting up flexible

budget which indicates cost at various levels of activities.

3. Cost-volume-profit analysis assist in evaluation performance

for the purpose of control.

144

4. Such analysis may assist management in formulating pricing

policies by projecting the effect of different price structures

on cost and profit.

Assumptions and Terminology

Following are the assumptions on which the theory of CVP is

based:

1. The changes in the level of various revenue and costs arise only

because of the changes in the number of product (or service) units

produced and sold. The number of output (units) of be sold is the only

revenue and cost driver. Just as a cost driver is any factor that affects

costs, a revenue driver is any factor that affects revenue.

2. Total costs can be divided into a fixed component and a

component that is variable with respect to the level of output. Variable

costs include the following:

a. Direct materials

b. Direct labour

c. Direct chargeable expenses

Variable overheads include the following:

a. Variable part of factory overheads

b. Administration overheads

c. Selling and distribution overheads

3. There is linear relationship between revenue and cost.

145

4. When put in a graph the behavior of total revenue and cost is

linear (straight line) i.e. Y = mx+C holds good which is the equation of a

straight line.

5. The unit selling price, unit variable costs and fixed costs are

constant.

6. The theory of CVP is based upon the production of a single

product. However of late, management accountants are functioning to

give a theoretical and a practical approach to multi- product CVP

analysis.

7. The analysis either covers a single product or assumes that the

sales mix sold in case of multiple products will remain constant as the

level of total units sold changes.

8. All revenue and cost can be added and compared without taking

into account the time value of money.

9. The theory of CVP is based on the technology that remains

constant.

10. The theory of price elasticity is not taken into considerations.17

COMPARATIVE ANALYSIS OF COST MANAGEMENT

Direct Material Cost

Direct material cost is the cost of the raw materials and components

used to create a product. The materials must be easily identifiable with

146

17. Drucker P.F. (1994), op.cit., p.217.

the resulting product (otherwise they are considered to be joint costs).

The direct material cost is one of the few variable costs involved in the

production process; as such, it is used in the derivation of throughput

from production processes. Throughput is sales minus all totally variable

expenses. Examples of direct materials are: (i) The gold used

(ii) Precious/semi-precious stones used.

The results in Table 3.13 summarizes the direct materials cost, as a

percentage total cost, incurred by the firms analysed in this research

study for the last five financial years.

Table 3.13

Direct Material Cost to Cost of Sales Ratio of Firms under Study

(From 2009-10 to 2013-14)(Ratio in Percent)

Year SuranaJewellers

ClassicDiamonds

GitanjaliGems

VaibhavGems

RajeshExports

2009-10 99.58 87.86 94.72 88.15 99.36

2010-11 99.77 93.57 95.60 51.32 99.63

2011-12 99.83 95.68 95.85 83.08 99.81

2012-13 99.86 96.44 95.52 80.08 99.50

2013-14 99.79 96.53 95.12 81.28 99.83

Average 99.77 94.02 95.36 76.78 99.63

S.D. 0.11 3.64 0.44 14.56 0.20

C.V. 0.001 0.039 0.005 0.190 0.002


Table 3.13 showed that direct material cost to sales ratio had an

increasing trend except in the year 2013-14 for Surana Jewellers,

although the increase was negligible which is confirmed by standard

147

deviation 0.11 and coefficient of variation 0.001. For Classic Diamonds

the trend was continuously increasing as the ratio was 87.86 percent in

2009-10 which continuously increased and finally reached to 96.53

percent in 2013-14.

For Gitanjali Gems and Rajesh Exports, the ratio showed

fluctuating trend but fluctuations were very low whereas, in case of

Vaibhav Gems, the ratio had highly fluctuating trend that should be

controlled.

It can be observed that all the firms spent a significant proportion of

its total cost in purchase of raw materials. It is observed that among the

five firms analyzed in this research, Surana Jewellers (99.77%) spends

highest proportion of its total cost on purchase of raw materials,

followed by Rajesh Exports (99.63%), Gitanjali Gems (95.36%), Classic

Diamonds (94.02%), and Vaibhav Gems (76.78%).

Test of Significance

Following hypotheses have been set and tested by applying two

way analysis of variance of F-test:

(i) Null Hypothesis (Ho) : There is no significant difference in the

ratio of material cost to sales between the companies under study.

(ii) Null Hypothesis (Ho): There is no significant difference is the

year-wise ratio of material cost to sales of the companies under study.

148

Table 3.14

ANOVA TALE

Source Sum Degree ofFreedom

(d.f.)

Variance(Sum/d.f)

F-Ratio

BetweenCompanies (SSC)

1781.25 (c-1)=(5-1)=4 445.31 F = 9.49(Between

Companies)

WithinCompanies (SSR)

166.87 (r-1)=(5-1)=4 41.72 F = 1.25(Within

Companies)Error 750.55 (c-1)(r-1)=16 46.91

(i) F-Test Between the Companies (Inter Companies)

FHigherVariance

SmallerVariance= = =

445 31

46 919 49

.

..

Critical value of F at 5 percent level of significance (For V1 = 4 and

V2 = 16) is 3.01.

Decision: Since the calculated value of F (9.49) is more than the

critical value of F at 5 percent level of significance (3.01) therefore, the

null hypothesis is rejected and it can be concluded that the difference in

the ratio of direct material cost to sales of the companies under study is

significant.

(ii) F-Test Within the Companies (Intra Companies)

FHigherVariance


46 91

41 72112

.

..

Critical value of F at 5 percent level of significance (V1 = 16 and

V2 = 4) is 5.84.

149

Decision: Since the calculated value of F is less than the critical

value of F at 5 percent level of significance, hence there is no evidence

of rejecting the null hypothesis. The null hypothesis is accepted and it

can be concluded that the intra company difference in the direct material

cost to sales ratio is not significant.

Direct Labour Cost

Direct labour cost is a part of wage-bill or payroll that can be

specifically and consistently assigned to or associated with the

manufacture of a product, a particular work order, or provision of a

service. In other words, it is the cost of the work done by those workers

who actually make the product on the production line. The direct labour

cost is generally incurred in every process.

The direct labour cost to sales ratio of the firms under study has

been shown in the following Table 3.15.

Table 3.15

Direct Labour Cost to Cost of Sales Ratio of Firms under Study

(From 2009-10 to 2013-14) (Ratio in Percent)


ClassicDiamonds

GitanjaliGems

VaibhavGems

RajeshExports

2009-10 0.10 4.47 0.47 6.53 0.06

2010-11 0.11 3.07 0.64 4.21 0.04

2011-12 0.07 3.05 0.48 9.94 0.03

2012-13 0.07 2.23 0.52 10.98 0.03

2013-14 0.04 1.96 0.36 10.10 0.08

Average 0.08 2.96 0.49 8.35 0.05

S.D. 0.03 0.98 0.10 2.87 0.02

C.V. 0.356 0.331 0.204 0.344 0.452


150

The results in Table 3.15 summarize the direct labour cost, as a

percentage of sales, incurred by the firms analysed in this research study

for the last five financial years. It can be observed that most of the firms

spend a very small proportion of its total cost as direct labour cost. It is

observed that among the five firms analyzed in this research, Vaibhav

Gems (8.35%) spends highest proportion of its total cost as direct labour

cost, followed by Classic Diamonds (2.96%), Gitanjali Gems (0.49%),

Surana Jewellers (0.08%), and Rajesh Exports (0.05%). Further, it can

be observed that the proportion of total sales cost spent as direct labour

cost during the last five financial years had decreased for Surana

Jewellers, Classic Diamonds and Rajesh Exports whereas Gitanjali

Gems and Vaibhav Gems had a fluctuating trend.





ratio of Direct Labour Cost to sales between the companies under study.


year-wise ratio of Direct Labour Cost to sales of the companies under

study.

151

Table 3.16

ANOVA TALE


(d.f.)

Variance(Sum/d.f)

F-Ratio


251.45 (c-1)=(5-1)=4 62.86 F = 30.97(Between

Companies)


4.33 (r-1)=(5-1)=4 1.08 F = 1.88(Within



FHigherVariance


62 86

2 0330 97

.

..


V2 = 16) is 3.01.

Decision: Since the calculated value of F is more than the critical

value of F at 5 percent level of significance therefore, the null hypothesis

is rejected and it can be concluded that the difference in the ratio of

direct labour cost to sales of the companies under study is significant.


FHigherVariance


2 03

1 08188

.

..


V2 = 4) is 5.84.

Decision: Since the calculated value of F(1.88) is less than the

critical value of F(5.84) at 5 percent level of significance, hence there is

152

no evidence of rejecting the null hypothesis. The null hypothesis is

accepted and it can be concluded that the intra company difference in the

direct labour cost to sales ratio is not significant.

Direct Expenses

Direct expenses are the expenses in addition to direct material and

labour cost which can be directly attributed to a particular process. It is

that portion of expense that is directly expended in providing a product

or service for sale and is included in calculation of cost of goods sold,

e.g. labour and inventory. All expenses which are incurred for

production or purchasing are called direct expenses.

Table 3.17

Direct Expenses to Cost of Sales Ratio of the Firms under Study



ClassicDiamonds

GitanjaliGems

VaibhavGems

RajeshExports

2009-10 0.036 6.031 3.285 2.735 0.004

2010-11 0.011 2.359 2.175 1.542 0.003

2011-12 0.011 0.361 2.228 3.634 0.002

2012-13 0.007 0.220 2.895 4.610 0.002

2013-14 0.016 0.162 2.397 5.041 0.008

Average 0.016 1.827 2.596 3.512 0.004

S.D. 0.011 2.523 0.479 1.418 0.003

C.V. 0.711 1.381 0.184 0.404 0.655


The results in Table 3.17 summarizes direct expenses, as a

percentage of total cost, incurred by the firms analyzed in this research

153

study for the last five financial years. It can be observed that most of the

firms spend 1-3% of its total cost as direct expenses. Among the five

firms analyzed in this research, Vaibhav Gems (3.512%) spends highest

proportion of its total cost as direct expenses, followed by Gitanjali

Gems (2.596%), Classic Diamonds (1.827%), Surana Jewellers

(0.016%), and Rajesh Exports (0.004%). Further, it can be observed that

the proportion of total sales cost spent as direct expenses during the last

five financial years had decreased for Surana Jewellers, Classic

Diamonds, and Gitanjali Gems. In contrast, the proportion of total sales

cost spent as direct expenses for Vaibhav Gems and Rajesh Exports had

increased during the last five financial years. Classic Diamonds has

experienced maximum decrease and Vaibhav Gems has experience

maximum increase in their proportion of total cost spent as direct

expenses.





ratio of Direct Expenses to cost of sales between the companies under

study.


year-wise ratio of Direct Expenses to cost of sales of the companies

under study.

154

Table 3.18

ANOVA TALE


(d.f.)

Variance(Sum/d.f)

F-Ratio


48.78 (c-1)=(5-1)=4 12.20 F = 6.32(Between

Companies)


3.54 (r-1)=(5-1)=4 0.89 F = 2.17(Within



FHigherVariance


12 20

1 936 32

.

..


V2 = 16) is 3.01.

Decision: Since the calculated value of F (6.32) is more than the


null hypothesis is rejected and it can be concluded that the difference in

the ratio of direct expenses to cost of sales of the companies under study

is significant.


FHigherVariance


1 93

0 892 17

.

..


V2 = 4) is 5.84.


value of F at 5 percent level of significance, hence the null hypothesis is

155


direct expenses to cost of sales ratio is not significant.

Production Overheads

Production overheads are indirect expenses associated with

processes used to produce a good or service. It includes expenses such as

stationery, utilities, support staff salaries, and rent and other facilities

costs. The overhead expenses are generally expended over all the

processes involved in production process. These are to be apportioned

over the various processes in an amicable manner. In order to improve

the efficiency and profitability of production process the production

overheads needs to be reduced.

The production overheads to cost of sales ratio of the firms under

study has been shown in the following Table 3.19.

Table 3.19Production Overheads to Cost of Sales Ratio of the Firms under Study



ClassicDiamonds

GitanjaliGems

VaibhavGems

RajeshExports

2009-10 0.29 1.63 1.52 2.58 0.57

2010-11 0.10 1.00 1.59 2.93 0.33

2011-12 0.09 0.91 1.44 3.34 0.16

2012-13 0.07 1.11 1.06 4.33 0.47

2013-14 0.15 1.34 2.12 3.58 0.09

Average 0.14 1.20 1.55 3.35 0.32

S.D. 0.09 0.29 0.38 0.67 0.20

C.V. 0.635 0.242 0.246 0.199 0.624


156

The results in Table 3.19 summarize production overheads, as a

percentage of total cost of sales, incurred by the firms analyzed in this

research study for the last five financial years. It can be observed that

most of the firms have to spend around 1% of their total cost as

production overheads. It is observed that among the five firms analyzed

in this research Vaibhav Gems (3.35%) spends highest proportion of its

total cost as production overheads, followed by Gitanjali Gems (1.55%),

Classic Diamonds (1.20%), Rajesh Exports (0.32%), and Surana

Jewellers (0.14%). Further, it can be observed that the proportion of total

sales cost spent as production overhead during the last five financial

years has fluctuating trend for all the firms. According to coefficient of

variation, Surana Jewellers and Rajesh Exports have higher fluctuations

whereas Classic Diamonds and Gitanjali Gems have moderate

fluctuations and Vaibhav Gems has minimum fluctuations.




(i) Null Hypothesis (Ho): There is no significant difference in the

ratio of Production Overheads to cost of sales between the companies

under study


year-wise ratio of Production Overheads to cost of sales of the

companies under study.

157

Table 3.20

ANOVA TALE


(d.f.)

Variance(Sum/d.f)

F-Ratio


452.10 (c-1)=(5-1)=4 113.02 F = 1.80(Between

Companies)


246.83 (r-1)=(5-1)=4 61.71 F = 1.01(Within



FHigherVariance


113 02

62 64180

.

..


V2 = 16) is 3.01.

Decision: Since the calculated value of F (1.80) is less than the


null hypothesis is accepted and it can be concluded that the difference in

the ratio of production overheads to cost of sales of the companies under

study is not significant.


FHigherVariance


62 64

61 711 01

.

..


V2 = 4) is 5.84.

158




production overheads to cost of sales ratio is not significant.

PROFIT MARGIN ANALYSIS

Operating Profit Ratio

Operating profit is the amount of profit a company makes after

paying for variable costs of production such as wages, raw materials, etc.

It is the profit resulting from standard operation and it does not include

unique or one-time transactions. Operating profit margin is generally

expressed as a percentage of sales and shows the efficiency of a

company in controlling the cost and expenses associated with business

operations. In simple terms, operating profit margin measures a

company’s revenue that is left over after deducting direct labours and

overheads, but before taxes and interests and other indirect costs are

deducted. The other terms used to describe operating profit margin ratios

include operating margin, operating income margin, operating profit

margin or return on sales (ROS).

Operating profit margin is an important indicator to measure

company’s pricing strategy and operational efficiency. It also shows

whether the fixed costs are too high for the production or sales volume.

Operating profit margin gives an idea of how much a company makes

(before interest and taxes) on each rupee of sales. A high or increasing

operating margin is preferred because if the operating margin is

159

increasing, the company is earning more per rupee of sales. Operating

margin can be used to compare a company with its competitors and with

its past performance. It is best to analyze the changes of operating

margin over time and to compare company’s figure to those of its

competitors. Operating margin shows the profitability of sales resulting

from regular business. Operating income results from ordinary business

operations and excludes other revenue or losses, extraordinary items,

interest on long term liabilities and income taxes.

Operating Profit Margin = Operating Income

Net Sales´ 100

The comparison of operating profit margin across different firms

over the last five years is summarized in Table 3.21.

Table 3.21

Operating Profit Ratio of Firms under Study

(From 2009-10 to 2013-14) (in Percentage)


ClassicDiamonds

GitanjaliGems

VaibhavGems

RajeshExports

2009-10 3.80 9.38 6.71 7.49 0.56

2010-11 1.27 6.45 7.71 -83.17 -4.64

2011-12 2.87 13.69 6.85 6.09 -1.78

2012-13 2.40 8.48 6.91 10.21 -1.90

2013-14 1.68 6.64 5.23 8.95 2.36

Average 2.40 8.93 6.68 -10.08 -1.08

S.D. 0.99 2.93 0.90 40.88 2.66

C.V. 0.415 0.329 0.135 -4.053 -2.465

Source: Annual Reports and Accounts of the firms for the period from 2009-10 to 2013-14.

160

Table 3.21 shows that Surana Jewellers had a decreasing trend of

operating profit ratio except in the year 2011-12 during the period under

study. The ratio was 3.80 percent (highest) in 2009-10 which sharply

decreased to 1.27 percent (lowest) in 2010-11. Then it increased to 2.87

percent in 2011-12 but declined to 2.40 percent in 2012-13 and came

down further to 1.68 percent in the final year 2013-14. It is suggested

that the decreasing trend should be controlled by reducing the

operating cost.

Classic Diamonds also had a decreasing trend of operating profit

ratio except in the year 2011-12. The ratio was 9.38 percent in 2009-10

which sharply decreased to 6.45 percent (lowest) in 2010-11. Then, it

increased and climbed up to 13.69 percent (highest) in 2011-12 but

declined to 8.48 percent in 2012-13 and further decreased to 6.64

percent in the final year 2013-14. It is further suggested that the firms

should increase the ratio by reducing and controlling the operating cost.

Table 3.21 shows that for Gitanjali Gems, operating profit ratio had

a fluctuating trend during the period under study. Initially, the ratio was

6.71 percent in 2009-10 which increased to 7.71 percent (highest) in

2010-11. Then it decreased to 6.85 percent in 2011-12 but inclined up to

6.91 percent in 2012-13. Finally, it decreased again and came down to

5.23 percent in the year 2013-14. It is suggested that the firms should try

to maintain consistency in the ratio and control the decreasing trend.

For Vaibhav Gems, operating profit ratio also had a fluctuating

trend during the period under study. Initially, in 2009-10, the ratio was

7.49 percent in 2009-10 which decreased sharply to -83.17 percent

161

(lowest) in 2010-11 because in this year there was a sudden increase in

direct labour cost. Then, it increased to 6.09 percent in 2011-12 and

inclined up to 10.21 percent in 2012-13. Finally, it decreased and came

down to 8.95 percent in the year 2013-14. It is suggested that the firms

should control the operating cost through making an optimum use of

available sources and increase the profitability.

Table 3.21 shows that for Rajesh Exports, operating profit ratio had

a fluctuating trend during the period under study. The ratio was 0.56

percent in 2009-10 which decreased to -4.64 percent (lowest) in

2010-11. Then it increased slightly to -1.78 percent in 2011-12 but

declined up to -1.90 percent in 2012-13. Finally, it increased and reached

to 2.36 percent in the year 2013-14. The operating profit position of the

firms can not be regarded satisfactory and the management of the firms

should try to control it.

The average operating profit ratio was maximum 8.93 percent for

Classic Diamonds followed by 6.68 percent of Gitanjali Gems and 2.40

percent of Surana Jewellers. Then Rajesh Exports (-1.08 percent) and

Vaibhav Gems (-10.08 percent) had average loss during the period under

study. Standard deviation was highest for Vaibhav Gems that should be

kept in control by the management whereas other firms showed

satisfactory and in-control standard deviation. Coefficient of variation

was highest negatively for Vaibhav Gems indicating loss with high

fluctuations followed by Rajesh Exports, Surana Jewellers, Classic

Diamonds and Gitanjali Gems. The first two firms should improve their

162

operating profit with serious efforts and others kept fluctuations in

control.





operating profit ratio between the companies under study.


year-wise operating profit ratio of the companies under study.

Table 3.22

ANOVA TALE


(d.f.)

Variance(Sum/d.f)

F-Ratio


1497.37 (c-1)=(5-1)=4 374.34 F = 1.21(Between

Companies)


1480.05 (r-1)=(5-1)=4 370.01 F = 1.20(Within



FHigherVariance


374 34

308 061 21

.

..


V2 = 16) is 3.01.

163




the operating profit ratio between the companies under study is not

significant.


FHigherVariance


370 01

308 061 20

.

..

Critical value of F at 5 percent level of significance (V1 = 4 and V2

= 16) is 3.01.




operating profit ratio of the companies under study is not significant.

Gross Profit Ratio

Gross profit margin measures manufacturing and distribution

efficiency of a company during the production process. It tells an

investor the percentage of revenue/sales left after subtracting the cost of

goods sold. A company that shows a higher gross profit margin than its

competitors and industry, is more efficient. Investors tend to pay more

for businesses that have higher efficiency ratings than their competitors,

as these businesses should be able to make a decent profit as long as

overhead costs are controlled (overhead refers to rent, utilities, etc.).

164

Gross profit margin is calculated by subtracting cost of goods sold

(COGS) from total revenue and dividing that value by total revenue.

Gross profit margin is a key measure of profitability by which

investors and analysts compare similar companies and companies to

their overall industry. The metric is an indication of the financial

success and viability of a particular product or service. The higher the

percentage, the more the company retains on each rupee of sales to

service its other costs and obligations. The gross profit margin ratio is

used as one indicator of a business’s financial health. It shows how

efficiently a business is using its materials and labour in the production

process and gives an indication of the pricing, cost structure, and

production efficiency of your business. The higher the percentage, the

more the business retains of each rupee of sales, which means more

money is left over for other operating expenses and net profit. A low

gross profit margin ratio means that the business generates a low level of

revenue to pay for operating expenses and net profit. It indicates that

either the business is unable to control production or inventory costs or

that prices are set too low. The gross profit margin ratio can be

calculated as follows.

Gross Profit Ratio = Revenue Cost of Goods Sold

Revenue

-´ 100

The comparison of gross profit margin across different firms over

the last five years is summarized in Table 3.23.

165

Table 3.23

Gross Profit Ratio of Firms under Study



ClassicDiamonds

GitanjaliGems

VaibhavGems

RajeshExports

2009-10 3.60 8.44 6.59 6.92 0.54

2010-11 1.13 5.53 7.55 -84.04 -4.66

2011-12 2.78 12.94 6.74 5.10 -1.79

2012-13 2.18 7.64 6.84 9.38 -1.91

2013-14 1.40 5.07 5.18 8.08 2.35

Average 2.22 7.92 6.58 -10.91 -1.09

S.D. 1.01 3.14 0.86 40.91 2.66

C.V. 0.455 0.396 0.131 -3.749 -2.435


Table 3.23 shows that Surana Jewellers had a decreasing trend of

gross profit ratio except in the year 2011-12 during the period under

study. The ratio was 3.60 percent (highest) in 2009-10 which sharply

decreased to 1.13 percent (lowest) in 2010-11. Then, it increased to 2.78

percent in 2011-12 but declined to 2.18 percent in 2012-13 and came

down further to 1.40 percent in the final year 2013-14. The decreasing

trend is not regarded favourable as it shows that the firm could not

control the cost of goods sold. It is suggested that the cost of goods sold

should be kept under control.

Classic Diamonds also had a decreasing trend of gross profit ratio

except in the year 2011-12. The ratio was 8.44 percent in 2009-10 which

sharply decreased to 5.53 percent in 2010-11. Then, it increased up to

12.94 percent (highest) in 2011-12 but declined to 7.64 percent in

166

2012-13 and further decreased to 5.07 (lowest) percent in the final year

2013-14. The decreasing trend was because of increasing cost of goods

sold. It is suggested that the management of the firms should try to

control the cost of goods sold effectively and control the decreasing

trend.

For Gitanjali Gems, gross profit ratio had a fluctuating trend during

the period under study. Initially, in 2009-10, the ratio was 6.59 percent

which increased to 7.55 percent (highest) in 2010-11. Then it decreased

to 6.74 percent in 2011-12 but inclined slightly to 6.84 percent in

2012-13. Finally, it decreased again and came down to 5.18 percent in

the year 2013-14. It is suggested that the firm should control the

decreasing trend by effectively controlling the cost of goods sold.

Table 3.23 showed that gross profit ratio for Vaibhav Gems had a

fluctuating trend during the period under study. Initially, in 2009-10, the

ratio was 6.92 percent in 2009-10 which decreased sharply to -84.04

percent (lowest) in 2010-11. In this year, the cost of goods sold abruptly

increased due to labour cost. Then, it increased to 5.10 percent in

2011-12 and reached up to 9.38 percent in 2012-13. Finally, the ratio

decreased and came down to 8.08 percent in 2013-14. The gross profit

should be increased by increasing sales and controlling the cost of goods

sold.

The gross profit ratio had a fluctuating trend for Rajesh Exports.

The ratio was 0.54 percent in 2009-10 which decreased to -4.66 percent

(lowest) in 2010-11. Then, it increased to -1.79 percent in 2011-12 and

came down to -1.91 percent in 2012-13. Finally, it increased and reached

167

to 2.35 percent in the year 2013-14. The gross profit ratio of Rajesh

Exports was very poor in comparison toother firms which should be

improved.

The average gross profit ratio was maximum 7.92 percent for

Classic Diamonds followed by 6.58 percent of Gitanjali Gems and 2.22

percent of Surana Jewellers. Then Rajesh Exports (-1.09 percent) and


study. Standard deviation was highest for Vaibhav Gems that should be

kept in control whereas other firms showed controlled standard

deviation. Coefficient of variation was highest negatively for Vaibhav

Gems indicating loss with high fluctuations followed by Rajesh Exports,

Surana Jewellers, Classic Diamonds and Gitanjali Gems. The first two

firms should improve their gross profit with serious efforts and others

kept fluctuations in control.





gross profit ratio between the companies under study.


year-wise gross profit ratio of the companies under study.

168

Table 3.24

ANOVA TALE


(d.f.)

Variance(Sum/d.f)

F-Ratio


1134.13 (c-1)=(5-1)=4 283.53 F = 1.15(Between

Companies)


1570.40 (r-1)=(5-1)=4 392.60 F = 1.20(Within



FHigherVariance


326 01

283 53115

.

..

Critical value of F at 5 percent level of significance (For V1 = 16

and V2 = 4) is 5.84.




the gross profit ratio between the companies under study is not

significant.


FHigherVariance


392 60

326 011 20

.

..

Critical value of F at 5 percent level of significance (V1 = 4 and V2

= 16) is 3.01.

169




gross profit ratio of the companies under study is not significant.

Net Profit Ratio

The net profit margin tells you how much profit a company makes

for every rupee it generates in revenue or sales. Net profit margins vary

by industry, but all else being equal, the higher a company’s net profit

margin compared to its competitors, the better. To calculate net profit

margin, several financial books, sites, and resources tell an investor to

take the after-tax net profit divided by sales. All companies must be

compared on the same basis. Net profit margin is one of the most closely

followed numbers in finance. Shareholders look at net profit margin

closely because it shows how good a company is at converting revenue

into profits available for shareholders or owners. One of the most

important concepts to understand is that net profit is not a measure of

how much cash a company earned during a given period. This is because

the income statement includes a lot of non-cash expenses such as

depreciation and amortization. Net Profit Margin is the percentage of

revenue remaining after all operating expenses, interest, taxes and

preferred stock dividends (but not common stock dividends) have been

deducted from a company’s total revenue.

Net Profit Ratio = Total Revenue Total Expenses

Total Revenue

-

170

The comparison of net profit margin across different firms over the

last five years is summarized in Table 3.25.

Table 3.25

Net Profit Ratio of Firms under Study



ClassicDiamonds

GitanjaliGems

VaibhavGems

RajeshExports

2009-10 1.26 4.36 5.20 4.80 2.38

2010-11 1.00 0.57 4.70 -147.54 0.70

2011-12 0.99 2.43 4.23 1.76 1.04

2012-13 1.09 1.19 4.38 2.08 1.20

2013-14 0.78 -13.11 3.28 7.45 1.59

Average 1.02 -0.91 4.36 -26.29 1.38

S.D. 0.17 6.97 0.71 67.82 0.64

C.V. 0.170 -7.643 0.162 -2.579 0.465


Table 3.25 depicts that Surana Jewellers had a decreasing trend of

net profit ratio except in the year 2012-13 during the period under study.

The ratio was 1.26 percent (highest) in 2009-10 which sharply decreased

to 1.00 percent in 2010-11 and came down to 0.99 percent in 2011-12.

Then, it increased to 1.09 percent in 2012-13 but declined to 0.78

percent (lowest) in the final year 2013-14. The decreasing trend shows

that the firm had no control over the indirect cost. It is suggested that to

increase the net profit ratio, the firm should try to reduce and control the

indirect cost.

171

Classic Diamonds had a decreasing trend of net profit ratio except

in the year 2011-12. The ratio was 4.36 percent (highest) in 2009-10

which sharply decreased to 0.57 percent in 2010-11. Then, it increased

up to 2.43 percent in 2011-12 but declined to 1.19 percent in 2012-13

and further came down to -13.11 (lowest) percent in the final year

2013-14. The decreasing trend shows inefficiency of the management of

the firm towards controlling the indirect expenses. The management of

the firm should follow a strict policy to control the indirect expenses and

increase the net profit ratio.

For Gitanjali Gems, net profit ratio had a decreasing trend during

the period under study except in the year 2012-13. Initially, in 2009-10,

the ratio was 5.20 percent (highest) which decreased to 4.70 percent in

2010-11 and came down to 4.23 percent in 2011-12. Then it increased to

4.38 percent in 2012-13 but finally, decreased again and came down to

3.28 percent in the year 2013-14. It is suggested that the firm should

control the decreasing trend of net profit ratio by increasing the net

profit and controlling the indirect expenses.

Table 3.25 showed that net profit ratio for Vaibhav Gems had a

fluctuating trend during the period under study. Initially, in 2009-10, the

ratio was 4.80 percent in 2009-10 which decreased sharply to -147.54

percent (lowest) in 2010-11 because of abnormal increase in cost of

goods sold. Then, it increased to 1.76 percent in 2011-12, 2.08 percent in

2012-13 and reached up to 7.45 percent in 2013-14. It is suggested that

172

the management of the firm should continue the increasing trend of net

profit ratio.

The net profit ratio had an increasing trend for Rajesh Exports

during the period under study except in the year 2010-11. The ratio was

2.38 percent (highest) in 2009-10 which decreased to 0.70 percent

(lowest) in 2010-11. Then, it increased to 1.04 percent in 2011-12,

1.20 percent in 2012-13 and finally reached up to 1.59 percent in the

year 2013-14. It is suggested that increasing trend should be maintained

in future also.

The average net profit ratio was maximum 4.36 percent for

Gitanjali Gems followed by 1.38 percent of Rajesh Exports and 1.02

percent of Surana Jewellers. Then Classic Diamonds (-0.91 percent) and


study. Standard deviation was highest for Vaibhav Gems and higher for

Classic Diamonds that should be kept in control whereas other firms

showed satisfactory standard deviation. Coefficient of variation was

highest negatively for Classic Diamonds and Vaibhav Gems indicating

loss with high fluctuations followed by Rajesh Exports, Surana Jewellers

and Gitanjali Gems. The first two firms should improve their net profit

with serious efforts and others should keep fluctuations in control.




173


net profit ratio between the companies under study.


year-wise net profit ratio of the companies under study.

Table 3.26

ANOVA TALE


(d.f.)

Variance(Sum/d.f)

F-Ratio


3152.02 (c-1)=(5-1)=4 788.01 F = 1.19(Between

Companies)


3640.68 (r-1)=(5-1)=4 910.17 F = 1.03(Within



FHigherVariance


934 73

788 01119

.

..

Critical value of F at 5 percent level of significance (For V1 = 16

and V2 = 4) is 5.84.




the net profit ratio between the companies under study is not significant.

174

(ii) F-Test Between the Companies (Intra Companies)

FHigherVariance


934 73

910 171 03

.

..


V2 = 4) is 5.84.




net profit ratio of the companies under study is not significant.

*****

175

Documents

Marginal Costing and Cost-Profit-Volume Analysis€¦ · even below the total cost. For instance, when there is a general trade depression (or) exploring new markets (or) accepting