AQA A-Level Accounting: Marginal costing (7127) – Revision Notes

For full explanations and longer worked examples, use the marginal costing study guide.

These notes cover section 3.10, Marginal costing, of the AQA A-level Accounting (7127) specification, version 1.1 (October 2026), for A-level exams from June 2019 onwards. The course is untiered and this section is assessed on Paper 2. All businesses and figures are invented.

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3.10 Cost terms

Term	Meaning	Example
Direct cost	Traced to each unit of output	Raw materials, piece-rate wages
Indirect cost	Cannot be traced to one unit (an overhead)	Factory rent, cleaning
Variable cost	Total rises in proportion to output; constant per unit	Packaging per item
Fixed cost	Total unchanged as output changes (within a range); falls per unit as output rises	Insurance, salaries
Semi-variable cost	Fixed element + variable element	Phone: line rental + call charges
Stepped cost	Fixed over a range, then jumps at a capacity limit	An extra van once deliveries exceed one van’s capacity
Marginal cost	Extra cost of one more unit = variable cost per unit	Materials + labour + variable overheads
Contribution	Selling price − marginal cost (per unit or in total)	Covers fixed costs, then gives profit
Break-even	Output where total contribution = fixed costs; no profit, no loss

Two separate questions. “Direct or indirect?” is about tracing; “fixed or variable?” is about behaviour. Most direct costs are variable, but the two ideas are not the same thing: a cost must be classified on each.

Formulas

What you need	Formula
Contribution per unit	Selling price per unit − variable cost per unit
Total contribution	Sales revenue − total variable costs
Profit	Total contribution − total fixed costs
Break-even (units)	Fixed costs ÷ contribution per unit
C/S ratio	Contribution per unit ÷ selling price (or total contribution ÷ sales)
Break-even (£ revenue)	Fixed costs ÷ C/S ratio, or break-even units × price
Units for target profit	(Fixed costs + target profit) ÷ contribution per unit
Margin of safety	Budgeted sales − break-even sales (units or £); as % of budgeted sales
Ranking with a limiting factor	Contribution per unit ÷ units of limiting factor per unit

Worked reminder: Orla’s Bakes

A stall sells loaves at £2.40; variable cost £1.50; fixed costs £9 900 a year.

Contribution per loaf  = 2.40 − 1.50 = £0.90
Break-even             = 9 900 ÷ 0.90 = 11 000 loaves
C/S ratio              = 0.90 ÷ 2.40 = 0.375
Break-even revenue     = 9 900 ÷ 0.375 = £26 400  (check: 11 000 × 2.40)
Target profit £6 300   = (9 900 + 6 300) ÷ 0.90 = 18 000 loaves

Break-even charts in steps

1. Horizontal axis: output (units). Vertical axis: £.
2. Fixed cost line: horizontal at the fixed cost figure.
3. Total cost line: starts at fixed costs on the vertical axis; slope = variable cost per unit.
4. Revenue line: starts at the origin; slope = selling price.
5. Break-even = where revenue crosses total cost. Read both the output and the £ value.
6. Left of break-even: loss area. Right: profit area. Vertical gap between the lines = profit or loss at that output.
7. Distance from budgeted output back to break-even = margin of safety.

What moves break-even: higher price or lower variable cost → contribution per unit rises → break-even falls. Higher fixed costs → break-even rises.

Uses and limitations of break-even analysis

Uses	Limitations
Minimum sales to avoid a loss	Costs rarely split cleanly into fixed and variable
“What if” testing of price and cost changes	Assumes one price and constant variable cost per unit at all outputs
Output needed for a target profit	Fixed costs assumed constant; stepped costs ignored outside the range
Visual summary for non-accountants	Assumes all output is sold (no inventory change)
Supports a case to a lender	Multi-product businesses depend on the sales mix
	Based on forecasts, which may be wrong

Decision rules – method in steps

Every decision: relevant = future costs and revenues that change because of the decision. Ignore fixed costs that continue anyway. Then add non-financial factors and recommend.

Make or buy

1. Compare the supplier’s price with the marginal cost of making (not the full cost).
2. Add any fixed costs that would be avoided if you buy, and any income from freed capacity.
3. Non-financial: quality, reliability of supply, control, lost skills, jobs.

Acceptance of additional work

1. Is there spare capacity? If not, normal sales lost must be counted.
2. Extra contribution = units × (special price − marginal cost), minus any extra fixed costs.
3. Non-financial: reaction of existing customers, repeat orders, reputation, staff overtime.

Price setting

1. Short-run floor: marginal cost.
2. Long-run price: marginal cost + contribution per unit needed to cover fixed costs and target profit.
3. Check against competitors’ prices and likely demand.

Optimum use of scarce resources

1. Identify the limiting factor (check demand needs more of it than is available).
2. Contribution per unit of limiting factor for each product.
3. Rank, then allocate the resource in rank order up to maximum demand.
4. Total contribution − fixed costs = maximum profit.

Closing a potentially loss-making line or department

1. Ignore apportioned general fixed costs that would continue.
2. Change in profit = − lost contribution + avoidable fixed costs saved (+ any alternative use of space).
3. Non-financial: redundancies, morale, linked sales lost, image.

Target profit: (fixed costs + target profit) ÷ contribution per unit, then round up.

Must-know distinctions

• Marginal cost vs full cost: full cost adds absorbed fixed overheads. Decisions use marginal cost.
• Contribution vs profit: profit is contribution after fixed costs. A product with positive contribution helps profit even if it shows a “loss” after apportioned costs.
• Contribution per unit vs per unit of limiting factor: rank by the second when a resource is short.
• Avoidable vs unavoidable fixed costs: only avoidable ones are relevant to closure or make or buy.
• Semi-variable vs stepped: semi-variable rises steadily from a fixed base; stepped stays flat then jumps.

Quick self-test

1. Classify factory rent by tracing and by behaviour.
2. Give one example of a stepped cost.
3. Price £16, variable cost £10, fixed costs £27 000. Calculate break-even in units.
4. For question 3, calculate the C/S ratio and break-even revenue.
5. For question 3, budgeted sales are 6 000 units. Calculate the margin of safety in units and as a %.
6. For question 3, how many units are needed for a profit of £18 000?
7. A phone costs £40 a month plus 5p per minute. What is the cost of 900 minutes in a month?
8. With spare capacity and no extra costs, what is the lowest price at which a special order in question 3 adds to profit?
9. A part costs £7.80 marginal cost to make and £7.20 to buy. Fixed costs are unaffected. How much is saved by buying 5 000?
10. Material is scarce. Product J: contribution £12, uses 3 kg. Product K: contribution £10, uses 2 kg. Which is made first?
11. A line has contribution £8 000, apportioned fixed costs £11 000, of which £5 000 is avoidable. What happens to profit if it closes?

Answers

1. Indirect; fixed.
2. A second supervisor’s salary once output passes one supervisor’s limit (any cost fixed over a range that then jumps).
3. Contribution = £6; 27 000 ÷ 6 = 4 500 units.
4. 6 ÷ 16 = 0.375; 27 000 ÷ 0.375 = £72 000.
5. 6 000 − 4 500 = 1 500 units; 1 500 ÷ 6 000 = 25%.
6. (27 000 + 18 000) ÷ 6 = 7 500 units.
7. 40 + (900 × 0.05) = £85.
8. Any price above the marginal cost of £10.
9. 7.80 − 7.20 = £0.60 × 5 000 = £3 000 saved (before non-financial factors).
10. J: 12 ÷ 3 = £4 per kg; K: 10 ÷ 2 = £5 per kg. K first.
11. Lose £8 000 contribution, save £5 000: profit falls by £3 000, so keep it on financial grounds.

Where marks are usually lost

• Using full cost (including absorbed fixed overheads) instead of marginal cost in make-or-buy and special-order answers.
• Ranking scarce-resource products by contribution per unit instead of per unit of the limiting factor.
• Treating all apportioned fixed costs as saved when a department closes.
• Rounding break-even or target-profit units down instead of up.
• Labelling a semi-variable cost as stepped, or the reverse.
• Calling contribution “profit” in a written answer.
• Forgetting to check spare capacity before accepting additional work.
• A recommendation with no non-financial factor when the question says “evaluate” or “advise”.
• Reading the break-even point from where revenue crosses the fixed cost line.
• Not stating whether a figure is units or £ when reporting break-even.

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Official syllabus

AQA A-level Accounting (7127) specification, version 1.1, October 2026, for A-level exams June 2019 onwards (AQA). Section 3.10 Marginal costing.