Differential costing and marginal costing are two decision-making tools used in management accounting. Here’s what each one means:
Differential Costing
Differential costing is a way to figure out the difference in cost and income between two or more options by comparing their costs and benefits. The difference in cost between two options is called the differential cost.
The difference in income between two options is called the differential revenue. This method is used to make short-term decisions, like whether or not to take a customer’s special request.
Marginal Costing
Marginal costing is a method that looks at how prices change and how much a product or service contributes. It breaks the costs down into costs that change and costs that stay the same.
Costs that change based on how much is made or sold are called variable costs. Costs that don’t change depend on how much is made or sold and are called constant costs. The gap between the sale price and the variable cost per unit is the contribution margin.
Marginal costing is used to help make decisions, like choosing the best amount of production or pricing strategy. It helps businesses figure out the breakeven point, which is the point where total sales equal total prices and the business starts making money.
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In short, differential costing compares the costs and benefits of two or more options, while marginal costing looks at how costs change and the margin of input. Both of these methods are used in managerial accounting to help make decisions, but they do so in different ways and for different reasons.