Explain the importance of contribution in Decision Making
The Importance of Contribution in Decision Making
Contribution can be defined as the difference between sales and variable cost of the sales. The more the number of units sold, the greater the contribution towards the recovery of fixed cost for the period. After the recovery of fixed cost, any additional contribution made (above the fixed cost) is known as profit.
The importance of contribution is derived from the fact that it is useful in a variety of decision like acceptance or rejection of special order, pricing, addition or deletion of a product line, make or buy and in the use of scare resource. To any average business man who is not familiar with accounting, anytime he acquire an article for say N600 and then sells it for N1000, his „profit‟ per unit is N400. Such notion of profit does take into consideration of transportation fare rent and electricity for the shop. Where Exercise 1.1 Discuss briefly the matters you would consider in planning a costing estimate for a manufacturing company. A costing estimate must show clearly all the elements of cost involved, material, labour and overheads, distinguishing between those costs which are fixed and those which are variable. Marginal technique, showing contributions to fixed costs are most useful. If on the other hand, the factory is working at full capacity, extra costs may be incurred by undertaking additional work, overtime, extra labour or additional machinery. This must be reflected in the estimates. Material cost should be entered at current market price. Material in stock may have cost more or less than this, but any resultant profit or loss is the result of good or bad buying and should not be reflected in the estimate.
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