The technique of marginal costing is concerned with marginal cost. The Institute of Cost and Management Accountants, London, has defined Marginal Cost as "the amount at any given volume of output by which aggregate costs are changed if the volume of output is increased or decreased by one unit".

Therefore, Marginal Cost refers to increase or decrease in the amount of cost on account of increase or decrease of production by a single unit. The unit may be a single article or a batch of similar articles. Marginal Cost ordinarily is equal to the increase in total variable cost because within the existing production capacity an increase of one unit in production will cause an increase in variable cost only. The variable cost consists of direct materials, direct labor, variable direct expenses and variable overheads.

The accountant’s concept of marginal cost is different from the economist’s concept of marginal cost. According to economists, the cost of producing one additional unit of output is the marginal cost of production. This shall include an element of fixed cost also. Thus, fixed cost is taken into consideration according to the economist’s concept of marginal cost, but not according to the accountant’s concept. Moreover with additional production the economist’s marginal cost per unit may not be uniform since the law of diminishing (or increasing) returns may be applicable, while the accountant’s marginal cost in taken as constant per unit of output with additional production.

Marginal costing is a special technique used for managerial decision making. The technique of marginal costing is used to provide a basis for the interpretation of cost data to measure the profitability of different products, processes and cost centers in the course of decision making. It can, therefore, be used in conjunction with the different methods of costing such as job costing, process costing etc., or even with other techniques such as standard costing or budgetary control. The technique of marginal costing has become more relevant and useful in today's business environment of globalization. This is because in marginal costing the cost of a product, or a service is computed only on the basis of variable costs. Global companies want to take advantage of cheap labour in developing or backward countries.

Marginal costing techniques helps management in several ways in the present day context of global business environment. These are listed below:

• Volume of production: Marginal costing helps in determining the level of output which is most profitable for running concern. The production capacity, therefore, can be utilized to the maximum possible extent. It helps in determining the most profitable relationship between cost, price, and volume in the business which helps the management in fixing best selling prices for its products.
• Selecting product lines: The marginal costing technique helps in determining the most profitable production line by comparing the profitability of different products.
• Produce or procure: The decision whether a particular product should be manufactured in the factory or procured from outside source can be taken comparing the price at which it can be had from outside. In case the procurement price is lower than the marginal cost of production, it will be advisable to procure the product from outside source.
• Method of manufacturing: If a product can be manufactured by two or more methods, ascertaining the marginal cost of manufacturing the product by each method will be helpful in deciding as to which method should be adopted.
• Shut down or continue: marginal costing, particularly in the times of depression, helps in deciding whether the production in the plant should be suspended temporarily or continued in spite of low demand for the firm's products.

Marginal Costing vs Absorption Costing

Absorption Costing technique is also termed as Traditional or Full Cost Method. According to this method, the cost of a product is determined after considering both fixed and variable costs. In marginal costing only variable costs are charged to production. Fixed costs are ignored. Following are differences between them.

• Recovery of Overhead: In absorption costing both fixed & variable overheads are charged to production. In contrary to this, in marginal costing only variable overheads are charged to production. Thus, in marginal costing there is under recovery of overheads.
• Valuation of stocks: In absorption costing, stocks of work in progress and finished goods are valued at works cost & total cost. In marginal costing, only variable cost is considered while computing the value of work in progress or finished products. Thus, closing stock in marginal costing is under valued as compared to absorption costing.