Benefits of computing gross profit on sales in contrast to contribution margin Essay

The computation of unrefined profit on sales, which can be derived under the absorption costing barbel, is a profitability measure unremarkably conducted under pecuniary synopsis. This accounting ratio outlines the gross profit generated from either $ ascorbic acid of sales. Such measure is passing useful in financial analysis, because it provides indications on the profitability potential and cost efficiency of the company. For instance, if there was an ontogeny in sales of 10%, but the gross profit marge declined by 4%.This indicates that the cost efficiency of the organization deteriorated during the period. Such analysis cannot be conducted under the contribution margin approaching, because gross profit is not present. However, under the contribution margin approach one can maneuver the contribution to sales ratio which indicates the contribution determined from every $100 of sales. This would also provide indications on the control of variable costs at one time compa red over time.Difference in Net Income arising from different approaches.In the causa of ABC Company the profit under the two regularitys is the same. However, this is not always the case. Profits under the two methods differ whenever there is movement in scroll. This is collectible to the fact that since under the absorption costing technique set(p) manufacturing costs are included in the cost of goods sold, a semblance of fixed costs will be included in inventory leading to such a difference.Contribution margin approach not allowable for external reporting.The contribution margin approach, despite being highly useful to provide valuable information for decision making, is not satisfying for external reporting. This is due to the fact that it does not comply with the Generally accepted Accounting Principles (GAAP).For example, under the GAAP the income statement layout should clearly outline the gross profit made by the company. Under the contribution margin method this i s not highlighted. Another important reason why the absorption approach is allowable for external reporting and not the contribution approach is due to the way in which the income statement is classified ad.The GAAP state that the income statement is classified by function, like under the absorption method. In the contribution approach it is classified by cost behavior. Indeed separation between fixed and variable costs is made under such method. This conflicts with another requisite of the GAAP.ReferenceDrury C. (1996). Management and Cost Accounting. Fourth Edition. New York International Thomson demarcation Press.