Costing Methods
By "Costing Method" mean the procedure adopted to ascertain costs. The Method adopted would be dependent on the circumstances in which accounting is required to be made which is dependent on the product being manufactured and the nature of the industry making the product.
Depending on the nature of the business i.e. the type of the product made and the procedure adopted to make it, all the different costing methods are classified
1. Operation Costing
This is a costing method applicable to those industries where the activity consists of continuous or repetitive operations or processes and the products are identical and cannot be segregated.
This includes
2. Specific Order Costing
This is a costing method applicable to those industries where the activity being accomplished consists of a task which is specifically identifiable at each stage of production.
This includes
3. Operating Costing
This is also called Service Costing and is applicable to organizations which produce services but not tangible goods.
4. Multiple Costing
This actually is not a method but a combination of two or more methods mentioned above.
Techniques of Costing
Techniques of costing imply tools that are to be used to apply a method of costing.
In accounting for costs using a particular method of costing as mentioned above, any one or more of the techniques of costing are used by the organization
The various techniques of costing are
Method and Techniques
Process Costing is a technique of costing and it may be adopted using any of the techniques of costing.
The technique adopted would decide the procedure adopted in relation to various accounting aspects. For example, for the purpose of valuation of stocks
• Fixed costs will be considered along with Variable costs, if "Absorption Costing" is adopted as the technique.
• Only variable costs will be considered, if "marginal costing" is adopted as the technique.
A common example of an industry where process costing may be applied is "Sugar Manufacturing Industry".
Characteristics of Process Costing
Process Costing Method is applicable where the output results from a sequence of continuous or repetitive operations or processes and products are identical and cannot be segregated.
Process Costing enables the ascertainment of cost of the product at each process or stage of manufacture.
The following features may be identified with process costing:
1. The output consists of products which are homogenous.
2. Production is carried on in different stages (each of which is called a process) having a continuous flow.
3. Production takes place continuously except in cases where the plant and machinery are shut down for maintenance etc. Output is uniform and all units are identical during each process. It would not be possible to trace the identity of any particular lot of output to any lot of input.
4. The input will pass through two or more processes before it takes the shape of the output. The output of each process becomes the input for the next process until the final product is obtained, with the last process giving the final product.
5. The output of a process (except the last) may also be saleable in which case the process may generate some profit.
6. The input of a process (except the first) may be capable of being acquired from the outside sources.
7. The output of a process is transferred to the next process generally at cost to the process. It may also be transferred at market price to enable checking efficiency of operations in comparison to the market conditions.
8. Normal and abnormal losses may arise in the processes
Elements of Cost
For the purpose of cost accounting, the process industry is divided into separate departments with each department representing a specific process. The Direct Material and Direct Labour/Labor Costs are collected for each department separately and the overheads which are collected over all the departments/processes are apportioned over the various departments/processes on some rational basis. The following are the main elements/components of costs involved in the manufacturing process where process costing method is adopted.
The following are the main element of costing
1. Direct Material
There are two type of material that we use in process,
Primary Material
Materials which are introduced in the initial process and passed on to the next process as a part
of output after completion of processing.
Secondary Material
Materials which are introduced in the first or subsequent processes in addition to the main material introduced in the initial process.This would mixed with the main material and comes the part output.
Direct Labour
The direct labour cost is generally incurred in every process. Identification of direct labour cost is also relatively easy in process costing industry
Direct Expenses
Expenses in addition to Direct Material and Labor which can be directly attributable to a particular process. These are costs relevant to specific processes.
Production Overheads
The overhead expenses are generally expended over all the processes involved in production. These are to be apportioned over the various processes in an amicable manner.
Method of Recording Costs
Financial Accounting Methodology is adopted for recording costs involved.
Process Accounts
A nominal account for each process is used to record all the costs relevant to a process. Each process account is
Debited with
■The Primary Direct Material Cost
■Secondary Direct Material Cost
■Direct Labor Cost
■Direct Expenses and
■Production Overheads allocated and/or apportioned to the process.
Credited with
The value of output transferred to the subsequent process or finished stocks.
Process Stock Accounts
Stocks relevant to a process are maintained in a separate stock account. Stock accounts for input may be maintained where all the input acquired/received for a process during a period is not used up.
Stock accounts for output may be maintained where all the output produced/completed in a process during a period is not disposed off either by transfer to the next process or by sale.
Where the output relevant to a process is sold apart from being transferred to the next process, it generates revenue. These revenues relevant to a process, are generally recorded using the process account or the stock account.
Example:
For better understanding of the various terms let us consider an example.
A product is finally obtained after it passes through three distinct processes. The following information is available from the cost records.
Process I Process II Process III Total
Rs. Rs. Rs. Rs.
Materials 2,700 1900 1000 5600
Direct Wages 2200 3500 1500 7200
Production Overheads 7200
400 units @ Rs. 4 per unit were introduced in process I. Production overheads are absorbed as a percentage of direct wages.
The actual output and normal loss of the respective processes are given below:
Output Normal loss Value of scrap
(Units) as a percentage (per unit)
of input
Process I 360 10 3
Process II 330 20 4
Process III 270 25 6
Prepare the process accounts and the other relevant accounts.
A separate ledger account is used for each process account.
By "Costing Method" mean the procedure adopted to ascertain costs. The Method adopted would be dependent on the circumstances in which accounting is required to be made which is dependent on the product being manufactured and the nature of the industry making the product.
Depending on the nature of the business i.e. the type of the product made and the procedure adopted to make it, all the different costing methods are classified
1. Operation Costing
This is a costing method applicable to those industries where the activity consists of continuous or repetitive operations or processes and the products are identical and cannot be segregated.
This includes
- Unit Costing
- Costing
2. Specific Order Costing
This is a costing method applicable to those industries where the activity being accomplished consists of a task which is specifically identifiable at each stage of production.
This includes
- Job Costing
- Batch Costing
- Costing
3. Operating Costing
This is also called Service Costing and is applicable to organizations which produce services but not tangible goods.
4. Multiple Costing
This actually is not a method but a combination of two or more methods mentioned above.
Techniques of Costing
Techniques of costing imply tools that are to be used to apply a method of costing.
In accounting for costs using a particular method of costing as mentioned above, any one or more of the techniques of costing are used by the organization
The various techniques of costing are
- Absorption Costing
- Marginal Costing
- Standard Costing
- Differential Costing
- Uniform Costing
Method and Techniques
Process Costing is a technique of costing and it may be adopted using any of the techniques of costing.
The technique adopted would decide the procedure adopted in relation to various accounting aspects. For example, for the purpose of valuation of stocks
• Fixed costs will be considered along with Variable costs, if "Absorption Costing" is adopted as the technique.
• Only variable costs will be considered, if "marginal costing" is adopted as the technique.
A common example of an industry where process costing may be applied is "Sugar Manufacturing Industry".
Characteristics of Process Costing
Process Costing Method is applicable where the output results from a sequence of continuous or repetitive operations or processes and products are identical and cannot be segregated.
Process Costing enables the ascertainment of cost of the product at each process or stage of manufacture.
The following features may be identified with process costing:
1. The output consists of products which are homogenous.
2. Production is carried on in different stages (each of which is called a process) having a continuous flow.
3. Production takes place continuously except in cases where the plant and machinery are shut down for maintenance etc. Output is uniform and all units are identical during each process. It would not be possible to trace the identity of any particular lot of output to any lot of input.
4. The input will pass through two or more processes before it takes the shape of the output. The output of each process becomes the input for the next process until the final product is obtained, with the last process giving the final product.
5. The output of a process (except the last) may also be saleable in which case the process may generate some profit.
6. The input of a process (except the first) may be capable of being acquired from the outside sources.
7. The output of a process is transferred to the next process generally at cost to the process. It may also be transferred at market price to enable checking efficiency of operations in comparison to the market conditions.
8. Normal and abnormal losses may arise in the processes
Elements of Cost
For the purpose of cost accounting, the process industry is divided into separate departments with each department representing a specific process. The Direct Material and Direct Labour/Labor Costs are collected for each department separately and the overheads which are collected over all the departments/processes are apportioned over the various departments/processes on some rational basis. The following are the main elements/components of costs involved in the manufacturing process where process costing method is adopted.
The following are the main element of costing
1. Direct Material
There are two type of material that we use in process,
Primary Material
Materials which are introduced in the initial process and passed on to the next process as a part
of output after completion of processing.
Secondary Material
Materials which are introduced in the first or subsequent processes in addition to the main material introduced in the initial process.This would mixed with the main material and comes the part output.
Direct Labour
The direct labour cost is generally incurred in every process. Identification of direct labour cost is also relatively easy in process costing industry
Direct Expenses
Expenses in addition to Direct Material and Labor which can be directly attributable to a particular process. These are costs relevant to specific processes.
Production Overheads
The overhead expenses are generally expended over all the processes involved in production. These are to be apportioned over the various processes in an amicable manner.
Method of Recording Costs
Financial Accounting Methodology is adopted for recording costs involved.
Process Accounts
A nominal account for each process is used to record all the costs relevant to a process. Each process account is
Debited with
■The Primary Direct Material Cost
■Secondary Direct Material Cost
■Direct Labor Cost
■Direct Expenses and
■Production Overheads allocated and/or apportioned to the process.
Credited with
The value of output transferred to the subsequent process or finished stocks.
Process Stock Accounts
Stocks relevant to a process are maintained in a separate stock account. Stock accounts for input may be maintained where all the input acquired/received for a process during a period is not used up.
Stock accounts for output may be maintained where all the output produced/completed in a process during a period is not disposed off either by transfer to the next process or by sale.
Where the output relevant to a process is sold apart from being transferred to the next process, it generates revenue. These revenues relevant to a process, are generally recorded using the process account or the stock account.
Example:
For better understanding of the various terms let us consider an example.
A product is finally obtained after it passes through three distinct processes. The following information is available from the cost records.
Process I Process II Process III Total
Rs. Rs. Rs. Rs.
Materials 2,700 1900 1000 5600
Direct Wages 2200 3500 1500 7200
Production Overheads 7200
400 units @ Rs. 4 per unit were introduced in process I. Production overheads are absorbed as a percentage of direct wages.
The actual output and normal loss of the respective processes are given below:
Output Normal loss Value of scrap
(Units) as a percentage (per unit)
of input
Process I 360 10 3
Process II 330 20 4
Process III 270 25 6
Prepare the process accounts and the other relevant accounts.
A separate ledger account is used for each process account.
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