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Process Costing

Process Costing. Management Accounting 28 th February 2011. Process Costing. Is used mainly when a company makes one item continuously Unlike Job Order Costing where each JOB is costed on a separate JOB CARD

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Process Costing

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  1. Process Costing Management Accounting 28th February 2011

  2. Process Costing • Is used mainly when a company makes one item continuously • Unlike Job Order Costing where each JOB is costed on a separate JOB CARD • Both systems have the same basic purpose, to assign the costs of production to the COST OBJECT(S) • Please read and understand Pg 153 differences between Job and Process Costing and ask any questions you may have

  3. Cost Flows • Raw Materials (RM) • Work In Progress (WIP) • Finished Goods (FG)

  4. Raw Materials • Raw Materials or Inventory are the objects which go into making the COST OBJECT before any conversion process has taken place • In our example of a Chair the Raw Materials would be the stock of Wood, Nails and Glue before it is requisitioned for a job • Or the example on Page 153 is of Potatoes before they are transformed into Potato Chips

  5. Work In Progress • Work in Progress is the materials as they are being transformed into the final product • In our example of a chair this is the Nails, Wood and Glue as they are being put together • Or in the example on Pg 153 it refers to the Potatoes as they are Cut, Cooked and Packaged

  6. Finished Goods • Finished Goods are the completed product which has not yet been sold • In Our Example this would be the completed chair • In the example on Pg 153 it is the packaged Potato Chips

  7. What Happens during each of these stages? • Raw Materials are our Direct Materials before any Direct Labour has been applied • Work in Progress are the Direct Material as the Direct Labour is being applied • Finished Goods are the completed products • RM, WIP and FG are one way of understanding how costs accumulate during the Production Process

  8. Production Process

  9. Cost Accumulation • Costs accumulate as the Production Process moves forward • Costs can therefore be calculated depending on what stage they are in the Production Process • This has the advantage of more accurately assigning costs and controlling wastage

  10. System Design • Process Costing Systems are designed along exactly the same lines as Job Costing as materials, labour and overheads are allocated depending on the % of the conversion process completed • Therefore if Work in Progress has to be written off at some stage of production we have a more accurate record of the costs of wastage • This is particularly useful in systems of continuous production (Think of Plastic Bottles)

  11. How we measure costs in a Process Costing System • Step One – Determine Equivalent Units • Step Two – Compute Costs • Step Three - Apply Costs

  12. 2 Methods for Determining EQUIVILENT UNITS • FIFO (First In First Out) • Weighted Average Method • For simplicities sake we will be using the Weighted Average Method

  13. Weighted Average Method – Step One • You will be looking at a defined period of time, in this example one week • Find Beginning Work in Progress (WIP) for the period • Find Units Started into production during the period • Find Units Completed in the period • Find ending (WIP)

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  15. Step Two • Find the % of Materials which have been utilised for each of these classifications • Assume that Units Completed have a utilisation rate for Materials of 100% (ALL THE MATERIALS FOR THIS PROCESS HAVE BEEN USED)

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  17. Step Three • Find the Conversion Rate (this is how far the units have moved through the production process) • Assume that the Conversion Rate for Units Completed is always 100% (These units have used all the direct materials/Labour and Overheads that they are going to at this point of the process)

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  19. Step 4 – Determining the Equivalent Units • Find units completed • Weight the Ending WIP according to the % utilisation of Materials and Conversion • Do not worry about beginning WIP as this forms a part of the Units completed in the period

  20. Equivalent Units • Units Completed = 5000 • Ending WIP • Materials 600 x 40% (0.4) =240 • Conversion 600 x 50% (0.5) = 300 OR

  21. The Next Step – Compute and Apply Costs • Costs are computed and applied for Starting WIP, Units Completed in the Period and Ending WIP and Weighted according to EQUVILENT UNITS • You will generally be given costs

  22. Starting WIP

  23. Units Started In Production WIP

  24. Ending WIP

  25. Cost Per Equivalent Unit Cost per equivalent unit = Cost of beginning WIP Inventory + Cost Added during the period Equivalent Units of Production

  26. Equivalent Costs

  27. Applying the Costs • The Equivalent Cost Per Unit is used to value WIP that is moving through the processes • We must ensure that we know the Ending WIP value as well as its % use of conversion and materials as this is what the next Process costing in the following period will be based upon

  28. Back to the Example • Find the proportion of units left in the process by both Material and conversion percentage • Multiply these by the respective costs

  29. Cost of WIP and Finished Goods

  30. Seminar Problem • A Process Costing for the following information

  31. Step One – Find Equivalent Units of Production • Refer to Page 159

  32. Step Two – Cost Per Equivalent Unit • Refer to page 160

  33. Apply costs • Refer to Page 161

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