Process Costing: Definition, Features

what is process costingProcess costing is a form of operations costing which is used where standardized homogeneous goods are produced. This costing method is used in industries like chemicals, textiles, steel, rubber, sugar, shoes, petrol, etc. Process costing is also used in the assembly type of industries. It is assumed in process costing that the average cost presents the cost per unit.

The cost of production during a particular period is divided by the- number of units produced during that period to arrive at the cost per unit.

CIMA London defines process costing as “that form of operation costing, which applies where to standardize goods are produced.”

Features of Process Costing

  1. The production is continuous
  2. The product is homogeneous
  3. The process is standardized
  4. The output of one process becomes the raw material of another process
  5. The output of the last process is transferred to finished stock
  6. Costs are collected process-wise
  7. Both direct and indirect costs are accumulated in each process
  8. If there is a stock of semi-finished goods, it is expressed in terms of equivalent units
  9. The total cost of each process is divided by the normal output of that process to find out the cost per unit of that process.

In what types of industries is process costing adopted?

So many industries use process costing except those industries where job, batch, or unit operation costing is necessary. The following are examples of industries where process costing is practices-

  1. Industries involved in chemical works, textile, weaving, spinning, etc.
  2. Industries are producing gas, electricity, water, ice, steel, paper, cement, rubber, bread, etc.
  3. Industries are producing bakeries, confectionery, flour mills, canners, manufacturers of medicine, fabricators, etc.
  4. Industries involved in foundries, laundries, dyers, cleaners, etc.
  5. Industries are producing spare parts, fittings, equipment, fertilizer industries, etc.
  6. Industries involved in box making, paper mills, biscuit factories, oil refining, milk dairy, meat product factory.

Advantages of Process Costing

Advantages of process costing are;

  1. Costs are be computed periodically at the end of a particular period
  2. It is simple and involves less clerical work that job costing
  3. It is easy to allocate the expenses to processes to have accurate costs.
  4. Use of standard costing systems in very effective in process costing situations.
  5. Process costing helps in the preparation of tender quotations.
  6. Since cost data is available for each process, operation and department, good managerial control is possible.

Distinguish between job costing and process costing

Job order costing and process costing are two different systems. Both the systems are used for cost calculation and attachment of cost to each unit completed, but both the systems are suitable in different situations.

The basic difference between job costing and process costing are;

Basis of DistinctionJob order costingProcess costing
Specific orderPerformed against specific ordersProduction is contentious
NatureEach job may be different.The product is homogeneous and Standardized.
Cost determinationCost is determined for each job separately.Costs are complied with for each process for the department on a time basis, i.e., for a given accounting period.
Cost calculationsCost complies when a job is completed.Cost is calculated at the end of the cost period.
ControlProper control is comparatively difficult as each product unit is different, and the production is not continuous.Proper control is comparatively easier as the production is standardized and is more suitable.
TransferThere is usually not transfer from one job to another unless there is some surplus work.The output of one process is transferred to another process as input.
Work-in-progressThere may or may not be work-in-progress.There is always some work-in-progress because of continuous production.
SuitabilitySuitable to industries where production is intermittent, and customer orders can be identified in the value of production.Suitable where goods are made for stock and production is continuous.

Normal Loss

The cost of the units representing normal loss is borne by the good units produced. If the normal loss has any realizable scrap value, such value is credited to the process accounting.

Thus normal loss is treated by neglect. Suppose there is neither any scrap value nor any abnormal gain. If, however, there is abnormal gain, a separate account for normal loss has to be opened.

Abnormal Loss

The cost of the process is to be apportioned between the units lost abnormally and good units in the ratio of such units. The cost of units representing abnormal loss is debited to abnormal loss account and credited to process account.

Thus, good units are not to bear abnormal losses.

If there is scarp value of the units lost, such value is credited to an abnormal loss account, and the balance remaining after that in that account is written off to costing profit and loss account.

How does a manufacturing company experience Abnormal Loss and Abnormal

There may also be loss of a different nature, i.e., loss arising out of unexpected or abnormal conditions. This type of loss is termed abnormal loss.

Substandard materials, breakdown, accidents, wrong plant design, carelessness, etc. are the abnormal loss. Normal loss and abnormal loss are relative terms. They widely vary from industry to industry, depending upon the nature of materials used.

Production technique, preventive measures against incidents, etc. Loss of the same nature may be treated as normal in some industries and as abnormal in some other industry.

Abnormal Gain

Abnormal gain is not allowed to affect the process cost. The value of units representing abnormal gain is debited to process accounts and credited to an abnormal gain account.

At the same time, the scrap value of the units representing normal loss is debited to normal loss account’ and credited to the process account.

To the extent of loss of income, the abnormal gain is transferred to a normal loss account, and the balance of abnormal gain is transferred to costing profit and loss account.

Inter-Process Profit

Some process industries transfer the finished goods from one process to the next process at a price above cost. The excess of the transfer price over cost represents inter­-process profit.

The last process also transfers the finished goods to finished stock account at a price higher than cost.

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