Introduction

Process costing is a method of costing used to ascertain the cost of production of each process, operation or stage of manufacture where processes are carried in having one or more of the following features Where the product of one process becomes the material of another process or operation Where there is simultaneous production at one or more process of different products, with or without by product, Where, during one or more processes or operations of a series, the products or materials are not distinguishable from one another, as for instance when finished products differ finally only in shape or form. There are number of industries where: The final product merges only after two or more process such as paper-the raw material, bamboo or sabai grass or any other, is made into pulp; pulp is a made into paper and then it is finished, gla ed etc. for sale; The product of one process becomes the raw material of another process or operation !for e"ample refined groundnut oil is the material for ma#ing vegetable ghee$ and %ifferent products may have a common prior process !for e"ample, brass goods will re&uire melting of brass commonly for all goods$. 'nother e"ample is petroleum products by the same refinery. ' common feature is that production goes on without interruption and normally, special production is not arranged for meeting any particular order. (n a steel mill, for e"ample, when a customer orders a certain &uantity, no special arrangements will be made for himhis order will be e"ecuted out of the &uantity produced in general. Thus, )** tonnes of steel sheets of a certain si e cannot be distinguished from the remaining &uantity of steel sheets of that si e i.e. goods are produced without waiting for any instructions or orders from customers and are put into warehouse for sale.

+urther, often-important by-products are produced automatically at the end of each process. These by-products may have an importance almost e&ual to that of the main product. ,onsider #erosene oil, diesel oil, naptha and petrol which are all produced from the same crude oil, in addition to host of smaller products. (n such industries the method of cost accounting used us #nown as Process 'ccounts. it may be possible to find out the total cost without distinguishing the cost of each process but it is not desirable to do so. Wastages and by-products of different nature may rise out of each operation or process. -ach process is li#ely to entail different types of e"penses. (t would thus be advisable to find out the cost of each process or operation separately. .ometimes, it is possible to either process the materials ourselves or buy them ready for use in the ne"t process, for instance, if one wants to mar#et perfumed castor oil, one can buy castor seed and carry out all necessary perfume and colour and bottle it and mar#et it. The decision will depend upon the cost and the price prevailing in the mar#et. This is another reason why cost of each process should be ascertained.

Definition
(n his / ' %ictionary for 'ccounts0, -ric 1. 2ohler %efines process as: ). 'ny unbro#en series of acts, steps, or events or any unchanging persisting condition. 3. 4ence, the se&uence of operations

5. 6a#ing up a plan of production, as on an assembly line; and continuous system involving an unbro#en chain of activities 7. 'nd a more or less continuous operation on constant, as distinguished from a 8ob order system of production.0

Process costing is defined by Kohler as:

/ ' method of accounting whereby costs are charged top processes or operations and averaged over units produced; it is employed principally where a finished product is the result of a more or less continuous operation, as in paper mills, refineries, canneries and chemical plants; distinguished from 8ob costing, where costs are assigned to specific orders, lots or units.

Features/Characteristics of Process Costing

Process ,osting 6ethod is applicable where the output results from a se&uence of continuous or repetitive operations or processes and products are identical and cannot be segregated. (t enables the ascertainment of cost of the product at each process or stage of manufacture. The following features may be identified with process costing: The output consists of products, which are homogenous. Production is carried on in different stages !each of which is called a process$ having a continuous flow. Production ta#es place continuously e"cept in cases where the plant and machinery are shut down for maintenance etc. 9utput is uniform and all units are identical during each process. (t would not be possible to trace the identity of any particular lot of output to any lot of input. The input will pass through two or more processes before it ta#es the shape of the output. The output of each process becomes the input for the ne"t process until the final product is obtained, with the last process giving the final product. The output of a process !e"cept the last$ may also be saleable in which case the process may generate some profit.

 The input of a process !e"cept the first$ may be capable of being ac&uired from the outside sources. The output of a process is transferred to the ne"t process generally at cost to the process. (t may also be transferred at mar#et price to enable chec#ing efficiency of operations in comparison to the mar#et conditions. :ormal and abnormal losses may arise in the processes

Elements/Components of Cost
+or the purpose of cost accounting, the process industry is divided into separate departments with each department representing a specific process. The %irect 6aterial and %irect 1abour ,osts 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 is adopted.

Direct Materials
There are two types of materials that we come across in process costing. Primary Material 6aterials that are introduced in the initial process, which is passed on to the ne"t process after completion of processing. Secondary Material 6aterials, which are introduced in the first or subse&uent processes in addition to, the main material introduced in the initial process. This gets mi"ed up with the main material and is passed on to the subse&uent processes as a part of the output. Direct abour The direct labour cost is incurred in every process. (dentification of direct 1abour cost is also relatively easy in process costing industry

Direct E!penses -"penses in addition to %irect 6aterial and 1abor, which can be directly attributable to a particular process. These are costs relevant to specific processes.

Production "#erheads
The overhead e"penses are generally e"pended over all the processes involved in production. These are to be apportioned over the various processes in an amicable manner.

Methodology of $ecording/%ccounting Costs

+inancial 'ccounting 6ethodology is adopted for recording costs involved. ' nominal account representing each process is used to record all the costs relevant to a process. They are named <Process ( a;c<, <Process ' a;c<, <=efining Process ' a;c<, etc., :umbers, 'lphabets or any word or phrase representing the process are used as suffi"es;prefi"es to distinguish the processes from one another. .toc#s relevant to a process are maintained in a separate stoc# account. Where the output relevant to a process is sold apart from being transferred to the ne"t process, it generates revenue. These revenues relevant to a process, are generally recorded using the process account or the stoc# account. -ach process account is

Debited &ith
The Primary %irect 6aterial ,ost, .econdary %irect 6aterial ,ost, %irect 1abor ,ost, %irect -"penses and proportion of Production 9verheads apportioned to the process.

Credited &ith
The value of output transferred to the subse&uent process or finished stoc#s. Dr Particulars

Process I a/c
'uantity %mount (in )nits* (in $s* Particulars

Cr 'uantity %mount (in )nits* (in $s*

To %irect 6aterial To 9ther 6aterial To %irect 1abour;1abor To Production 9verheads

)*,***

7,**,*** >*,*** ),3*,*** >7,***

?y Process (( )*,*** a;c

@,37,***

@,37,***

@,37,***

This is the simplest form of the process account that we see. There is more to process costing than preparing this simple ledger account. To have a better understanding of the various terms that we come across in process costing let us learn using an e"ample. ' product is finally obtained after it passes through three distinct processes. The following information is available from the cost records. Process $s+ 6aterials %irect Wages Production 9verheads 3,@** 3,3>* I Process $s+ 3,*** 5,@A* II Process $s+ ),*3> ),7** III ,otal $s+ >,@3> B,55* B,55*

>** units C =s. 7 per unit were introduced in process (. Production overheads are absorbed as a percentage of direct wages. The actual output and normal loss of the respective processes are given below: "utput ()nits* Process ( Process (( Process ((( 7>* 57* 3B* -ormal loss as a percentage of input )*D 3*D 3>D .alue of scrap (per unit* =s. 3 =s. 7 =s. >

Prepare the process accounts and the other relevant accounts. Preparation of Process ( a;c

Direct Material and abour Costs

There is a primary material input into the process to the e"tent of >** units costing =s. 7 per unit i.e. at a total cost of =s. 3,*** !>** units E =s. 7;unit$. (n addition to this there is a secondary %irect 6aterial input into the process, which cost =s. 3,@**, and %irect 1abour ,osts are incurred for the process, which amounted to =s. 3,3>*. 'll these costs are debited to the process account.

%pportionment of Production "#erhead

Production overheads are absorbed as a D of direct wages. Therefore, Total Production =ate of 'bsorption of Production 9verhead F 9verheads Total %irect Wages E )**

F F Production overheads are )**D of %irect Wages.

=s. B,55* =s. B,55* )**D

E )**

Production overheads ,hargeable to a process F %irect Wages of the Process E )**D Therefore, Production 9verheads chargeable to: Process ( Process (( Process ((( F F F F F F =s. 3,3>* E )**D =s. 3,3>* =s. 5,@A* E )**D =s. 5,@A* =s. ),7** E )**D =s. ),7**

(f there are no losses either normal or abnormal, then the output would be e&ual to the &uantity input i.e. >** units and its value is the total cost incurred in the process. This output would be transferred to the ne"t process i.e. the Process (( account.

(n such a case, the process account would be as follows: Dr Particulars To 6aterial !Primary$ To 6aterial !.econdary$ To %irect 1abour To Production 9verheads >** Ta#ing 1osses into consideration (f we are to consider the information relating to losses, then we need to thin# of the information relating to the process account in different terms. /ross Input 0/I1 The Huantity of 6aterial that is input into the process. This is the number of units of the primary material introduced into the process. I4ere it is >** units.J The secondary material introduced into the process may or may not result in an increase in the number of units. I4ere it does not.J -ormal oss 0- 1 The Huantity of 1oss that is acceptable to the production process. There may be a number of methods for calculating the loss. What we need to consider is the &uantity of loss that is accepted as normal. I4ere it would be >* units !)*D of input >** units E )*D F >* units$ G,)** >** G,)** Process I a/c 'uantity %mount (in )nits* (in $s* >** 3,*** 3,@** 3,3>* 3,3>* Particulars Cr 'uantity %mount (in )nits* (in $s* G,)**

?y Process (( a;c >**

-ormal "utput 0-"1 The output that should be obtained if the production is carried out under normal circumstances K:ormal 9utput F Lross (nput M :ormal 1ossN I4ere it would be 7>* units !>** units M >* units$J %ctual "utput 0%"1 The 9utput that is actually achieved in the production process, where no information relating to this is given, we assume it to be e&ual to :ormal 9utput. I4ere it is given to be 7>* units. %bnormal oss 0% 1 Where the 'ctual 9utput is less than the :ormal loss. K<'bnormal 1oss< F <:ormal 9utput< M <'ctual 9utput<N I.ince :ormal 9utput !7>* units$ F 'ctual 9utput !7>* units$, there is no abnormal loss hereJ %bnormal /ain 0%/1 Where the 'ctual 9utput is more gain. K<'bnormal Lain< F <'ctual 9utput< M <:ormal 9utput< N I.ince the :ormal 9utupt !7>* units$ F 'ctual 9utput !7>* units here, there is no abnormal gain evenJ ,otal Cost 0,C1 The total cost that is incurred in relation to the process. This is the total amount of debits made to the process account. I4ere it is =s, G,)** !F =s. 3,*** O =s. 3,@** O =s. 3,3>* O =s. 3,3>*$J -ormal oss $eali2ation 0- $1 The amount that is reali able by the sale of normal loss units. This will be the mar#et value of the normal loss units. K:ormal 1oss =eali ation F :ormal 1oss (n Pnits E =eali able =ate per unitN I4ere it is =s, )** !F >* units E =s. 3;unit$J than the :ormal 9utput we encounter abnormal 9utput we encounter abnormal

The normal loss may or may not have reali able value. .ay, for e"ample there will be loss of weight in the production process, then the loss in weight is normal but it has no physical form and is not reali able. -ormal Cost 0-C1 The cost that should have been incurred for the production process had they been normal. (t is the total cost reduced by the normal loss reali ation. K:ormal ,ost F Total ,ost M :ormal 1oss =eali ationN I4ere it is =s, G,*** !F =s. G,)** M =s. )**$J The normal loss may or may not have reali able value. .ay, for e"ample there will be loss of weight in the production process, then the loss in weight is normal but it has no physical form and is not reali able. -ven where the loss is physically present its mar#et value may be ero !li#e in the case of ash$ :ormal ,ost of :ormal Production !Per Pnit$ K:,:P;PnitN The :ormal ,ost per unit of :ormal 9utput. This is the most important value that we derive which would be useful in the valuation of outputs and losses in processes. :ormal ,ost of :ormal Production !Per Pnit$

:ormal ,ost :ormal 9utput

-C-P/unit F

-C -"

Principle for .aluation of "utput .ince we assumed that there were no losses we can easily say that the value of output is the total cost incurred and therefore derive its value. ?ut when there are losses and their reali ations, valuing output in this manner is not advisable. There is one universal principle that is followed, whether be it in financial accounting or cost accounting, which is as follows: )*** units of material have been input into a production process at a total cost !material, labour, overheads$ of =s. ),**,*** i.e. C =s. )** per unit. )** units of material have been lost in the production process. These )** loss units would fetch a price of =s. ) per unit if sold in the mar#et.

Considering the loss as normal .ay, the production process is such that this loss of )** units can be considered normal !this proportion of loss would be incurred every time the production is ta#en up$ (n such a situation, the cost incurred for getting an output of G** units !)*** - )**$ can be interpreted in the following ways: The cost incurred +or G** units is =s. G*,*** !G** E )**$ +or G** units is =s. ),**,*** being the total cost incurred. This would result in the unit output cost wor#ing out to =s. ))).)) !),**,*** Q G**$ +or G** units is =s. GG,G** !),**,*** M )**$ being the total cost incurred reduced by the amount reali ed on selling the loss units. This would result in the unit output cost wor#ing out to =s. ))) !GG,G** Q G**$ The last idea would be the most appropriate one for deciding the cost per unit of output. The idea relating to cost should also be created based on what happens if we consider a similar transaction immediately. .uppose we need another lot of G** units of this product, how many units have we to introduce into the production processR .urely, ),*** units as )** units will be lost in production process for sure !since the loss is being termed normal$. Therefore the amount that we have to spend would also be e&ual to the total cost relevant to ),*** units i.e. =s. ),**,***. 4owever, since the loss units are capable of being sold for =s. ) each every time such loss occurs, using this reali ation can set off the cost incurred in which case the net cost to be incurred for getting the output of G** units is =s. GG,G**.

'uantity .alue ()nits* Lross (nput ess::ormal 1oss -et "utput ),*** )** G** ($s+*

$ate ($s+/)nit*

),**,*** )**.** )** GG,G** ).** ))).**

"il $efinery Processes

9il refineries have normally 5 processes ). ,rushing process 3. =efining process 5. +inishing Process

Crushing process
(n this process raw material i.e. oil seeds or coconut or #ernels etc. are used. 9ther e"penses of the process are debited. .ale of bags or sac#s is credited. 9il ca#es or oil residue are sold as a by-product. The output is crude oil transferred as input in the ne"t process. There may be loss in weight in the process.

$efining Process
,rude oil from ,rushing process is debited. 9ther materials, wages and overheads of the process are debited. 1oss- (n- weight if any, is credited. The output is refined oil. +ats and residual oil may be obtained as by-products, which are credited. The output being refined oil is transferred to the ne"t process i.e. +inishing Process.

Finishing Process

=efined oil obtained from =efining Process is debited. 9ther materials Wages and overheads of the process are debited. .ale of by-product and loss Sin- weight are credited. .undry sales of finished oil process are debited. The balance of this product is credited as cost of production of refined oil. ,ost of drums or barrels or tins for storage of refined oil is also debited to find out cost of stored finished oil.

Illustration: (n an oil refinery, the product passes through three different processes.
The following information is available for the month of Tanuary.

Crushing Process $s+ $a& materials (344 tons Copra* 5ages Po&er Sundry Materials Factory E!penses G,**,*** 53*** 7A** 3*** 37**

$efining Process $s+ 35@** 7*** B@** 7***

Finishing Process $s+ 35>** @*** 5A**

,ost of drums for storing finished oil was =s. A7)**. 3** tons of oil ca#es were sold for =s. @*,*** and 3B> tons of crude oil was obtained. .undry by-product !3>tons$ of ,rushing process fetched =s. 5,@**. ?y-product after refining the oil was sold for =s. 5@** !3* tons$ and 3>* tons of refining oil was obtained. 37* tons of finished oil was stored in drums and )* tons were sold +or =s. 7,A**. The establishment e"penses for the period amounted to =s )7,*** which is to be charged to the 5 processes in proportion 5:3:3 Prepare accounts for all the processes. [Delhi B. Com (H), Kanpur B. Com. 1992]

Crushing Process %ccount

(For the month of 6anuary*
Particulars To =aw materials To wages To power To .undry materials To factory e"penses To office on cost >** Tons >** s. Particulars Tons 3** 3> s. @*,*** 5,@**

G,**,*** ?y .ale of oil ca#es 53,*** ?y sundry by-product 7,A** 3,*** ?y crude oil transferred 3,7** to =efining Process @,*** !C=s.53)5.*G per ton$ G,7B,3**

3B> >**

A,A5,@** G,7B,3**

$efining Process %ccount

%r Particulars To ,rude 9il transferred from crushing process To .undry materials To wages To power To factory e"penses To office on cost 3B> 3B>

(For the month of 6anuary*

Tons s. Particulars ?y .ale of oil ca#es A,A>,@** ?y 1oss in weight B,@** ?y =efined oil transferred 35,@** to finishing Process 7,*** !C=s.5, @G3.A per ton$. 7,*** 7,*** G,3@,A** 3B> Tons 3* > 3>

,r s. 5,@**

G,35,3**

G,3@,A**

Finishing Processes %ccount

(For the month of 6anuary*

Particulars To refined 9il transferred from =efining process 3>* G,35,3** ?y .undry .ales ?y cost of finished 9il c;d !C=s. 5G,A3,*A per To wages To power To factory e"penses To office on cost 3>* To ,ost of +inished b;d To cost of %rums 37* 37* 35,>** ton$ @*** 5,A** 7,*** G,@*,>** G,>>,B** A7,)** )*,5G,A** 37* )*,5G,A** 3>* G,@*,>** 37* G>>,B** )* 7,A**

Tons

s.

Particulars

Tons

s.

7ibliography

 Cost %ccounting 888888 MC Su9hla http://lsb+scu+edu/:schamberlain/ch;<sol+pdf=search>?process@A4costing? http://soba+fortle&is+edu/lsc/accAAB8f4C/chapters+htm http://&&&+futureaccountant+com/process8costing/study8 notes/characteristics8features8application8industry+php 5i9iepedia encyclopedia

Acknowledgement
I &ould li9e to than9 Prof+ Deepa9 Pandey for pro#iding this e!cellent opportunityD to learn about the Different technical terms and aspects in process costing+

,he information contained in this #olume has certainly pro#ed useful for better insight in the scope and dimension of this subEect in its true perspecti#e+

I am certainly more than gratefulD to all those &ho ha#e directly or indirectly helped me in my proEect+

$eena 6anet DFsou2a S+G+7+M+S 8 % $oll -o: 3

Presented to: Prof+ Deepa9 Pandey

Contents

Introduction Definition "f Process Costing

 Features of Process Costing Elements/ Components "f Cost Methodology of $ecording/%ccounting Costs "il $efinery Process % problem 7ased on Process Costing 7ibliography