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, glazed etc. for sale;  The product of one process becomes the raw material of another and  Different products may have a common prior process (for example, brass goods will require melting of brass process or operation (for example refined groundnut oil is the material for making vegetable ghee)

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commonly for all goods). Another example is petroleum products by the same refinery. A common feature is that production goes on without interruption and normally, special production is not arranged for meeting any particular order. In a steel mill, for example, when a customer orders a certain quantity, no special arrangements will be made for him-his order will be executed out of the quantity produced in general. Thus, 100 tonnes of steel sheets of a certain size cannot be distinguished from the remaining quantity of steel sheets of that size i.e. goods are produced without waiting for any instructions or orders from customers and are put into warehouse for sale. Further, often-important by-products are produced

automatically at the end of each process. These by-products may have an importance almost equal to that of the main product. Consider kerosene oil, diesel oil, naptha and petrol which are all produced from the same crude oil, in addition to host of smaller products. In such industries the method of cost accounting used us known as Process Accounts. 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. Each process is likely to entail different types of expenses. It
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This is another reason why cost of each process should be ascertained. for instance. it is possible to either process the materials ourselves or buy them ready for use in the next process. The decision will depend upon the cost and the price prevailing in the market. 3 . Sometimes. if one wants to market perfumed castor oil. one can buy castor seed and carry out all necessary perfume and colour and bottle it and market it.would thus be advisable to find out the cost of each process or operation separately.

Definition In his “A Dictionary for Accounts”. canneries and chemical plants. where costs are assigned to specific orders. and continuous system involving an unbroken chain of activities 4. Hence. as on an assembly line. Any unbroken series of acts. Eric L. distinguished from job costing. refineries. 2. it is employed principally where a finished product is the result of a more or less continuous operation. And a more or less continuous operation on constant. or events or any unchanging persisting condition. lots or units. as distinguished from a job order system of production. as in paper mills.” Process costing is defined by Kohler as: “ A method of accounting whereby costs are charged top processes or operations and averaged over units produced. steps. 4 . Making up a plan of production. Kohler Defines process as: 1. the sequence of operations 3.

which are homogenous.  It enables the ascertainment of cost of the product at each process or stage of manufacture. 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. The following features may be identified with process costing:  The output consists of products.  Production is carried on in different stages (each of which is called a process) having a continuous flow.  Production takes place continuously except in cases where the plant and machinery are shut down for maintenance etc. 5 .  The output of a process (except the last) may also be saleable in which case the process may generate some profit.Features/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. with the last process giving the final product. The output of each process becomes the input for the next process until the final product is obtained.  The input will pass through two or more processes before it takes the shape of the output.

 The output of a process is transferred to the next process generally at cost to the process. In Process costing unit costs are more like averages. So. One type of costing system that is used in certain industries is process costing that varies from other types of costing (such as job costing) in some ways. a lot of companies prefer to use process-costing system. When process costing is applied? 6 . Understanding these costs is the first step in being able to control them.  Normal and abnormal losses may arise in the processes The importance of process costing Costing is an important process that many companies engage in to keep track of where their money is being spent in the production and distribution processes. It may also be transferred at market price to enable checking efficiency of operations in comparison to the market conditions. The input of a process (except the first) may be capable of being acquired from the outside sources. It is very important that a company chooses the appropriate type of costing system for their product type and industry. the process-costing system requires less bookkeeping than does a job-order costing system.

Process costing is appropriate for companies that produce a continuous mass of like units through series of operations or process. chemicals. if there are significant differences among the costs of various products. a process costing system would not provide adequate product-cost information. when one order does not affect the production process and a standardization of the process and product exists. plastic. Costing is generally used in such industries such as petroleum. textiles. paper. Also. coal mining. and food. 7 . glass. However.

Product costs must be transferred from Finished Goods to Cost of Goods Sold as sales are made. keeping costs in line with projected manufacturing budgets. Managers need to maintain cost control over costing the manufacturing process. sometimes one at a time (automobiles. etc. to have a proper matching of product costs against related sales revenue. Products are manufactured in large quantities. loaves of bread). a dozen or two at a time (eggs.Reasons for use Companies need to allocate total product costs to units of product for the following reasons: A company may manufacture thousands or millions of units of product in a given period of time. Process provides managers with feedback that can be used to compare similar product costs from one month to the next. cookies). This requires a correct and accurate accounting of product costs per unit. but products may be sold in small quantities. 8 .

g. The Direct Material and Direct Labour Costs are collected for each department separately and the overheads. which are collected over all the departments/processes. process costing allows for this. when selling millions of units of product a month. the process industry is divided into separate departments with each department representing a specific process. Elements/Components of Cost For the purpose of cost accounting. By determining what cost the part processed material has incurred such as labor or overhead an "equivalent unit" relative to the value of a finished process can be calculated. Materials part way through a process (e. 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.A fraction-of-a-cent cost change can represent a large dollar change in overall profitability. 9 . Managers must carefully watch per unit costs on a daily basis through the production process. while at the same time dealing with materials and output in huge quantities. chemicals) might need to be given a value.

 Primary Material Materials that are introduced in the initial process. which is passed on to the next process after completion of processing.Direct Materials There are two types of materials that we come across in process costing. Identification of direct Labour cost is also relatively easy in process costing industry 10 .  Secondary Material Materials. Direct Labour The direct labour cost is incurred in every process. which are introduced in the first or subsequent processes in addition to. the main material introduced in the initial process. This gets mixed up with the main material and is passed on to the subsequent processes as a part of the output.

Methodology of Recording/Accounting Costs Financial Accounting Methodology is adopted for recording costs involved. These are costs relevant to specific processes.Direct Expenses Expenses in addition to Direct Material and Labor. which can be directly attributable to a particular process. are generally recorded using the process account or the stock account. They are named "Process I a/c". "Refining Process A a/c". it generates revenue. These revenues relevant to a process. Numbers.. "Process A a/c". Alphabets or any word or phrase representing the process are used as suffixes/prefixes to distinguish the processes from one another. Stocks relevant to a process are maintained in a separate stock account. Each process account is Debited with The Primary Direct Material Cost. A nominal account representing each process is used to record all the costs relevant to a process. Where the output relevant to a process is sold apart from being transferred to the next process. These are to be apportioned over the various processes in an amicable manner. Production Overheads The overhead expenses are generally expended over all the processes involved in production. Secondary Direct Material 11 . etc.

20. To have a better understanding of the various terms that we come across in process costing let us learn using an example.000 Units) By Process II 10.24.000 6.00 0 54.24. Credited with The value of output transferred to the subsequent process or finished stocks.24. Direct Labor Cost. Direct Expenses and proportion of Production Overheads apportioned to the process.00 0 This is the simplest form of the process account that we see. There is more to process costing than preparing this simple ledger account.00 0 50. 12 .Cost.000 1.000 a/c 6.00.00 0 Particulars To Direct Material To Other Material To Direct Labour/Labor To Production Overheads Units) 10.00 0 Particulars y (in Cr Amount (in Rs) 6. Dr y (in Process I a/c Quantit Quantit Amount (in Rs) 4.

250 Rs. 5.680 Rs. The actual output and normal loss of the respective processes are given below: Normal loss Output as a (Units) percentage of input Process I Process II Process III 450 340 270 10% 20% 25% Value of scrap (per unit) Rs.625 7. 2 Rs. 4 per unit were introduced in process I.400 Rs. 2.025 1. Materials Direct Wages Production Overheads 2. 1. 5 13 .330 7. Production overheads are absorbed as a percentage of direct wages.330 500 units @ Rs.600 2. 4 Rs. The following information is available from the cost records.000 3.A product is finally obtained after it passes through three distinct processes. Process I Process II Process III Total Rs.

In addition to this there is a secondary Direct Material input into the process. 4/unit). 4 per unit i. 2. 2. Therefore. All these costs are debited to the process account . 2.680 × 100% 14 . 7.250. 7. ⇒ Production overheads Chargeable to a process = Direct Wages of the Process × 100% Therefore.000 (500 units × Rs. 3. Preparation of Process I a/c Direct Material and Labour Costs There is a primary material input into the process to the extent of 500 units costing Rs.250 × 100% Rs. Production Overheads chargeable to: Process I Process II = = = Rs.e. 2. at a total cost of Rs.330 Rs. Apportionment of Production Overhead Production overheads are absorbed as a % of direct wages.Prepare the process accounts and the other relevant accounts.330 100% × 100 Total Production Overhead = = ⇒ Production overheads are 100% of Direct Wages. Rate of Absorption of Production = × Overheads 100 Total Direct Wages Rs. 2. which cost Rs. and Direct Labour Costs are incurred for the process.250 Rs. which amounted to Rs.600.

then we need to think of the information relating to the process account in different terms.400 If there are no losses either normal or abnormal. the Process II account.} 15 . 3.600 2.000 2. This is the number of units of the primary material introduced into the process. 1. This output would be transferred to the next process i.100 500 9. 500 units and its value is the total cost incurred in the process.100 Particulars Units) To Material (Primary) 500 To Material (Secondary) To Direct Labour To Production Overheads 500 Units) By Process II 500 a/c 9.400 × 100% Rs.Process III = = = Rs. In such a case.100 Taking Losses into consideration If we are to consider the information relating to losses.680 Rs.250 Particulars Cr Quantit y (in Amount (in Rs) 9.250 2. {Here it is 500 units.e. then the output would be equal to the quantity input i. 1. Gross Input [GI] The Quantity of Material that is input into the process.e. the process account would be as follows: Dr Process I a/c Quantit y (in Amount (in Rs) 2.

we assume it to be equal to Normal Output. there is no abnormal loss here} Output 16 . What we need to consider is the quantity of loss that is accepted as normal.The secondary material introduced into the process may or may not result in an increase in the number of units. Abnormal Loss [AL] Where the Actual Output is less than the Normal we encounter abnormal loss. {Here it would be 50 units (10% of input ⇒ 500 units × 10% = 50 units) Normal Output [NO] The output that should be obtained if the production is carried out under normal circumstances [Normal Output = Gross Input − Normal Loss] {Here it would be 450 units (500 units − 50 units)} Actual Output [AO] The Output that is actually achieved in the production process. {Here it does not. There may be a number of methods for calculating the loss. where no information relating to this is given.} Normal Loss [NL] The Quantity of Loss that is acceptable to the production process. ["Abnormal Loss" = "Normal Output" − "Actual Output"] {Since Normal Output (450 units) = Actual Output (450 units). {Here it is given to be 450 units.

2. This will be the market value of the normal loss units. 100 (= 50 units × Rs. 9. It is the total cost reduced by the normal loss realization.600 + Rs. 2/unit)} The normal loss may or may not have realizable value.000 + Rs. Normal Cost [NC] The cost that should have been incurred for the production process had they been normal. {Here it is Rs. [Normal Cost = Total Cost − Normal Loss Realization] 17 than the Normal Output . 2.Abnormal Gain [AG] Where the Actual Output is more we encounter abnormal gain. [Normal Loss Realization = Normal Loss in Units × Realizable Rate per unit] {Here it is Rs. ["Abnormal Gain" = "Actual Output" − "Normal Output" ] {Since the Normal Output (450 units) = Actual Output (450 units here. 2. This is the total amount of debits made to the process account. Say. then the loss in weight is normal but it has no physical form and is not realizable. 2. there is no abnormal gain even} Total Cost [TC] The total cost that is incurred in relation to the process.100 (= Rs.250 + Rs. for example there will be loss of weight in the production process.250)} Normal Loss Realization [NLR] The amount that is realizable by the sale of normal loss units.

100 − Rs. 1 per unit if sold in the market. @ Rs. 100 per unit. for example there will be loss of weight in the production process. 18 .000 i. valuing output in this manner is not advisable. 1. Say. Normal Cost Normal Output NC = NO Normal Cost of Normal Production (Per Unit) = NCNP/un it Principle for Valuation of Output Since 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. 100 units of material have been lost in the production process. then the loss in weight is normal but it has no physical form and is not realizable. overheads) of Rs. whether be it in financial accounting or cost accounting.00.000 (= Rs.{Here it is Rs. which is as follows: 1000 units of material have been input into a production process at a total cost (material. labour. 9.e. Even where the loss is physically present its market value may be zero (like in the case of ash) Normal Cost of Normal Production (Per Unit) [NCNP/Unit] The Normal Cost per unit of Normal Output. But when there are losses and their realizations. This is the most important value that we derive which would be useful in the valuation of outputs and losses in processes. These 100 loss units would fetch a price of Rs. 100)} The normal loss may or may not have realizable value. 9. There is one universal principle that is followed.

00. 1.000 (900 × 100) For 900 units is Rs.000 − 100) being the total cost incurred reduced by the amount realized on selling the loss units. 99.00. This would result in the unit output cost working out to Rs.900 ÷ 900) The last idea would be the most appropriate one for deciding the cost per unit of output.900 (1.100) can be interpreted in the following ways: The cost incurred For 900 units is Rs. 19 . the cost incurred for getting an output of 900 units (1000 .000 units as 100 units will be lost in production process for sure (since the loss is being termed normal). 90.000.00.000 being the total cost incurred.000 units i. 111. Therefore the amount that we have to spend would also be equal to the total cost relevant to 1. how many units have we to introduce into the production process? Surely.000 ÷ 900) For 900 units is Rs. the production process is such that this loss of 100 units can be considered normal (this proportion of loss would be incurred every time the production is taken up) In such a situation. This would result in the unit output cost working out to Rs.e. Suppose we need another lot of 900 units of this product.11 (1. Rs.Considering the loss as normal Say. 1. The idea relating to cost should also be created based on what happens if we consider a similar transaction immediately. 111 (99.00. 1.

00.00 99.00 1./Unit ) 100.000 100 900 Value (Rs.900 111. using this realization can set off the cost incurred in which case the net cost to be incurred for getting the output of 900 units is Rs.) 1.900. 1 each every time such loss occurs. Quantit y (Units) Gross Input Less: Normal Loss Net Output 1.00 Oil Refinery 20 Processes .However. since the loss units are capable of being sold for Rs.00 0 100 Rate (Rs. 99.

Loss-Inweight if any. Other expenses of the process are debited. 21 . Crushing process 2. Sundry sales of finished oil process are debited. Sale of by-product and loss –in. Refining process 3. The output is crude oil transferred as input in the next process. Oil cakes or oil residue are sold as a by-product. is credited. Cost of drums or barrels or tins for storage of refined oil is also debited to find out cost of stored finished oil. which are credited. oil seeds or coconut or kernels etc.Oil refineries have normally 3 processes 1.e. Refining Process Crude oil from Crushing process is debited. The output is refined oil. There may be loss in weight in the process. Other materials.weight are credited. Finishing Process Crushing process In this process raw material i. Fats and residual oil may be obtained as by-products. Sale of bags or sacks is credited. The output being refined oil is transferred to the next process i. Finishing Process Refined oil obtained from Refining Process is debited. Other materials Wages and overheads of the process are debited. Finishing Process.e. The balance of this product is credited as cost of production of refined oil. wages and overheads of the process are debited. are used.

23600 4000 7600 4000 23500 6000 3800 Cost of drums for storing finished oil was Rs.00.000 and 275 tons of crude oil was obtained. Crushing Process Account (For the month of January) 22 .000 32000 4800 2000 2400 Refining Process Rs. 60. Crushing Process Rs. Sundry by-product (25tons) of Crushing process fetched Rs. 240 tons of finished oil was stored in drums and 10 tons were sold For Rs. Raw materials (500 tons Copra) Wages Power Sundry Materials Factory Expenses 9. The following information is available for the month of January. 84100. 200 tons of oil cakes were sold for Rs. Finishing Process Rs.600. 3.Illustration: In an oil refinery. the product passes through three different processes.000 which is to be charged to the 3 processes in proportion 3:2:2 Prepare accounts for all the processes. 3600 (20 tons) and 250 tons of refining oil was obtained. 4. The establishment expenses for the period amounted to Rs 14.800. By-product after refining the oil was sold for Rs.

200 275 8. Particulars By Sale of oil cakes 275 8. Particulars Tons 200 25 Rs.47.09 per ton) 500 9.600 By Loss in weight By Refined oil 7.200 By Sundry Sales 23 10 4. 692.200 Refining Process Account Dr Particulars To Crude Oil transferred from crushing process To Sundry materials To wages To power To factory expenses To office on cost (For the month of January) Tons Rs.000 By Sale of oil cakes 32.47.23.000 4.800 Finishing Processes Account (For the month of January) Particulars To refined Oil transferred from Refining process 250 9.85.8 per ton).600 500 9.600 500 9.800 By crude oil 2. .000 transferred 2.23.800 Tons Rs.00.000 By sundry by-product 4.000 (@Rs.600 transferred 23. 4.26.Particulars To Raw materials To wages To power To Sundry materials To factory expenses To office on cost Tons Rs.83.400 to Refining Process 6.26.800 Tons 20 5 Cr Rs. 3. 60.200 275 9.600 to finishing Process 4.3213.3.000 (@Rs.000 3.600 25 9. Particulars Tons Rs.000 275 9.

By cost of finished Oil c/d (@Rs.82. 39.39.60.60.800 240 0 23.700 EXECUTIVE SUMMARY 24 .700 84.500 240 955.500 250 9.800 4.08 To wages To power To factory expenses To office on cost To Cost of Finished b/d To cost of Drums 240 9.500 per ton) 6000 3.100 10.55.39.000 250 9.80 240 10.

cost control. decision making. production costs per equivalent unit are calculated for direct-material and conversion costs. There are some important differences between joborder and process-costing systems. An equivalent unit is a measure of the amount of productive input that has been applied to a fully or partially completed unit of product. The key document 25 . whereas process-costing systems accumulate costs by department. and reporting to various outside organizations. Product costs are needed for planning. The flow of costs in process-costing systems and job-order costing systems is the same. Chief among these is that job-order costing systems accumulate production costs by job or batch. and manufacturing overhead are added to a Work-in-Process Inventory account. the cost of the goods transferred from one production department to another is called transferred-in cost. In sequential production processes. When products are completed. In process costing. Costs of direct material. the costs assigned to them are transferred either to Finished-Goods Inventory or to the next production department's Work-in-Process Inventory account.Process costing is used in production processes where relatively large numbers of nearly identical products are manufactured. Another important difference is the focus on equivalent units in process costing. direct labor. Direct labor and manufacturing overhead are often combined into a single cost category termed conversion costs. The purpose of a process-costing system is the same as that of a job-order costing system-to accumulate costs and assign these costs to units of product.

Operation costing is a hybrid of these two methods. the cost per equivalent unit. rather than the job-cost sheet used in job-order costing. (3) compute the cost per equivalent unit. for each cost category. In the weighted-average method of process costing. Conversion costs are accumulated by production departments and are assigned to product units by process-costing methods.in a process-costing system is the departmental production report. and (4) analyze the total costs of the department. (2) calculate the equivalent units. It is designed for production processes in which the direct material differs significantly among product lines but the conversion activities are essentially the same. There are four steps in preparing a departmental production report: (1) analyze the physical flow of units. CONCLUSION Companies need to allocate total product costs to units of product for the following reasons: 26 . Direct-material costs are accumulated by batches of products using job-order costing methods. is a weighted average of (1) the costs assigned to the beginning work-in-process inventory and (2) the costs incurred during the current period. Job-order and process costing represent the polar extremes of product-costing systems.

• A fraction-of-a-cent cost change can represent a large dollar change in overall profitability. cookies). • Product costs must be transferred from Finished Goods to Cost of Goods Sold as sales are made. Process costing provides managers with feedback that can be used to compare similar product costs from one month to the next.• A company may manufacture thousands or millions of units of product in a given period of time. but products may be sold in small quantities. 27 . keeping costs in line with projected manufacturing budgets. sometimes one at a time (automobiles. This requires a correct and accurate accounting of product costs per unit. • Managers need to maintain cost control over the manufacturing process. loaves of bread). • Products are manufactured in large quantities. etc. a dozen or two at a time (eggs. to have a proper matching of product costs against related sales revenue.

Managers must carefully watch per unit costs on a daily basis through the production process. Bibliography 28 .when selling millions of units of product a month. while at the same time dealing with materials and output in huge quantities.

com/process-costing/studynotes/characteristics-features-application-industry.edu/~schamberlain/ch17sol.php  Wikipedia encyclopedia 29 .scu. http://lsb.htm  http://www.edu/lsc/acc226-f03/chapters.pdf#search='process %20costing'  http://soba.fortlewis.futureaccountant.

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