Process costing

Management accounting

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Process costing

Introduction

Costing Methods

In absorption costing method, the cost of a product is ascertained using all the cost

that the company incurs in its manufacture. Manufacturing cost is costs such as the direct

material cost, direct labor cost, and variable costs. In the case under consideration, the

product cost will be all the cost incurred in the purchase of units introduced in the process

and the conversion cost of the product. In order to get this cost, the management accountant is

required to apply various costing systems such as process costing, Job costing and many

others. The main focus of this paper, therefore, is process costing and different methods

applied in process costing.

Process Costing

(Noreen, Brewer, & Garrison, 2013 p. 165) mentioned that Process costing is used

in companies that produce many units of a single product for long periods. This method

ensures that all the cost relating to the production of a particular product is accumulated and

then divided by the number units produced to get the cost per unit of the product. Some of the

methods used in process costing are; first- in –first- out method which basically involves the

selling of product based on the arrival, i.e. inventories that are oldest in the firm are recorded

as sold first. Another method used is the weighted average method which entails assigning of

average cost on each inventory that company sales during particular financial year. These

two methods help managers to keep track of cost of goods that they have in the store as well

as those that have been sold out.

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 Process costing

Using FIFO method

Cost per Cost per total

Detail Units unit total cost Detail Units unit cost

Completed

Opening WIP 4500 1.17 5250 units 17500 2.14 37450

Units placed in Closing

production 15000 1.10 16500 WIP 500 2.14 1070

Conversion expense 1875   23945 WIP CF 3375   7175
Total 21375   45695   21375   45695

Equivalent unit
Equivalent

Units accounted for as follows: units

Transfer out
Opening WIP 4500 3375
Completed units 17500 17500
ending WIP 2000 500

Total units

accounted for 24000 21375

Total cost
Opening WIP 5250
Direct material 16500
Conversion cost 23945
45695

Difference between FIFO method and Weighted Average Method

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 Process costing

Computation of cost of goods sold

 When using weighted average costing method, the manager assigns cost to inventories based

on the average cost of goods sold. I.e. it is the total cost of goods that are available for sale by

the company divided by the number of goods that a company has and are available for sale.

 On the other hand, FIFO method assigns cost to products based on their arrival in the

company. Hence the first product to be purchased will be the one to be sold out based on its

initial price. In contrast,

 The cost of products in weighted average cost method are between the cost obtained in both

FIFO and LIFO method. Hence making FIFO method are preferred in costing since they are

always higher than the other methods of process costing.

 The weighted average method promises lower profit margin compared to FIFO method hence

it is only best applicable in companies that have mix production since they can easily recover

the loss from other products with lower cost.

 FIFO method allows a manufacturer to identify the cost that was incurred in the production of

a particular product. This cannot be known to the firm that is using weighted average method

since they are concerned with the average price of the product and not the initial cost of the

product.

 When Using FIFO method, it will be difficult to allocated cost for products that have incurred

damages since you may not be able to ascertain the real cost of such goods.

 When using weighted average costing method, firms always charge less since there are

products whose cost are high but may still be undervalued. This is avoided when using FIFO

method since the cost of the initial product is used when later selling the same product.

How Process costing assist in Helping Universal Industry

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Process costing

The universal industry is faced with the problem of unmatched information on the

beginning inventors of the company. The problem seems to be caused by the current inflation

rate in Zimbabwe. Therefore; processing costing being a method that helps a company to

evaluate its cost of production as well as the cost of output that is transferred to the market, it

will help the company in solving the issue of unmatched cost by ensuring that the company

applies FIFO method in the production, acquisition and sales process. This will enable the

company to factor in the inflation rate that has been occurring in Zimbabwe hence making it

easy to track the price of the product. This method will also ensure that management has the

right number of opening inventories as well as the amount used to purchase those products.

Process costing will ensure that their accounting procedure is simplified hence making it easy

for the management to quickly understand the financial reports and the inventory report

without any difficulties.

Traditional Cost accounting Method

This system ensures that there is an allocation of the firm's manufacturing overhead cost to

each product that the company has manufactured. It allocates indirect cost to units produced,

direct labor hours or machine hours.

Operating Profit Based of Tradition system

Chrom

Products Brass e White

  30000 50000 40000
120000 100000 120000

Sales 0 0 0
Less cost of sales      
Direct material 240000 200000 320000
Direct labour 18000 1500 10800
Cost of goods 258000 201500 330800

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Process costing

available for sale

Gross profit 942000 798500 869200
Overhead cost      
setup 192621 80259 192621
inspection 167586 69828 167586
Total Overhead

cost 360207 150086 360207

Profit 581793 648414 508993
Profit per unit 19 13 13

Cost Driver Rate

Chrom

Activity cost driver rate Brass e White

Units 30000 50000 40000
Number of 1000 hrs (h) 30 50 40
set up hours per 1000 (k) 1 0.5 1
Inspection hours per 1000 (j) 30 20 20
set up (a) 192621 80259 192621
Inspection (b) 167586 69828 167586
Rate      
setup per 1000 hours (a/(k*h) 6421 3210 4816
Inspection per 1000 hours

(b/(j*h) 186 70 209

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Process costing

1. Total Overhead per unit

Chrom

Cost per unit Brass e White

Setups per unit 6 3 5
Inspection 0 0 0
Total overhead per unit 7 3 5

2. Operating profit per unit

Chrom

Operating profit per unit Brass e White

Sales 40 20 30
Direct Material 8 4 8
Direct Labour 15 3 9
Overhead 7 3 5
Operating profit per unit 10 10 8

The traditional method shows a better profit than the activity based costing. Total

profit in traditional method is $ 45 where that in ABC analysis is $ 28. The reason for this

difference is because of how the overhead cost is treated by the two methods. Traditional

method accumulates the overhead cost then we compute the absorption rate whereas ABC

method identifies the specific area where the overhead has been incurred on then identify the

reason for the overhead.

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Process costing

a) Price per unit of X7

Cost per unit of X7 $

Direct material cost (25000/100) $ 250.00
Direct labour (6000/100) $ 60.00
Manufacturing overhead (9000/100) $ 90.00
Price per unit $ 400.00

In this computation, direct labour cost has been assumed to be inclusive of both setup cost

and the design cost and for that reason the cost of producing a single unit of X 7 is USD 400.

It should be noted that this price should not be considered as the correct price of the item

since it has overstated the direct labour cost by setup up cost which is (16&25) = $ 400. For

this reason, the customer should be reimburse the amount that has been overcharged to them.

b) Price per unit x7

Cost per unit of X7 $

Direct material cost (25000/100) $ 250.00
Direct labour (6000/100) $ 50.00
Manufacturing overhead (9000-

400)/100 $ 90.00
Price per unit $ 390.00
The cost of producing a single unit of X7is $ 390 which is considered to be the right

amount that Jack should charge his customer. There is need for the CEO to make

arrangement on how he will reimburse all customers that were over charged by his firm.

How to tighten Procurement procedure

It has been noted that the CEO of Australian firm has been awarding tenders to

accompany that his brother has 51% shares hence making the brother a key shareholder of the

company. By doing this, it can be said that conflict of interest exist. Therefore, to ensure that

such a mistake does not occur, the firm needs to form an evaluation team that is will be in

charge of reviewing all the applicants’ information so as to be sure that they are not relatives

to any of the company staff. Procurement department should also advertise the tenders to the

public so as to make it open to everyone. By doing this they will be able to know whether

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Process costing

they are getting the value for the money since buying from a single supplier may not enable

them to compare prices of the products being purchased by the company.

Reference

Media, B. L. (2016). FIA foundations in management accounting FMA (ACCA F2):

Interactive text. United Kingdom: BPP Learning Media.

Noreen, E. W., Brewer, P. C., & Garrison, R. H. (2013). Managerial accounting for managers

(3rd Ed.). New York: McGraw-Hill Higher Education.

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