PROCESS COSTING Process costing is famous topic of cost accounting. It is that method of costing which is used at that industry where production is done in step by step process. Every finished goods of one process will be the raw material of other process and production is continually operating in factory. At that time we calculate first process cost by making process account. A process account is made for every process of production. Process 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 also. It is assumed in process costing that the average cost presents the cost per unit. 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. Process costing is an accounting methodology that traces and accumulates direct costs , and allocates indirect costs of a manufacturing process. Costs are assigned to products, usually in a large batch, which might include an entire month's production. Eventually, costs have to be allocated to individual units of product. It assigns average costs to each unit, and is the opposite extreme of Job costing which attempts to measure individual costs of production of each unit. Process costing is usually a significant chapter. Process costing is a type of operation costing which is used to ascertain the cost of a product at each process or stage of manufacture. CIMA defines process costing as "The costing method applicable where goods or services result from a sequence of 1
Transcript
PROCESS COSTING
Process costing is famous topic of cost accounting. It is that method of costing which is used at that industry where production is done in step by step process. Every finished goods of one process will be the raw material of other process and production is continually operating in factory. At that time we calculate first process cost by making process account. A process account is made for every process of production.
Process 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 also. It is assumed in process costing that the average cost presents the cost per unit. 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.
Process costing is an accounting methodology that traces and accumulates direct costs, and
allocates indirect costs of a manufacturing process. Costs are assigned to products, usually in a
large batch, which might include an entire month's production. Eventually, costs have to be
allocated to individual units of product. It assigns average costs to each unit, and is the opposite
extreme of Job costing which attempts to measure individual costs of production of each unit.
Process costing is usually a significant chapter.
Process costing is a type of operation costing which is used to ascertain the cost of a product at
each process or stage of manufacture. CIMA defines process costing as "The costing method
applicable where goods or services result from a sequence of continuous or repetitive operations
or processes. Costs are averaged over the units produced during the period". Process costing is
suitable for industries producing homogeneous products and where production is a continuous
flow. A process can be referred to as the sub-unit of an organization specifically defined for cost
collection purpose.
Following are main industries where we use process costing method:
1. Chemical industry2. Soap industry3. Clothes industry4. Paper industry5. Dairy Industry
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MEANING OF PROCESS COSTING
Process costing is a method of costing under which all costs are accumulated for each stage of production or process, and the 2 cost per unit of product is ascertained at each stage of production by dividing the cost of each process by the normal output of that process.
Definition:
CIMA London defines process costing as “that form of operation costing which applies where standardize goods are produced”
Features of Process Costing:
(a) The production is continuous (b) The product is homogeneous
(c) The process is standardized (d) Output of one process become raw material of another process (e) The output of the last process is transferred to finished stock (f) Costs are collected process-wise (g) Both direct and indirect costs are accumulated in each process (h) If there is a stock of semi-finished goods, it is expressed in terms of equivalent units (i) The total cost of each process is divided by the normal output of that process to find out cost per unit of that process.
Advantages of process costing:
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 in order to have accurate costs. 4. Use of standard costing systems in very effective in process costing situations. 5. Process costing helps in preparation of tender, quotations 6. Since cost data is available for each process, operation and department, good managerial control is possible.
Limitations:
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1. Cost obtained at each process is only historical cost and are not very useful for effective control.
2. Process costing is based on average cost method, which is not that suitable for performance analysis, evaluation and managerial control.
3. Work-in-progress is generally done on estimated basis which leads to inaccuracy in total cost calculations.
4. The computation of average cost is more difficult in those cases where more than one type of products is manufactured and a division of the cost element is necessary.
5. Where different products arise in the same process and common costs are prorated to various costs units. Such individual products costs may be taken as only approximation and hence not reliable.
The characteristics of process costing system:
1. A cost of production report is used to collect, summarize and compute total and unit costs.
2. Production is accumulated and reported by departments.
3. Costs are posted to departmental work in process accounts.
4. Production in process at the end of a period is restated in terms of completed units.
5. Total cost charged to a department is divided by total computed production of the department in order to determine a unit cost for a specific period.
6. Costs of completed units of a department are transferred to the next processing department in order to arrive at the total costs of the finished products during a period. At the same time, costs are assigned to units still in process.
The procedures of process costing are designed to:
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1. Accumulate materials, labor, and factory overhead costs by departments.
2. Determine a unit cost for each department.
3. Transfer costs from one department to the next and to finished goods.
4. Assign costs to the inventory of work in process (WIP)
5. If accurate units and inventory costs are to be established by process costing procedures, costs of a period must be identified with units produced in the same period
DISTINCTION BETWEEN JOB COSTING AND PROCESS COSTING
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Job order cos t ing and process cos t ing are two di f ferent systems. Both the systems are used for cos t ca lcula t ion 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 ofDistinction
Job order costing Process costing
1. Specific order Performed against specific orders
Production is contentious
2. Nature Each job many be different.
Product is homogeneous and standardized.
3. Cost determination Cost is determined for each job separately.
Costs are complied for each process for department on time basis i.e. for a given accounting period.
4. Cost calculations Cost is complied when a job is completed.
Cost is c a l c u l a t e d a t the end o f t h e c o s t period.
5. Control Proper control is comparatively d i f f i c u l t as each product unit is different
and the production is not
Proper control is comparatively easier as the production is standardized and is more suitable.
6. Transfer There 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.
7. Work-in-Progress There may or may not be work-in-progress.
There is always some work-in-progress because of continuous production.
8. Suitability Suitable to industries where production is intermittent and customer o r d e r s c a n be identified in the value of production.
Suitable, where goods are made for stock and productions is continuous.
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Difference between job costing & process costing
The primary goal of both job costing and process costing in the manufacturing profession is to determine the actual cost per unit. Job costing basically refers to the costs that are encountered in the businesses related to manufacturing goods. Job Costing ledgers, wherein such costs are recorded, form an integral part of the final account statement of the manufacturers. This type of costing involves recording the costs as per the specific jobs rather than a particular process. However, Process Costing refers to the methodology involved in calculating the costs that are incurred while performing a particular task or undertaking a specific process. This might involve the costs that are either incurred directly or indirectly.
Job Costing involves the costs of every individual unit of production. However, Process
Costing involves the costs that are averaged for each production unit. As per the definition,
Process Costing is a method that is applied to the manufacture business that is held
together by various continuous or repetitive processes. Process Costing works efficiently
for the industries that are known to produce a single type of product. Both of these terms
signify the costs related to labor, material and overhead costs.
Process Costing helps to keep a tight reign over the monthly expenditures in a
manufacturing business. As an example, Job Costing involves the costs that form salaries
of labors working in a particular process whereas Process Costing involves the costs of the
processed or manufactured goods undertaken by different departments.
One of the major differences between Job Costing and Process Costing is that the Job
Costing can be carried out while a particular job is going on. However, Process Costing
can be achieved only when all the processes are completed. Moreover, when it comes to
documentation, in case of Job Costing, the job cost sheet is important whereas in Process
Costing a document having deposition and accumulation of various costs is important.
In summary, there are various differences between Job Costing and Process Costing
methods. Some of these are listed below:
1. Job Costing signifies the costs encountered for each and every job whereas Process
Costing signifies the costs encountered for different departments.
2. In case of Job Costing, a final value of the costs can be calculated beforehand
whereas in Process Costing, the final value of the costs is calculated only at the end of
the complete process.
3. The important documents needed to carry out Job Costing are much different from
those needed for Process Costing.
4. Job Costing is typically used by industries that manufacture customized and
heterogenous products whereas Process Costing method is used by the industries that
are involved in mass production of homogenous products.
This is a method of job costing used by fabricators and manufacturers who produce unique special orders, customized products and even standardized products that are produced in small batches.
Essentially, job order costing is attempting to measure the cost of manufacturing a single unit for a particular job order. It is simple to find the cost per widget. Take the sum of the cost of materials (including unusable scrap), cost of labor and allocated overhead and divide by the number of widgets produced for a particular job order. The math is easy, the tricky part is accurately tracking the material, labor and overhead with efficiency.
Unlike job order costing, process costing is a used by manufacturers who mass produce large quantities of the exact same "widget" in one continuous process flow.
How this differs from job order costing is that for process costing, the cost per unit is accumulated within a specific time period for a specific department. The formula is similar to job order costing. Divide the sum of the cost of material, cost of labor and allocated overhead for a month (arbitrary time frame) by the number of widgets produced within that same month.
Following are the main differences between process costing and job costing:
1. Applicability Process costing is applied to ascertain the cost of standardized products produced in mass. So, naturally, materials, labor and other facilities remain indifferent. Job costing is applied to ascertain the cost of a specific order received. The quality and quantity of materials and labor and other facilities between jobs vary.
2. Cost CollectionProcess costing accumulates manufacturing costs for departments or processes. Job costing uses cost sheet and accumulates manufacturing costs for each job or batch separately.
3. Time PeriodProcess costing has a time frame of certain months or years for which costs are accumulated. Job costing has no time frame. It ends after the completion of a particular job so that costs are accumulated for each job.
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4. Unit Cost AscertainmentProcess costing divides total departmental process costs by the departmental process output to derive the unit cost. Job costing obtains unit cost by dividing the total cost of the job by the job order units.
Necessary of process costing
Manufacturing and production companies use process costing to allocate production costs to consumer goods. Process costing is most common in business industries where manufacturers produce homogenous goods. Homogenous goods represent items that are extremely similar to each other. Gasoline, kidney beans, soda pop, cotton tee shirts and plywood are a few examples of homogenous products. Business owners use process costing because it offers several advantages in the manufacturing and production environment.
Saves TimeProcess costing saves management accountants copious amounts of time. Many types of cost allocation systems require accountants should to identify specific costs or cost drivers when allocating production costs. Process costing avoids these actions because it allocates costs based on the number of production processes a good travels through. Management accountants focus on the production costs for each manufacturing process. The number of goods leaving a production process will usually have the total process costs applied to each product. Process costing allows management accounts to apply an average per-unit cost for the direct materials, production labor and manufacturing overhead to each product.
FlexibleManufacturing and production companies can have a few or several production processes based on the type good. Production processes can include selling, refining, training, filtering, bottling, labeling and shipping. The type of production process depends on the goods being produced and how much time must be spent on converting raw materials to valuable consumer goods. Companies who use process costing often have a flexible production environment. New production processes may be added to the production system and costs will be allocated for the new process. This concept also works in reverse. Companies can eliminate extemporaneous production processes and decrease product costs by reducing the total production system.
Easier Than Other Costing SystemsProcess costing is usually an easier costing system for manufacturing and production companies. Using a basic process cost allocation system allows companies to hire and train new accounting employees in less time than other companies. Process costing may also require less paperwork and other information for management decisions. Management and
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cost accounting is usually responsible for providing business owners and managers with financial information for business decisions. Process costing usually provides information on current work-in-process (unfinished products) and the number of 100 percent complete goods produced. Additional information is often easy to include this process costing includes products in large batches rather than individual units.
Process costing is an accounting system that gathers direct and indirect costs of
manufacturing and then averages them out into a "cost per unit" for each product. Process
costing is the opposite of job costing, which determines the specific cost for each task in a
procedure of creating a product. Many large companies that create the same product over
and over again like Coca Cola or Kellogg's use process accounting for their products, as
there are many benefits for a large and active company.
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. Understanding
these costs is the first step in being able to control them. It is very important that a
company chooses the appropriate type of costing system for their product type and
industry. 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. In
Process costing unit costs are more like averages, the process-costing system requires less
bookkeeping than does a job-order costing system. So, a lot of companies prefer to use
process-costing system.
When process costing is applied?
Process costing is appropriate for companies that produce a continuous mass of like units
through series of operations or process. Also, when one order does not affect the
production process and a standardization of the process and product exists. However, if
there are significant differences among the costs of various products, a process costing
system would not provide adequate product-cost information. Costing is generally used in
such industries such as petroleum, coal mining, chemicals, textiles, paper, plastic, glass,
and food.
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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.
Products are manufactured in large quantities, but products may be sold in small
quantities, sometimes one at a time (automobiles, loaves of bread), a dozen or two at a
time (eggs, cookies), etc.
Product costs must be transferred from Finished Goods to Cost of Goods Sold as sales
are made. This requires a correct and accurate accounting of product costs per unit, to
have a proper matching of product costs against related sales revenue.
Managers need to maintain cost control over the manufacturing process. Process
costing provides managers with feedback that can be used to compare similar product
costs from one month to the next, keeping costs in line with projected manufacturing
budgets.
A fraction-of-a-cent cost change can represent a large dollar change in
overall profitability, when selling millions of units of product a month. 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.
Materials part way through a process (e.g. chemicals) might need to be given a value,
process costing allows for this. 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.
Process cost procedures
There are four basic steps in accounting for Process cost:
Summarize the flow of physical units of output.
Compute output in terms of equivalent units.
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Summarize total costs to account for and Compute equivalent unit costs.
Assign total costs to units completed and to units in ending work in process inventory.
Format of process a/c
Particulars Unit Rate Rs. Particulars Unit Rate Rs.To Direct material By Normal LossTo Direct Labour By Units transferred
to other processTo Indirect materialTo Other Expenses By Abnormal loss
(B/F)To Abnormal gain(B/F)Total Total
Format of Abnormal loss
Particulars Unit Rs. Particulars Unit Rs.To Process a/c By Sale of wasted units
By costing P & L a/cTotal Total
Format of Abnormal gain a/c
Particulars Units Rs. Particulars Units Rs.To Normal Loss a/c By Process a/c (names of different
process)To costing P&la/cTotal Total
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1)To find the cost per unit for valuation of units to be trans. to next process and also for abnormal, loss or gain = Total process cost – Salvage value of normal spoilage Total units introduced – Normal loss in units
2) To find abnormal loss (or) gain (all in units): = Units from previous process + fresh units introduced – Normal loss – units transferred to next process (If the result is positive then abnormal loss. If negative then abnormal gain)
3) In case of opening WIP and closing WIP are given then there are different methods of valuation of closing WIP
i) FIFO Method ii) LIFO Methodiii) Average Method iv) Weighted Average Method
4) Various statements to be prepared while WIP is given:i) Statement of equivalent productionii) Statement of cost iii) Statement of apportionment of costiv) Process cost a/c
5) FIFO Method: In these method total units transferred to next process includes full opening stock units and the closing stock includes the units introduced during the process. In this method the cost incurred during the process is assumed as to be used
a) First to complete the units already in process b) Then to complete the newly introduced units c) For the work done to bring closing inventory to given state of completion
6) LIFO Method = Cost incurred in process is used for:
a) First to complete newly introduced units
b) Then to complete units already in process in this method closing stock is divided into two :
i) Units which represent opening stock but lie at the end of the period ii) Newly introduced units in closing stock.
7) Average Method: In this method a) No distinction is made between opening stock and newly introduced material.
b) In finding cost per unit, cost incurred for opening stock is also to be added with current cost. (This addition is not done in LIFO & FIFO method as cost incurred in that process is only taken)
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8) Weighted average method: This method is only used when varied product in processed through a single process. General procedure is adopted here.
a) Statement of weighted average production should be prepared. Under this statement output of each products is expressed in terms of points.
b) Cost of each type of product is computed on basis of Points.
Points of vital importance in case of Abnormal Gain / Loss:
a) Calculate cost per unit by assuming there is no abnormal loss / gain
b) Cost per unit arrived above should be applied for valuation of both abnormal Loss/gain units and output of the process.
c) Separate a/c for both abnormal loss/gain is to be prepared.
In process costing, we study mainly following important matters
1. Process Loss
It is sure that some losses will happen in processing industries. These losses may be happened due to natural activities of chemical or leakage. So, for effective control, it is necessary to record all the raw materials in each process. Normal process loss will increase the cost of unit produced in any process. So, we will credited normal wastage units only (not amount) in the credit side of process account.
If there is abnormal loss which has happened due to ignorance, then we calculate value of abnormal loss and its no. of units and cost will be credited to process account.
If there is any cash received due to selling of scrap, then this will be credited to abnormal loss account and balance of abnormal loss account will be credited to costing profit and loss account.
2. Normal Loss:
Normal loss is an unavoidable loss which occurs due to the inherent nature of the materials and production process under normal conditions. It is normally estimated on the basis of past experience of the industry. It may be in the form of normal wastage, normal scrap, normal spoilage, and normal defectiveness. It may occur at any time of the process.
No of units of normal loss: Input x Expected percentage ofNormal Loss.
Cost of good unit: Total cost increased – Sale Value of Scrap
Input – Normal Loss units
The cost of normal loss is a process. If the normal loss units can be sold as a crap then the sale value is credited with process account. If some rectification is required before the sale of the normal loss, then debit that cost in the process account. After adjusting the normal loss the cost per unit is calculates with the help of the following formula:
3. Abnormal Loss:
Any loss caused by unexpected abnormal conditions such as plant breakdown, substandard material, carelessness, accident etc. such losses are in excess of pre-determined normal losses. This loss is basically avoidable. Thus abnormal losses arrive when actual losses are more than expected losses. The units of abnormal losses in calculated as under:
Abnormal Losses = Actual Loss – Normal Loss
The value of abnormal loss is done with the help of following formula:
Value of Abnormal Loss:
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Total Cost i n crease – Sc r ap Value of normal Loss x Units of abnormal lossInput units – Normal Loss Units
Abnormal Process loss should not be allowed to affect the cost of production as it is caused by abnormal (or) unexpected conditions. Such loss representing the cost of materials, labour and overhead charges called abnormal loss account. The sales value of the abnormal loss is credited to Abnormal Loss Account and the balance is written off to costing P & L A/c.
Dr. Abnormal Loss A/c. Cr.
Particulars Units Rs. Particulars Units Rs.To Process A/c. xx xx By Bank xx xx
By Costing P & L A/c.
xx xx
xx xxx xx xx
4. Abnormal Gains:The margin allowed for normal loss is an estimate (i.e. on the basis of expectation in process industries in normal conditions) and slight differences are bound to occur between the actual output of a process and that anticipates. This difference may be positive or negative. If it is negative it is called ad abnormal Loss and if it is positive it is Abnormal gain i.e. if the actual loss is less than the normal loss then it is called as abnormal gain. The value of the abnormal gain calculated in the similar manner of abnormal loss. The formula used for abnormal gain is:
Abnormal Gain
Total Cost incurred – Scrap Value of Normal Loss x Abnormal Gain UnitesInput units – Normal Loss Units
The sales values of abnormal gain units are transferred to Normal Loss Account since it arrive out of the savings of Normal Loss.
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:
The difference is transferred to Costing P & L A/c. as a Real Gain.
Dr. Abnormal Gain A/c. Cr.
Particulars Units Rs. Particulars Units Rs.To Normal LossA/c.
xx xx By Process A/c. xx xx
To Costing P & L A/c.
xx xx
xx xx xx xx
5. Inter - Process Profits
If transfer from one process to another process is not on cost, then to calculate of inter - process profits is very important because we will show it in process account's separated column.
With this, next process will not get benefit of previous process. This inter-process profits do not show in balance sheet. It is just for deep analysis in process accounting.
{* One important thing, you must remember that you have to deduct closing stock's profit from total profit earned in any process.}
This profit on closing stock can be calculated with following formula :
(a) Normal spoilage arises under normal, efficient operating conditions; i.e., it is inherent in the production process and is uncontrollable in the short run. Abnormal spoilage is not expected under the normal, efficient operating conditions; i.e., it is not inherent in the production process and management usually considers it avoidable or controllable. Thus, by definition, the critical factor in distinguishing between normal and abnormal spoilage is the degree of controllability of units spoiled. Any spoilage that occurs during a production process functioning within the expected usual range of performance is considered normal. Any spoilage occurring in amounts in excess of the defined usual range is considered abnormal (controllable).
(b) Conceptually the cost of normal loss should be included in the cost of good units produced because of its association with normal production. Likewise, the cost of abnormal loss should be accounted for as a loss because of its abnormal unusual nature and should be separately identified as a loss on reports for management.
For practical reasons, there may be no distinction between normal and abnormal loss in reports for management, since it is sometimes very difficult (or impossible) to do so. The production process may be relatively new or the process may be altered often enough to make such a distinction impractical or too costly. Whenever possible, however should be made and accounted for as discussed in the preceding paragraphs.
Formulas:
1. Cost of Abnormal Wastage = Normal cost ÷ Normal output x Abnormal Wastage inn units
2. Cost of Abnormal Effectives = Normal Cost ÷ Normal Output x Abnormal Effectives in units
3. Computation of Abnormal loss : Quantity of abnormal loss = Normal output – Actual output Normal output = Input – normal loss
4. Value of abnormal loss = Normal cost of the normal output ÷ Normal output x units of Abnormal loss
5.Value of normal cost of normal output = Expenditure of the process – Scrap value of normal Loss
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Definition and Explanation of Equivalent Units of Production:
After materials, labor and overhead costs have been accumulated in a department, the department's output must be determined so that unit cost can be computed. A department usually has some partially completed units in its ending inventory. It does not seem reasonable to count these partially completed units as equivalent to fully completed units when counting the department's out put. These partially converted units are mathematically converted into an equivalent number of fully completed units. In process costing this is done by using the following formula:Equivalent Units = Number of partially Completed Units × Percentage of CompletionEquivalent units of production for a period can be calculated in two different ways
1. Weighted Average method2. First in First Out (FIFO) method
Equivalent Units―Weighted Average Method:
Weighted Average method blends together units and costs from the current period with units and costs from the prior period. In a weighted average method the equivalent units of production for a department are the number of units transferred to the next department of finished goods plus the equivalent units in the department's ending work in process inventory.
VALUATION OF WORK-IN-PROGRESS
Meaning of Work-in-Progress:Since production is a continuous activity, there may be some incomplete
production at the end of an accounting period. Incomplete units mean those units on which percentage of completion with regular to all elements of cost (i.e. material, labour and overhead) is not 100%. Such incomplete production units are known as Work-in-Progress. Such Work-in-Progress is valued in terms of equivalent or effective production units.
Meaning of equivalent production units :This represents the production of a process in terms of complete
units. In other words, it means converting the incomplete production into its equivalent of complete units. The term equivalent unit means a notional quantity of completed units substituted for an actual quantity of incomplete physical units in progress, when the aggregate work content of the incomplete units is deemed to be equivalent to that of the substituted quantity. The principle applies when operation costs are apportioned between work in progress and
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completed units.
Equivalent unit should be calculated separately for each element of cost (viz. material, labour and overheads) because the percentage of completion of the different cost component may be different.
Accounting Procedure:
The following procedure is followed when there is Work-inProgress (1) Find out equivalent production after taking into account of the process losses, degree of completion of opening and / or closing stock.
(2) Find out net process cost according to elements of costs i.e. material, labour and overheads.
(3) Ascertain cost per unit of equivalent production of each element of cost separately by dividing each element of costs by respective equivalent production units.
(4) Evaluate the cost of output finished and transferred work in progress The total cost per unit of equivalent units will be equal to the total cost divided by effective units and cost of workinprogress will be equal to the equivalent units of work-inprogress multiply by the cost per unit of effective production.
In short the following from steps an involved.
Step 1 – prepare statement of Equivalent production Step 2 – Prepare statement of cost per Equivalent unit Step 3 – Prepare of Evaluation Step 4 – Prepare process account The problem on equivalent production may be divided into four groups. I. when there is only closing work-in-progress but without process losses II. when there is only closing work-in-progress but with process losses
III. when there is only opening as well as closing work-inprogress without process losses
IV. when there is opening as well as closing work-inprogress with process losses
Situation I :
Only closing work-in-progress without process losses : In this case, the existence of process loss is ignored. Closing work-in-progress is converted into equivalent units on the basis of estimates on degree of completion of materials, labour and production overhead.
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Afterwards, the cost pr equivalent unit is calculated and the same is used to value the finished output transferred and the closing work-in-progress
Situation II:
When there is closing work-in-progress with process loss or gain. If there are process losses the treatment is same as already discussed in this chapter. In case of normal loss nothing should be added to equivalent production. If abnormal loss is there, it should be considered as good units completed during the period. If units scrapped (normal loss) have any reliable value, the amount should be deducted from the cost of materials in the cost statement before dividing by equivalent production units. Abnormal gain will be deducted to obtain equivalent production.
Situation III:
Opening and closing work-in-progress without process losses. Since the production is a continuous activity there is possibility of opening as well as closing work-in-progress. The procedure of conversion of opening work-in-progress will vary depending on the method of apportionment of cost followed viz, FIFO, Average cost Method and LIFO. Let us discuss the methods of valuation of work-in-progress one by one.
(a) FIFO Method: The FIFO method of costing is based on the assumption of that the opening work-in-progress units are the first to be completed. Equivalent production of opening work-in-progress can be calculated as follows:
Equivalent Production = Units of Opening WIP x Percentage of work needed to finish the units
(b) Average Cost Method: This method is useful when price fluctuate from period to period. The closing valuation of work-in-progress in the old period is added to the cost of new period and an average rate obtained. In calculating the equivalent production opening units will not be shown separately as units of work-in-progress but included in the units completed and transferred.
(c) Weighted Average Cost Method: In this method no distinction is made between completed units from opening inventory and completed units from new production. All units finished during the current accounting period are treated as if they were started and finished during that period. The weighted average cost per unit is determined by dividing the total cost (opening work-in-progress cost + current cost) by equivalent production.
(d) LIFO Method: In LIFO method the assumption is that the units entering into the process is the last one first to be completed. The cost of opening work-in-progress is
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charged to the closing work-in-progress and thus the closing work-in progress appears cost of opening work-in-progress. The completed units are at their current cost.
(1) Format of statement of Equivalent Production:
Input Output EquivalentProduction
Particulars Units Particulars Units Material Labour Overheads% Units % Units % Units
OpeningStock
xx Units completed
xx xx xx xx xx
UnitsIntroduced
xx NormalLoss
xx -- -- -- --
AbnormalLoss
xx xx xx xx xx
xx EquivalentUnits
xx xx xx xx xx xx Xx
(2) Statement of cost per Equivalent Units :
Element of costing CostRs.
EquivalentUnits
Cost per Equivalent Units Rs
Material Cost (Net) Xx Xx XxLabour Cost Xx Xx XxOverheads Cost Xx xx Xx
xx Xx
(3) Statement of Evaluation
Particulars Element of cost
EquivalentUnits
Cost per equivalent units
Rs.
CostRs.
Total Cost Rs.
Units completed Material xx xx xx
Labour xx xx xx
Overheads xx xx xx Xx
Closing WIP Material xx xx xx
Labour xx xx xx
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Overheads xx xx xx Xx
Abnormal Loss Material xx xx xx
Labour xx xx xx
Overheads xx xx xx Xx
Illustration 1: (Normal / Abnormal Loss and Abnormal Gain)
The product of a company passes through 3 distinct process. The following information is obtained from the accounts for the month ending January 31, 2008.
Particulars Process – A Process – B Process – C
Direct Material 7800 5940 8886
Direct Wages 6000 9000 12000
Production Overheads 6000 9000 12000
3000 units @ Rs. 3 each were introduced to process – I. There was no stock of materials or work in progress. The output of each process passes directly to the next process and finally to finished stock A/c.
The following additional data is obtained :
Process Output Percentage of Normal Loss to Input
Value of Scrap per unit
(Rs.)
Process – I 2850 5 % 2
Process – II 2520 10 % 4
23
Process – III 2250 15 % 5
Prepare Process Cost Account, Normal Cost Account andAbnormal Gain or Loss Account.
Solution:
Dr. Process – A A/c. Cr.
Particulars Units Rs. Particulars Units Rs.
To Units introduced
3000 9000 By Normal LossA/c.
150 300
To DirectMaterial
7800 By Process – B A/c. 2850 28500
To Direct Wages 6000 (Units transferred
To Production @ Rs. 10/-)
Overheads 6000
3000 28800 3000 28800
Dr. Process – B A/c. Cr.
Particulars Units Rs. Particulars Units Rs.
To Process – I A/c. 2850 28500 By Normal LossA/c.
285 1140
To DirectMaterial
5940 By AbnormalLoss A/c.
45 9000
24
To Direct Wages 9000 By Process – C A/c. 2520 50400
To Production
Overheads 9000
2850 52440 2850 52440
25
Dr. Process – C A/c. Cr.
Particulars Units Rs. Particulars Units Rs.To Process – II A/c.
2520 50400 By Normal LossA/c.
378 1890
To DirectMaterial A/c
8886 By FinishedStock A/c.
2250 85500
To Direct Wages 12000To Production
Overheads 12000To AbnormalGain A/c.
108 4104
2628 87390 2628 87390
Dr. Abnormal Gain A/c. Cr.
Particulars Units Rs. Particulars Units Rs.To Normal LossA/c.
108 540 By Process – C A/c.
108 4104
To Costing P&L A/c.
3564
108 4104 108 4104
Dr. Normal Loss A/c. Cr.
Particulars Units Rs. Particulars Units Rs.To Process – A A/c.
150 300 By Bank A/c. (Sales)
To Process – B A/c.
285 1140 Process – A A/c.
150 300
To Process – C A/c.
378 1890 Process – B A/c. 285 1140
Process – C A/c.
270 1350
By AbnormalGain A/c.
108 540
813 3330 813 3330
26
Illustration 2 (Average Costing)Prepare a statement of equivalent production, statement of
cost, process account from the following information using average costing method.
Particulars Units Rs. Particulars Units Rs.To OpeningStock
50,000 60,000 By Units completed
To Materials 2,00,000 1,00,000 & transfer 50,000 2,13,750To Labour 75,000 By Closing Stock 50,000 91,250ToOverheads
70,000
2,50,000 3,05,000 2,50,000 3,05,000
28
Illustration 3: (FIFO Method)
From the following information relating to KKN Company Ltd. Prepare Process Cost Account for Process III for the year 2008.
Opening Stock IN Process III 5000 units ofRs. 36,000
Transfer from Process II 2,13,000 units ofRs. 8,27,000
Direct Material added in Process III Rs. 4,01,800Direct Wages Rs. 1,98,100Production Overhead Rs. 99,050Units Scrap 11,000 units Transferred to Process IV 1,89,000 units Closing Stock 18,000 units
Material – I :Opening balance 2000 units 12,350Cost of 20000 units @ Rs. 6
Per unit 1,20,0001,25,150 20,200 6.1955
Material – II :Opening Stock 13,200In Process II 30,000
43,200 19,400 2.2268Labour :Opening Labour 17,500In Process II 60,000
77,500 18,600 4.1667Overheads :Opening Stocks 11,000In Process II 60,000
71,000 17,800 3.9888Total cost per unit 16.5778
Valuation of Equivalent Unit
Rs.Finished goodsAbnormal Units Workinprogress Material I Material II Labour Overheads
(17000 units x Rs. 16.5778)(800 units x Rs. 16.5778)
(4000 units x Rs. 6.1955) (3200 units x Rs. 2.2268) (2400 units x Rs. 4.1667) (1600 units x Rs. 3.9888)
24,7827,126
10,0006,382
2,81,82213,262
48,290
Dr. Process III A/c. Cr.
Particulars Units Rs. Particulars Units Rs.To OpeningWIP
2,000 57,050 By Normal Loss 1,800 7,200
To Process 2 20,000 1,20,000 By Finished GoodsTo Direct Units 17,000 2,81,822
Material II 30,000 By Closing Balance 4,000 48,290
35
To DirectLabour
60,000
To Overheads 60,000To AbnormalGain
800 13,262
22,800 3,37,312 22,800 3,37,312
36
Illustration.5The finished product of a factory pass through two
processes : the entire material being placed in process at the beginning of the first process. From the following production and last data relating to the first process, work out the value of theclosing inventory and the value of the materials transferred to thesecond process.
Process I Rs.Opening inventory 10,000Material 27,500Labour 50,000Manufacturing Overheads 40,000Opening inventory (25 percent complete) 4,000Put into Process 12,000Transferred to II Process 10,000Closing inventory (20 percent completed) 5,000Spoilage during process 1,000
[I.C.W.A., Final]
Solution :Process I A/c
Particulars Kg. AmountRs.
Particulars Kg. AmountRs.
OpeningInventory
4,000 10,000 Transferred to Process II
10,000 1,15,750
Material 12,000 27,500 Normal Loss 1,000 --Labour 50,000 Closing
Value of opening stock (given) Additional cost on opening stock Value of completely processed units
10,00035,25070,500
4,0006,000
1,15,750 10,000
Illustration 6
ABC Limited manufactures a product ‘2X’ by using the process normally R. T. for the month of May 2009, the following data is available.
Process R. T. Material Introduced 16,000 units Transfer to next process 14,000 units Work-in-Process 4,000 units At the beginning of the month (4/5 completed) 3,000 units At the end of the month (2/3 completed)Cost records:Work-n-Process at the beginning of the monthMaterial Rs. 30,000Conversion cost Rs. 29,200Cost during the monthMaterials Rs. 1,20,000Conversion cost Rs. 1,60,800
Normal spoiled units are 10% of goods finished output transferred to next process.
Defects in these units are identified in their finished state. Materials for
the product is put in the process at the beginning ofthe cycle of operation, whereas labour and other indirect cost flow evenly over the year. It has no realizable value for spoiled units.
Required :(1) Statement of equivalent production (average cost method) (2) Statement of cost and distribution of cost(3) Process accounts
40
Solution :
Statement of Equivalent Production (average cost method)
Inputunits
Particulars OutputUnits
Equivalent Production
Materials Conversion cost
% completed EquivaletUnits
% Complted
EquivalentUnits
4000 Opening WIP -- --
16000 Introduced and 14,400 100 14,400 100 14,400
Completed tonextNormal spoilage
1,440 100 1,440 100 1,440
Abnormal spoilage
1,160 100 1,160 100 1,160
Closing WIP 3,000 100 3,000 66.67 2,000
20000 20000 20000 19000
Statement showing cost of each element
Particulars Materials Conversion cost
OpeningCost in processTotal (a) Equivalent Units (b) Cost per unit (a ÷ b)
30,0001,20,000
29,2001,60,800
1,50,000 1,90,00020,0007.50
19,00010.00
41
Statement showing distribution of cost
Particulars EquivalentUnits
Cost per unit
(Rs.)
Units completed Materials Conversion costNormal spoilage(10 %)Closing stock : Material Conversion cost Abnormal Stock: Material Conversion Stock
14,40014,400
1,440
3,0002,000
1,1601,160
7.5010.0017.50
7.5010.00
7.5010.00
1,08,0001,44,000 2,52,000
25,200
42,500
20,300
22,50020,000
8,70011,600
Dr. Process A/c. Cr.
Particulars Rs. Particulars Rs.To Opening WIP
To MaterialIntroducedTo Conversion cost
Incurred
59,200
1,20,000
1,60,800
By Profit and LossA/c. (abnormal)
By Transfer to NextProcessBy Closing WIP
20,300
2,77,200
42,500340000 3,40,000
42
INTER PROCESS PROFITS:
Normally the output of one process is transferred to another process at cost but sometimes at a price showing a profit to the transfer process. The transfer price may be made at a price corresponding to current wholesale market price or at cost plus an agreed percentage. The advantage of the method is to find outwhether the particular process is making profit (or) loss. This will help the management whether to process the product or to buy the product from the market. If the transfer price is higher than the cost price then the process account will show a profit. The complexity brought into the accounting arises from the fact that the inter process profits introduced remain a part of the prices of process stocks, finished stocks and work-in-progress. The balance cannot show the stock with profit. To avoid the complication a provision must be created to reduce the stock at actual cost prices. This problem arises only in respect of stock on hand at the end of the period because goods sold must have realized the internal profits. The unrealized profit in the closing stock is eliminated by creating a stock reserve. The amount of stock reserve is calculated by the following formula.
Stock Reserve = Transfer Value of stock x Profit i n clu d ed in tra n sfer p rice Transfer Price
Illustration 7
A product passes through three processes before its completion. The output of each process s charged to the next process at a price calculated to give a profit of 20% on transfer price. The output of Process III is transferred to finished stock account on a similar basis. There was no work-in-progress at the beginning of the years. Stock in each process has been valued at prime cost of the
process. The following data is available at the end of 31st March, 2009.
ProcessI
ProcessII
ProcessIII
Finished Stock Rs.
Direct Material 20000 30000 10000 --
Direct Wages 30000 20000 40000 --
Stock on 31st March2009
10000 20000 30000 15000
Sale during the year -- -- -- 180000
From above information prepare:1. Process Cost Account showing the profit at each stage.2. Actual realized profit and3. Stock Valuation as would appear in the balance sheet
43
Solution:Dr. Process – I A/c. Cr.
Particulars TotalRs.
CostRs.
ProfitRs.
Particulars TotalRs.
CostRs.
ProfitRs.
To Materials 20000 20000 -- By Process IIA/c. (Transfer)
50000 40000 10000
To Wages 30000 30000 --Total 50000 50000 --Les Closing
