final assignment on costing methods (1)

7/30/2019 Final Assignment on Costing Methods (1)

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Costing methods refer to the systems of collating and presenting costs for the purpose of product

costing (or service costing). Several methods of costing have been designed to suit the needs of

individual business conditions. In other words, different methods of costing are used because

business enterprises vary in their nature and in the type of the products they produce (or services)

they render. The basic principles of ascertaining costs are the same in all methods, but the way of

analyzing and presenting such costs vary from industry to industry.

Costing methods determine how the cost should be identified, accumulated and charged to the

cost object. Costing methods also termed as Cost Accumulation Procedures. There are three

types of costing methods. These are:

1 Job order Costing;

2 Process Costing; and

3 Operation Costing.

Introduction

Costing methods


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With a job order cost system, costs are assigned to each job. A job may be an order, a contract, a

unit of production, or a batchperformed to meet customers specifications.

For example, job order costing is appropriate for printing or publishing companies, laundries

marketing firms preparing advertising campaigns and any organization producing a tailor made

goods or services according to customers specific requirements.

Some of the important features of this method of costing are given below:

(1) Works or production is undertaken against the order of customers.

(2) Production is not as a continuous process because each job is accepted by work order basis

not for stock or future sales.

(3) Each job is treated as a separate entity for the purpose of costing.

(4) There is no uniformity in the flow of production because of different production process.

(5) Costs are collected and accumulated after the completion of each job or products in order to

find out profit or loss on each job.

(6) The jobs differ from each other requiring separate work in progress maintained for each job.

The following are the important objectives of Job Costing:

(1) Job costing provides accurate cost information for each job or product.

Features of Job Order Costing

Objectives of Job Order Costing

JOB ORDER COSTING


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(2) It enables management to reduce the cost by making comparison of each elements of actual

costs with estimated ones.

(3) It helps management to measure the operational efficiency and inefficiency for each job or

works to take effective decision making.

(4) This method enables management to providing proper valuation of work in progress.

The following are the various advantages of Job order costing:

(1) It helps management to identifying profitable and unprofitable jobs.

(2) It provides required information for preparation of estimates while submitting quotations for

similar jobs.

(3) It facilitates effective cost control by evaluating operational efficiency of each job or works.

(4) It helps management to fix selling price of each order or each job.

(5) Spoilage and defective works can be easily identified with each job or person.

(6) It facilitates the application cost-plus formula of pricing of large contracts.

(7) It facilitates the introduction of budgetary control of overheads, since the overheads are

charged on predetermined basis to arrive at the total costs.

Advantages of Job Order Costing


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(1) This method is relatively involving more labor intensive. Thus, it is expensive.

(2) With increase in clerical work, there are chances for committing more errors and mistakes.

(3) Job Costing is essentially historical costing. It does not provide for the control of cost unless

it is combined with estimated or standard costing system.

(4) It is difficult to make cost comparison among different jobs because each job has its own

features.

In order to ensure the successful application of Job Costing method, it is essential to consider the

following pre-requisites:

(1) A sound production planning and controlling system.

(2) An appropriate time booking and time keeping system to avoid idle time.

(3) Maintenance of necessary records with regard to job tickets, work order, operation tickets,bills of materials and tools requirements etc.

(4) Appropriate methods of overhead apportionment and absorption rate.

(5) Effective designing and scheduling of production.

Disadvantages of Job Order Costing

Pre-requisites for Job Order Costing


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Process costing is a method of costing used mainly in manufacturing where units arecontinuously mass-produced through one or more processes.

Examples of this include the manufacture of erasers, chemicals or processed food. The method

used is to take the total cost of the process and average it over the units of production.

(1) Continuous or mass production where products which passes through distinct process or

operations.

(2) Each process is deemed as a separate operations or production centers.

(3) Products produced are completely homogenous and standardized.

(4) Output and cost of one process are transferred to the next process till the finished product

completed.

(5) Cost of raw materials, labor and overheads are collected for each process.

(6) The cost of a finished unit is determined by accumulated of all costs incurred in all the

process divided by the number of units produced.

PROCESS COSTING

Features of Process Costing


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(7) The cost of normal and abnormal losses usually incurred at different stages of production is

added to finished goods.

(8) The interconnected processes make the final output of by-product or joint products possible.

The main advantages of process costing are:

(1) Determination of the cost of process and unit cost is possible at short intervals.

(2) Effective cost control is possible.

(3) Computation of average cost is easier because the products produced are homogenous.

(4) It ensures correct valuation of opening and closing stock of work in progress in each process.

(5) It is simple to operate and involve less expenditure.

1) Computation of average cost does not give the true picture because costs are obtained on

historical basis.

(2) Operational weakness and inefficiencies on processes can be concealed.

(3) It becomes more difficult to apportionment of joint costs, when more than one type of

products manufactured.

Advantages of Process Costing

Disadvantages of Process Costing


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(4) Valuation of work in progress is done on estimated basis, it leads to inaccuracies in total

costs.

(5) It is difficult to measure the performance of individual workers and supervisors.

1. Summarize the flow of physical units of output2. Compute output in terms of equivalent units3. Compute cost per equivalent unit4.

Summarize total costs to account for

5. Assign total costs to units completed and to units in ending Work-in-Process

1. Both systems have the same basic purposesto assign material, labor, and manufacturing

overhead costs to products and to provide a mechanism for computing unit product costs.

2. Both systems use the same basic manufacturing accounts, including Manufacturing

Overhead, Raw Materials, Work in Process, and Finished Goods.

3. The flow of costs through the manufacturing accounts is basically the same in both systems.

Similarities between Job-Order and Process Costing

Five-Step Process-Costing Allocation


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Job Costing Process Costing1) Production is against specific order from the

customers.

1) Production is in continuous flow.

2) Variety of products are produced accordingly 2) The products being homogenous.

3) Costs are determined by job or batches of

products.

3) Costs are compiled on a time basis. i.e.

production for a given accounting period, for

each process or department

4) Unit cost of a job is calculated by dividing

the total cost incurred into the units produced in

the lot or batch.

4) The unit cost of a process is computed by

dividing the total cost for the period into he

output of the process during that period

5) Costs are calculated when a job is completed. 5) Costs are calculated at the end of the cost

period.

6) There may or may not be any work in

process at the beginning or end of an accounting

period.

6) Production being continuous, there is

usually some work in process at the beginning

as well as at the end of the period.

7) There are usually no transfers from one job

another unless it is necessary to transfer surplus

work or excess production.

7) As a product moves from one process to

another, transfers of cost from process to

process are made.

8) As each product unit is different and

production is not continuous, more managerial

attention is needed if proper control is to be

exercised.

8) Process production is standardized and is

more stable. Hence, control of process

activities is comparatively easy.

Difference between Job Costing and Process Costing


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A job order cost accumulation system is most suitable where a single product or batch of

products is manufactured according to a customer's specifications. A process cost accumulation

system is used when products are manufactured by either mass production techniques or

continuous processing. Process costing is suitable when homogenous are manufactured in large

volumes. A customized cabinet builder would use a job order cost system whereas a

manufacturer of 8-ounce jars of peanut butter would use a process cost system.

Under a job order cost accumulation system, the three elements of a product's cost

(direct materials, direct labor and factory overhead) are accumulated according to identifiable

jobs. Individual work-in-process inventory subsidiary cost sheets are set up for each job and are

charged with the cost incurred in the production of the specifically ordered unit. Upon

completion of each job, its cost is transferred from work-in-process to finished goods inventory.

Under a process cost accumulation system, the three elements of a product's cost are

accumulated according to department of cost center. Individual work-in-process inventory

accounts are set up for each department and are charged with the costs incurred in the

processing of the units that pass through them. Upon completion of the process, the cost of

work-in-process inventory in the last department is transferred to finished goods inventory.

Comparison of Job order and process cost accumulation systems


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Outline a seven-stepapproach to job costing:

Distinct units of a

product or service

Masses of identical

or similar units of a


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Five Steps in Process Costing


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Operation costing is a hybrid of job-order and process costing. Job-order costing is generally

used for products that are differentiated and processed in batches. These batches are then treated

as a group for costing purposes, separate from other batches of products. Process costing is used

for homogenous (identical) products. In process costing, costs are spread out over all products in

an equal manner because they are all undifferentiated.

Operation costing combines these two methods for products that are very similar, yet are

somewhat differentiated in batches. An example of a product that may use operation costing

would be clothes or electronics. These products are similar, yet can be differentiated.

For example, a manufacturer of LCD televisions may use essentially the same process for

making all of their TV sets, but each size may require a different amount of raw materials. In this

case, conversion costs could be set up in a way similar to process costing (since the process is the

same regardless of the television size), but direct materials costs would be better distributed in a

job-order costing manner (costs distributed to batches of televisions based on actual direct costs).

Although operation costing procedures can vary by company or industry, most of the procedures

and methods used will be borrowed from job-order and process costing. Generally, direct costs

are recorded to work-in-process accounts in a batch format (similar to job-order costing), but

conversion costs are handled in a way that is similar to process costing (all conversion costs

divided by the total number of units). This type of costing generally involves many work-in-

process accounts.

OPERATION COSTING

Operation Costing Procedure


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Operation costing is appropriate in businesses that have products that are very similar, yet

differentiated in some form from each other. This difference can be in the finishing or in the

actual functionality of the product. The specifics of how operation costing is used can vary by

company and industry, as different procedures can be combined from job-order and process

costing to make an operation costing methodology

Operation costing is a mix ofjob costing and process costing, and is used in either of the

following situations:

A product initially uses different raw materials, and is then finished using a common process thatis the same for a group of products; or

A product initially has identical processing for a group of products, and is then finished usingmore product-specific procedures.

In both cases, we use a mix of job costing and process costing to compile the cost of a product;

this mixed costing environment is called operation costing.

When Is Operation Costing Appropriate?
http://www.accountingtools.com/job-costinghttp://www.accountingtools.com/overview-process-costinghttp://www.accountingtools.com/definition-raw-materials-invenhttp://www.accountingtools.com/definition-raw-materials-invenhttp://www.accountingtools.com/overview-process-costinghttp://www.accountingtools.com/job-costing


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We can explain operation costing with following simple example:

To make cost and profit statement using operation costing for a gas cylinder manufacturing

company. We are giving the following raw data.

Stock of material on 1-1-2011 Tk. 35000

Stock of material on 31-12-2011 Tk. 4900

Purchase of materials Tk. 52500

Direct Wages Tk. 95000

Factory expenses Tk. 17500

Establishment expenses Tk. 10000

Completed stock in hand on 1-1-2011 Tk. Nil

Completed stock in hand on 31-12-2011 Tk. 35000

Sales Tk. 189000

The number of gas cylinder manufactured during the year 2011 was 4000. The company wants to

quote for a contract for the supply of 1000 gas cylinders during the year 2012. The gas cylinder

to be quoted are of uniform quality and make and similar to those manufacturing in the previous

year

Prepare a statement showing the price to be quoted to give the same percentage of net profit on

turnover as was realized during the year 2011. Assuming that the cost per unit overhead will be

same as in the previous year.

Operation Costing: An Example


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Businesses or industries are different from each other according to their nature of operation and

characteristics of finished products produced or service rendered by them. It is natural that the

job of building a house is quite different from running a motor vehicle for a kilometer. Though,

in all cases, the basic principles and procedure of costing remain the same, different industries

follow different methods and techniques to ascertain cost of their products or services. For

example: Specific order or job costing is used for specific jobs, batches or contracts each of

which is undertaken by specific order. Process costing is used mainly in manufacturing where

units are continuously mass-produced through one or more processes. On the other hand,

Operation costing is used for standardized products produced or service rendered continuously in

a repetitive manner. So we can conclude that there is no universally recognized method of

costing to be used in the organization. Rather it depends on the nature of the products

produced/services rendered as well as information needed for the organization.

Conclusion


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final assignment on costing methods (1)

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