Process costing
Learning Objectives
1 Describe the characteristics of process costing.
2 Identify situations where the use of process costing is
appropriate.
3 Explain the concepts of normal and abnormal losses and
abnormal gains.
4 Calculate the cost per unit of process outputs.
5 Calculate and explain the concept of equivalent units.
2
The basics of process costing
Process costing is used in businesses where identical items
are produced continuously and therefore costs cannot be
traced to individual units of production or batches.
There may be a single process or a series of processes.
Two general types:
Discrete units
• Where product consists of large volumes of low-cost
items. For example cans, tins, light bulbs
Continuous units
• Product is of continuous nature such as oil refining, food
or drinks, paper, chemicals
The basics of process costing (cont’d)
All costs, direct or indirect, incurred during the period
are charged to each process so that a total process
cost for each is obtained.
The total process cost of each process is then shared
equally among all cost units processed in that process
Basic formula is:
Total process cost incurred during period
Cost per unit = ----------------------------------------------------------
Total units processed during the period
Example 1
Total number of units produced = 1000
Total process Cost= £5000
Cot per unit (CPU) = £5000/1000 = £5
The basics of process costing (cont’d)
Output of one process becomes input of the next etc.
until finished product
There is closing work in progress to be valued
There is always loss in process due to spoilage, wastage,
evaporation etc.
Output usually single product but there may also be
By products
And/or
Joint products
Loss/gain in process costing
1- Expected level of loss is known as normal loss
As suffering these losses is an unavoidable part of production,
the cost of normal losses is added to the cost of good
production
E.g., making fruit jam Removal of stalks on the fruit & water
Loss (evaporation)
Loss/gain in process costing (cont’d)
2- Losses greater than expected, the extra loss is called
abnormal loss
Input: 1000 units Production Process
Normal loss rate: 10%
Ouput: 860 units
Actual Losses: 140 units
Normal loss: 100 units Abnormal loss: 40 units
(10% x 1000 units) (140 units - 100 units)
Loss/gain in process costing (cont’d)
3- If the actual loss of a Process is less than the expected level, it
is known as an Abnormal Gain.
Input: 1000 units Production Process
Normal loss rate: 10%
Ouput: 960 units
Actual Losses: 40 units
Normal loss: 100 units Abnormal Gain: 60 units
(10% x 1000 units) (100 units - 40 units)
Loss/gain in process costing (cont’d)
Rule:
Unit cost of output is calculated based on expected
ouput.
Normal loss: No cost
Abnormal loss: given a cost (equal to unit cost of output)
The cost of abnormal losses appears as a separate
expense (debit) in the Costing Profit and Loss Account.
Abnormal gain:given a negative cost value (equal to unit
cost of output) i.e. treated as a credit in the Costing
Profit and Loss Account.
Example 2
3,000 units of material are input to a process.
Process costs are as follows.
Material $45,000
Conversion costs 18,000
Output is 2700 units. Normal loss is 10% of input.
Calculate total cost of output and losses.
Example 3
3,000 units of material are input to a process.
Process costs are as follows.
Material $45,000
Conversion costs 18,000
Output is 2500 units. Normal loss is 10% of input.
Calculate total cost of output and losses.
Example 4
3,000 units of material are input to a process.
Process costs are as follows.
Material $45,000
Conversion costs 18,000
Output is 2800 units. Normal loss is 10% of input.
Calculate total cost of output and losses.
Demo Exercise
Input = 1000 units
Input costs = £4,500
Normal loss = 10%. Assuming no opening and
closing stocks, Determine the accounting entries
for the cost of output and cost of loss if:
Actual output = 860 units
Actual output = 920 units
Losses with scrap value
Scrap: is a ‘discarded material having some value’
Scrap value of normal loss is usually deducted from the
cost of good production
Scrap value of abnormal loss (or gain) is set off against
the cost of abnormal loss recorded in the Costing Profit
and Loss Account.
Example 5
2,000 tons of material were put into a process in January
at a cost of £15,000. The output of finished product was
1,700 tons. The normal level of waste in this process is
10% of input weight and the waste, which is identified at
the end of the process, can be sold at £3 per ton.
(a)What is the normal loss (in tons)?
(b)What is the actual loss (in tons)?
(c)What is the abnormal loss (in tons)?
(d)What is the total cost of output?
(e)What is the total cost of losses?
Example 5 - Solution
2,000 tons of material were put into a process in January at a cost of
£15,000. The output of finished product was 1,700 tons. The normal
level of waste in this process is 10% of input weight and the waste,
which is identified at the end of the process, can be sold at £3 per ton.
(a) What is the normal loss (in tons)?
(b) What is the actual loss (in tons)?
(c) What is the abnormal loss (in tons)?
(d) What is the total cost of output?
(e) What is the total cost of losses?
Valuing closing work in progress
(Equivalent units)
In process costing, production continuous so that at
any time there will be partly finished items within the
process.
This means that some of the costs incurred in the
period will relate to completed production, and some
to the uncompleted work in progress.
To find the cost per unit, allowance needs to be made
for partly complete items.
Add equivalent units of partly completed items to the
total units completed.
Equivalent units = no. of units in process x % complete
Valuing closing work in progress
(Equivalent units)
Total process cost incurred during period
Cost per = ----------------------------------------------------------------
equivalent unit
Units completed + Equivalent units in process
Example
1000 units, 600 complete, 400 in process 50% complete
Equivalent units = 400 x 50% = 200
Total equivalent production = 600 +200 =800 units
Cost per equivalent unit (CPU) = 5000/800 = £6.25
Homework
Seminar questions – Process costing
Chapter 8 - ACCA F2 Study text
