Chap7-Job, batch and process costing

06 August 2023 12:42

1 Different types of production

Costing systems
• Specific order costing is the costing system used when the work done by an organisation consists of
separately identifiable jobs or batches.

• Continuous operation costing is the costing method used when goods or services are produced as a
direct result of a sequence of continuous operations or processes, for example process and service
costing.

2 Job and Batch costing

Job costing
Job costing is a form of specific order costing and it is used when a customer orders a specific job to be done.
Each job is priced separately and each job is unique.

• The main aim of job costing is to identify the costs associated with completing the order and to record
them carefully.
• Individual jobs are given a unique job number and the costs involved in completing the job are recorded
on a job cost sheet or job card.
• The selling prices of jobs are calculated by adding a certain amount of profit to the cost of the job.
• Examples: landscape gardeners, decorators.

Batch costing
Batch costing is also a form of specific order costing. It is very similar to job costing.

• Within each batch are a number of identical units but each batch will be different.
• Each batch is a separately identifiable cost unit which is given a batch number in the same way that each
job is given a job number

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 job is given a job number
• When the batch is completed the unit cost of individual items in the batch is found by dividing the total
batch cost by the number of items in the batch.

• Examples: footwear and clothing manufacturing industries

• The selling prices of batches are calculated by adding a profit to the cost of the batch.

Illustration 1:

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3 Process costing
Process costing is used when a company is mass producing the same item and the item goes through a number
of different stages. Process costing is an example of continuous operation costing.

Examples include the chemical, cement, oil refinery, paint and textile industries.

One of the features of process costing is that in most process costing environments the products are identical
and indistinguishable from each other. For this reason, an average cost per unit is calculated for each process.

• Expected output is what we expect to get out of the process.

• Another feature of process costing is that the output of one process forms the material input of the next
process.
• When there is closing work-in-progress (WIP) at the end of one period, this forms the opening WIP at the
beginning of the next period.

The details of process costs and units are recorded in a process account which shows the materials, labour and
overheads input to the process and the materials output at the end of the process.

Illustration 2:

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4 Process costing with losses and gains
Sometimes in a process, the total of the input units may differ from the total of the output units.

• Losses may occur due to the evaporation or wastage of materials and this may be an expected part of the
process.
• Losses may sometimes be sold and generate a revenue which is generally referred to as scrap proceeds
or scrap value.

Normal loss and scrap value

Normal loss is the loss that is expected in a process and it is often expressed as a percentage of the materials
input to the process.

• If normal loss is sold as scrap the revenue is used to reduce the input costs of the process. The formula
for calculating the average cost of the units output is:

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 • If normal loss has a scrap value, it is valued in the process account at this value.
• If normal loss does not have a scrap value, it is valued in the process account as $Nil.

Illustration 3:

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Abnormal losses and gains
Normal loss is the expected loss in a process. If the loss in a process is different to what we are expecting then
we have an abnormal loss or an abnormal gain in the process.

• Abnormal loss is more loss than expected

• Abnormal gain is less loss than expected

Abnormal losses and gains and the process account

• The costs associated with producing abnormal losses or gains are not absorbed into the cost of good
output.
• Abnormal loss and gain units are valued at the same cost as units of good output in the process account.

Abnormal losses and gains and the scrap account

Losses and gains are transferred from the process account to the abnormal loss/gain account.

If there is no scrap value the losses or gains are transferred to the statement of profit or loss at the value given
in the process account.

If there is a scrap value then:

• the abnormal loss is transferred from the abnormal loss/gain account to the scrap account at the scrap
value.
• the abnormal gain is transferred from the abnormal loss/gain account to the scrap account at the scrap
value.

Illustration 4:

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Suggested approach for answering normal loss, abnormal loss/gain questions
1 Calculate any normal loss units and value
2 Balance the units (input units = output units)
3 Calculate the net cost of inputs and expected output units
4 Calculate the average cost per unit:

5 Value the good output and abnormal loss or gain at this average cost per unit.
6 Transfer the abnormal loss or gain to the abnormal loss/gain account.
7 Transfer the normal loss to the scrap account (if any).
8 Transfer the abnormal loss or gain to the scrap account at the scrap value (if any).
9 Balance the abnormal loss/gain account and the scrap account.

5 Work-in-progress (WIP) and equivalent units (EUs)

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5 Work-in-progress (WIP) and equivalent units (EUs)
Work in progress (WIP)
At the end of an accounting period there may be some units that have entered a production process but the
process has not been completed. These units are called closing work in progress (CWIP) units (part-
processed units).

It would not be fair to allocate a full unit cost to part-processed units and so we need to use the concept of
equivalent units (EUs) which shares out the process costs of a period fairly between the fully-processed and
part-processed units

Concept of EUs
Process costs are allocated to units of production on the basis of equivalent units EUs.

For example, if 100 units are exactly half-way through the production process, they are effectively equal to 50
fully-completed units. Therefore the 100 part-processed units can be regarded as being equivalent to 50 fully-
completed units or 50 EUs.

Illustration 5:

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Different degrees of completion
For most processes the material is input at the start of the process, so it is only the addition of labour and
overheads that will be incomplete at the end of the period.

• This means that the material cost should be spread over all units, but conversion costs (labour and
overheads combined) should be spread over the EUs.

Illustration 6:

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6 Opening work in progress (OWIP)
If OWIP is present there are two methods that can be used to calculate the equivalent units and calculate the
cost per equivalent unit:
• Weighted average method
• FIFO method.

Weighted average cost of production

• In the weighted average method no distinction is made between units in the process at the start of a
period and those added during the period.
• Opening inventory costs are added to current costs to provide an overall average cost per unit.

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Illustration 7:

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FIFO cost of production
With the FIFO method it is assumed that the OWIP units need to be completed first before any more units can
be started, for example cars on a production line. Therefore:
• completed output is made up of OWIP that has been finished in the period and units that have been
made from beginning to end in the period

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 made from beginning to end in the period
• if OWIP units are 75% complete with respect to materials and 40% complete with respect to labour, only
25% more work will need to be carried out with respect to materials and 60% with respect to labour
• the OWIP b/f costs are included in the final valuation of the completed units
• This means that the process costs in the period must be allocated between:
– finishing the OWIP units
– units started and completed in the period (fully-worked units)
– CWIP units.

Illustration 8:

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7 Losses made part way through production
It is possible for losses or gains to be identified part way through a process. In such a case, EUs must be used to
assess the extent to which costs were incurred at the time at which the loss/gain was identified.

Illustration 9:

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8 Joint and by-products
'The nature of process costing is such that processes often produce more than one product. These additional
products may be described as either joint products or by-products. Essentially joint products are main products
whereas by-products are incidental to the main products.

Joint products
Joint products are two or more products separated in the course of processing, each having a sufficiently high
saleable value to merit recognition as a main product.
• Joint products include products produced as a result of the oil-refining process, for example, petrol and
paraffin.

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 paraffin.
• Petrol and paraffin have similar sales values and are therefore equally important (joint) products.

By-products
By-products are outputs of some value produced incidentally in manufacturing something else (main products).
• By-products, such as sawdust and bark, are secondary products from the timber industry (where timber
is the main or principal product from the process).
• Sawdust and bark have a relatively low sales value compared to the timber which is produced and are
therefore classified as by-products.

Accounting treatment of joint products

The distinction between joint and by-products is important because the accounting treatment of joint products
and by-products differs.

• Joint process costs occur before the split-off point. They are sometimes called pre-separation costs or
common costs.
• The joint costs need to be apportioned between the joint products at the split-off point to obtain the cost
of each of the products in order to value closing inventory and cost of sales.
• The basis of apportionment of joint costs to products is usually one of the following:
– sales value of production (also known as market value)
– production units
– net realisable value.

Accounting treatment of by-products

By-products are of less significance than the main products and may not require precise cost allocation.

By-products can be accounted for using the following:

Non-cost methods
Non-cost methods make no attempt to allocate joint cost to the by-product but instead the proceeds either
increase income or to reduce the cost of the main product.
• Other income – The net sales of by-products for the current period is recognised as other income and is
reported in the income statement.

• By-product revenue deducted from the main product(s) cost – The net sales value of the by-products will
be treated as a deduction from the cost of the main product(s).

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 be treated as a deduction from the cost of the main product(s).

Cost methods
Cost methods attempt to allocate some joint costs to by-products and to carry inventories at the allocated cost
levels.
• Replacement cost method – values the by-product inventory at its opportunity cost of purchasing or
replacing the by-products.

• Total costs less by- products valued at standard price method – By-products are valued at a standard
price to avoid fluctuations in by-product value. This means that the main product cost will not be
affected by any fluctuations in the by-product price.

• Joint cost pro-rata method – allocates some of the joint cost to the by-product using any one of the joint
cost allocation methods. This method is rarely used in practice.

Illustration10

9 Process accounts for joint and by-products

You may be required to deal with joint and by-products when preparing process accounts. Joint products
should be treated as ‘normal’ output from a process. The treatment of by-products in process accounts is
similar to the treatment of normal loss.

• The by-product income is credited to the process account and debited to a by-product account.

• To calculate the number of units in a period, by-product units (like normal loss) reduce the number of
units output.

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• When by-products are produced, the cost per unit is calculated as follows:

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