Diploma in

Accountancy Studies
Management Accounting
Lecture 5
Costing Methods
Instructor: Anne Chia (Ms.)
anne.chia@kaplan.com
Reference: Cost Accounting, A Managerial Emphasis
Charles Horngren, Srikant Datar, Madhav Rajan
Chapter 17 Process Costing
Chapter 18 Spoilage, Rework and Scrap

Job costing
Features:
-

Based on customers specifications

One job = one unit
Usually of short duration
When to use Job Costing?
- Unique products or services with unique cost
components
- E.g. movies, hospitals, car repair workshop etc.

Three Types of Manufacturing Costs

The cost to produce a unit of product includes:

Direct material (DM)
Direct labor (DL)
Manufacturing

overhead (MOH):

Indirect material
Indirect labor
Overhead

Job-Order Costing

Direct Materials
(actual)

Direct Labor
(actual)
Manufacturing
Overhead
(estimate)

Job No. 1

Job No. 2

Job No. 3

Charge direct
material and
direct labor
costs to each
job as work is
performed
Apply overhead
to each job
using a
predetermined
rate

Job costing
Typical procedures:
1. Prospective customer approaches the
supplier and indicates the requirements of
the job.
2. Officer agrees with customers on precise
details of the items to be supplied, e.g.
colour, design, date of delivery, etc.
3. Estimating department prepares job cost
sheet.
4. Desired profit margin set, selling price
determined.

Example
LS is involved in drilling and boring business. A certain
job requires shafts to be drilled and bored and the
following costs have been estimated.
Machine hours
Labour hours
Dept C
200
500
Dept L
675
750
Workers are paid $10 per hour in Department C and $8
in Department L. Direct materials should cost $6,400. LS
uses a cost plus system and sets selling price at a
markup of 20% on total cost. Administration costs are
absorbed at a rate of 10% total production cost. Factory
overheads are absorbed at $12 per direct labour in
Department C and $10 per direct machine hour in
Department L.

Example
Prepare a job cost statement clearly showing:
- Total production cost
- Total cost
- Selling price

Job cost statement:

Direct materials
Direct labour
- Department C 500 x $10
- Department L 750 x $8

$
6,400
5,000
6,000

Prime cost

17,400

Factory overheads
- Department C $12 x 500
- Department L $10 x 675

6,000
6,750

Total production cost

30,150

Administration costs
Total costs
Profit 20% x 33,165
Selling price

3,015 {10% x 30,150}

33,165
6,633
$39,798

{$12 per DLH}

{$10 per MH}

Prime Cost = Direct Materials + Direct Labour

Example
Refer to the example on LS, the drilling and
boring business. Suppose the firms markup
is 10% of selling price instead, then:
Total cost
Profit

$33,165
$ 3,685

90%
10%

Selling price

$36,850

100%

SP x 10%

Process costing
Process costing applies 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. NO individual costing for each product.
E.g. manufacturing cars, canning, drinks, pills

The product or service moves from one stage

of a process to another, then another until the
product is complete.

Illustration of Process Costing

Losses
Normal loss
Unavoidable, a natural consequence of the
production process.

Occurs even when production process is operating in

an efficient manner.
E.g. Trimming edges (wood scraps, cloth scraps),
chemical reaction.
Normal loss is always valued based on its scrap
value.

Losses
Abnormal loss

Losses in excess of what is expected.

Usually due to poor management of resources, could
have been avoided. E.g. operator errors.
Abnormal loss is given same value as the good units.
Note: If output is MORE than what is expected, we
have an abnormal gain.
Ref: Study Guide p.61 Lecture Notes

Example 1
1,000 units of materials worth $1,000 were
put into process. Labour costs of $2,000 and
overheads costing $1,700 were incurred.
Normal yield is 90% of input. Output from
the process amounted to 900 units. These
loss units can be sold for $2 per unit.

Prepare the process account, showing

clearly the average cost per unit.

Example 1 - Solution
inputs

outputs

$5 x 900 units

Total Product Cost , classified as

Inventory in the Balance Sheet
Scrap value $200 debited to Cash or Accounts Receivables
Standard Formula for Unit Product Cost computation:
Total Manufacturing Cost Normal Loss Scrap Value
Total Input Units Normal Loss Units
$4,700 - $200
= $4,500
= $5 per unit
1,000 100 units
900 units

Example 2
2,000 units of materials, valued at $4,000
were put into process. Labour and
overheads cost $8,000 and $6,000
respectively. Actual output was 1,700 units.
The normal loss was 10% of input. Loss
units can normally be sold for $1.80.
Prepare the process account.

Example 2 - Solution

200u x $1.80 = $360

2,000 units x 10% = 200

Standard Formula for Unit Product Cost computation:

Total Manufacturing Cost Normal Loss Scrap Value
Total Input Units Normal Loss Units
$18,000 - $360
= $17,640 = $9.80 per unit
2,000 200 units
1,800 units

Abnormal loss $980 charged to

Expenses in the Income Statement,
Account Loss from Abnormal Spoilage
Account.

Example 3
1,000 units of materials valued at $1,000
were put into a process. Labour cost was
$2,000 and overheads $1,700. Normal loss
is 10% of input and actual output turned out
to be 930 units. Loss units can be sold for
$2 per unit.
Prepare the process account.

Example 3 - Solution
Normal loss
1,000 units x 10%

Standard Formula for Unit Product Cost computation:

Total Manufacturing Cost Normal Loss Scrap Value
Total Input Units Normal Loss Units
$4,850 - $200
= $4,650
= $5 per unit (rounded)
1,000 100 units
900 units

Charged to Gain account (credit balance) in the Income

Statement. Similar to Other Income.
Abnormal Gain: $5 per unit x 30 units = $150

Work in progress
Equivalent units
= Notional whole units representing
incomplete work.
E.g. 200 units that are only 50% complete
are equivalent to 100 fully completed units.

Supplementary - Equivalent Units

=
Four one-half filled cups are equivalent to two full cups.
For e.g. 10,000 units 70 percent complete are
equivalent to 7,000 complete units.

Example 1
An organisation spent $9,000 inputting 1,000 units into
a process, together with $5,040 worth of labour and
$5,394 worth of overheads. At the end of the period,
900 completed units were recorded as having finished,
and 100 units remained in the work in progress closing
inventory. The stage of completion of the WIP was:
Material
Labour
Overheads

100%
60%
30%

Prepare the process account, showing clearly the

average cost per unit.

Example 1 - Solution
WIP Inventory
100 physical units

E.g. Labour
WIP inventory x % of completion
100 physical units x 60% = 60 Equiv Units

100%
60%
30%

Finished Goods Inventory

(inventory in B/S)

Work In Process
Inventory
(inventory in B/S)

Double-check accuracy of computation

Finished Goods value + Closing WIP value
$18,045 + $1,389 = $19,434 same as Total Cost $19,434 ($9k + $5,040 + $5,394)

Example 2
In the manufacture of paper the costs incurred in the
process in a period were:
Direct materials $77,840
Conversion costs $28,350 (next slide for definition)
There was no work-in-progress at the beginning of the
period. 24,600 units were completed during the period
and a further 3,200 units remained in the process at
the end of the period, complete for materials but only
75% complete for conversion costs.

Prepare the process account.

Supplementary Cost Terms

Prime Costs = Direct Materials + Direct Labour
Conversion Costs = Direct Labour + Overheads
To convert Raw Materials into Finished Goods

Example 2 - Solution
3,200 units x 75% completion = 2,400 E.U.
WIP Inventory
3,200 physical units

Finished Goods Inventory

Work In Process Inventory

Recap
Patacake Ltd produces a certain food item in a
manufacturing process. On 1 November, there was no
opening stock of work in progress. During November,
500 units of material were input into the process,
costing $9,000. Direct labour costs were $3,840.
Production overhead was absorbed at the rate of
200% of direct labour costs.
Closing work in progress on 30 November consisted of
100 units which were 100% complete as to materials
and 80% complete as to labour and overheads. There
was no loss in process.

Prepare the process account.

Started
500 units
End WIP
(100 units)
Completed 400 units

Recap - Solution
DL costs $3,840 (given
OH costs 200% of DL costs = $3,840 x 2
= $7,680
Conversion = DL + OH = $11,520

Finished Goods Inventory

Work In Process Inventory

Additional Self-Practice Question

Process Costing
Chapter 17 Problem 17-30 Larsen Company
Hint: add beginning WIP amounts to current months costs.
Key answers:
1. Direct materials EU 25k, Conversion costs EU 24,250
2. Total production cost $8,490,250, DM $230/EU, CC $113/EU
3. Completed/Finished Goods $7,717,500
Ending Work In Process
$772,750