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Process Costing https:/en.wikipedia.

org/wiki/Process_costing/

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. It is a method of assigning costs to units of production in
companies producing large quantities of homogeneous products.

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.

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 variousproducts, 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, food, banks, courier, cement, and soap.

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.
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.

The journal entries for process costing are the same as those for job-order costing with one
exception. The entry to transfer cost from one work-in-process account to another is:

Work-in-process inventory-second department Debit (Left)

Work-in-process-first department Credit (Right)

e.g.(1) Micro Labs Company produces house paint in two processing departments: the Mixing
Department which mixes the paint colors and the Finishing Department which puts the paint in
containers and labels them. The following information related to the companys operation for October
follows:

A) Raw materials were issued for use in production: Mixing department, $551,000, and the Finishing
department, $629,000. B) Direct labor costs incurred: Mixing department $230,000, and Finishing
department $270,000. C) Manufacturing overhead cost applied: Mixing department $665,000, and
Finishing department, $405,000. D) The cost of the mixed paint transferred from the Mixing
department to the Finishing department was $1,850,000. E) Paint that had been prepared for
shipping was transferred from the Finishing department to Finished Goods. Cost of the transferred
paint was $3,200,000.

Required: Prepare journal entries to record items A) through E) above.

Solution(1):

Work in Process Mixing 551,000


Work in Process Finishing 629,000
Raw Materials 1,180,000
Work in Process Mixing 230,000
Work in Process Finishing 270,000
Wages and Salaries Payable 500,000
Work in Process Mixing 665,000
Work in Process Finishing 405,000
Manufacturing Overhead 1,070,000
Work in Process Finishing 1,850,000
Work in Process Mixing 1,850,000
Finished Goods 3,200,000
Work in Process Finishing 3,200,000

e.g.(2) Larney Corporation uses process costing. A number of transactions that occurred in June are
listed below. As follows:

A) Raw materials that cost $38,200 are withdrawn from the storeroom for use in the Mixing
Department. B) Direct labor costs incurred $36,500,in the Mixing Department. C) Manufacturing
overhead of $42,100 is applied in the Mixing Department. D) Units with a carrying cost of $112,400
finish processing in the Mixing Department and are transferred to the Drying Department for further
processing. E) Units with a carrying cost of $143,800 finish processing in the Drying Department, the
final step in the production process, and are transferred to the finished goods warehouse. F)
Finished goods with a carrying cost of $138,500

Required: Prepare journal entries to record items A) through F).

Solution (2):

work in process-mixing department $38,200


raw materials $38,200
work in process $36,500
salaries/wages payable $36,500
work in process-mixing department $42,100
manufacturing overhead $42,100
work in process-drying department. $112,400
work in process mixing department $112,400
finished goods $143,800
work in process-drying department $143,800
-costs of goods sold $138,500
finished goods $138,500