Method of Costing

There are two principle methods of costing. These methods are

I] Specific order or Job Costing II] Continuous operation or Process Costing

Job Costing
Production under job work is strictly according to customers specifications and each job is unique. Example- ship building, roads, bridges construction, manufacture of heavy electrical machinery, machine tools, furniture making, printing jobs etc. Costs are accumulated and ascertained job-wise It is possible to identify a job at each stage of its manufacturing While computing the cost, direct costs are charged to the job directly as they are traceable to the job. Indirect expenses i.e. overheads are charged to the job on some suitable basis. Each job completed may be different from other jobs and hence more detailed supervision and control is necessary.

Job Costing Procedure

Direct Material
Material Requisitions

Direct Labour
Time Sheets

Direct Expenses

Factory Overhead
Absorption at predetermined overhead rates

Factory Cost (Transferred to finished goods store) Add: Administration, Selling & Distribution Overheads

Cost of Sales
Add: Profit

Selling Price

Job Costing: Batch Costing, Contract Costing Batch costing Used when a quantity of similar and identical products are manufactured in batches. Example -printing, automobile, ready-made garments, television/AC parts manufacturing etc. Separate cost sheets are maintained for each batch of products by assigning a batch number. Cost of batch is ascertained by dividing the total of batch by number of units produced in that batch

Cost per unit= Total cost of batch/ No. of units produced in the batch
Contract costing This method is suitable for big jobs spread over a period of time Normally work is done at the customers site Suitable for undertakings engaged in building construction, ship-building, construction engg. etc.

Process Costing
Process Costing is used in those industries where the production is in continuous process. Examples of such industries are chemical plants, food manufacturing, paper mill, textile mills, sugar factories, dairy etc. The production is in continuous flow and is uniform. All units coming out as finished products are uniform with each other in all respects. The unit cost is obtained by dividing the total cost for a particular period by the total output. This is the average cost of the product units. Cost per process is ascertained and cost of each process is transferred to the subsequent process until the finished product emerges. The process loss may arise due to wastage, spoilage, evaporation etc. Process Costing: Unit or Single or Output Costing, Operating Costing, Operation Costing

Single output or Unit Costing

Applied where production is continuous and uniform and the industry in engages in production of a single product or few grades of the same product Total cost is divided by number of unit produced to determine cost per unit Applied in the industries like dairy, bricks works, paper mills, textile mills, cement etc.

Operating Costing Suitable for industries which render services rather than manufacturing goods To ascertain the cost of rendering services Applied in transport company, hotels, hospital, educational institutions, electricity etc.

TECHNIQUES OF COSTING
In each of the costing methods, various techniques may be used to ascertain cost, depending on the management requirement. These techniques may be grouped as follows : Absorption costing : As per this system, all fixed and variable costs are allotted to cost units and total overheads are absorbed by actual activity level. In this method, the variable costs are directly charged to the product. Fixed costs are distributed proportionately on suitable basis over diff. product manufactured during the period. Marginal costing : In marginal costing, only variable costs are considered in calculating cost of product. Variable costs are charged to unit cost and the fixed costs attributable to the relevant period is written off in full against the contribution for that period. Contribution is the difference between sales and variable or marginal cost of sales. Contribution= Sales Variable Cost Marginal costing is also known as direct or variable costing. It is a valuable aid to management in taking important policy decisions, such as product pricing, choosing product mix, decision to make or to buy etc.

Contd..

Standard Costing: Standard costs are predetermined costs and are worked out on scientific basis by conducting technical analysis. The main objective of fixation of standard cost is to have benchmark against which the actual performance can be compared. The difference between standard & actual cost is called as variance. Uniform Costing: This is not a separate method of costing. This is a system of using the same method/principle of costing by a number of firms in the same industry. It is treated as a common system of using agreed principles and standard accounting practices in the identical firms or industry. This helps in fixation of price of the product and inter-firm comparisons.

Inventory Costing
Inventories are tangible properties held: - for sale in ordinary course of business (Finished Goods) - in the process of production for such sale (Work-in-progress) - for consumption in the production of goods or services for sale (Raw materials) Objective of Inventory Valuation- Pricing of Issues Different lot of materials may be received at different prices. Hence, when issues are made from stock, it may happen that materials from more than one lot may have to be issued. Which price will be applicable in such case? Obviously the answer is that the issues should be priced at the same price at which they are purchased. But it is not practical as it is virtually impossible to identify the material issued. Hence it is necessary to price the issues by using certain methods. The various methods of pricing of issues are given below. 1. 2. 3. 4. First In First Out (FIFO) Last In First Out [LIFO] Simple Average Method Weighted Average Method

First In First Out (FIFO)

In this method, the stock received first is issued first Then the issues are made according to the dates of purchases made Closing inventories are valued at latest purchase prices

Merits: 1. It is easy to understand and simple to price the issues. 2. Material cost represents actual cost which should be charged to product or process. 3. It is a straight forwarded method which involves less clerical cost 4. It is a good store keeping practice 5. Stock value is closer to current price. Demerits: 1. In case of rising prices it will result in charging lower prices, while in case of falling price it will result in charging higher prices to the material consumption. 2. Usually more than one price has to be adopted for a single issue of materials. 3. If the price of the material purchased fluctuates considerably, it involves more clerical work and there is possibility of errors

Last In First Out (LIFO)

- In this method, material received last are issued first to the job. - Therefore the issue should be charged at the latest prices. - Closing inventories are valued at oldest purchase prices Merits: 1. Issues are charged at latest price, which is more appropriate.

2. It is simple to understand and easy to apply

3. Product cost will tend to be more realistic since material cost is charged at more recent price.

Demerits:
1. Stock-value does not represent current market price. 2. Like FIFO, this method also involves too many calculations and more clerical work 3. Unfair comparison of job cost when price changes too frequently.

Simple Average Method:

Under this method, the issues are charged at the average price of the material purchased without taking into consideration the quantities involved in the same. The method is used prices do not fluctuate significantly.

Weighted Average Method

- This method takes into consideration the prices as well as the quantities of materials purchased. - It is computed by dividing the total amount by the total quantity. - Every time when inventory is received, it is calculated before any issue is made Merits: 1. Easy to calculate and operate.

2. When there is wide fluctuation in prices of different inventories, this would be

highly suitable as it will even out such fluctuation Demerits: 1. Since issues are not valued at actual cost, profit or loss may occur. 2. Issues and closing stock are not at current cost.