ch-05 Notes Ca

UNIT-5
PROCESS COSTING
Introduction
Process costing is employed in businesses which involve mass production where the product
moves in the production line through a same process or set of processes each distinct and
well defined. In industries such as paper, rubber products, medicines and chemical products
the processes are standardised and identical. A separate account for each process is opened
and all expenditure pertaining to the process is charged to that process account which enables
to compute the cost at each stage of manufacturing. This unit will focus on the very basic
method of costing for goods that involve mass production called as Process Costing
Meaning of Process Costing :
Process costing is employed in business where the product passes through different stages of
production each distinct and well defined. For each process a separate process account is
created and all the expenditure pertaining to a process is charged to that process account. In
this form of costing the output of one process forms the input of the succeeding process.
Process costing is applied in those industries where the products are homogeneous,
standardized and the final product is the result of sequence of processes. It is employed in
mass production industries where production is continuous and costs are accumulated
process wise. The cost per unit is the average cost which is calculated by dividing the total
process cost by number of units produced in that particular process.
General Principles of Process Costing

(a) All the production activities are classified by processes and each process or department
includes number of operations which are not separately measurable.
(b) All the direct and indirect costs that relate to a particular process are debited to that
process account.
(c) The cost per unit is computed by dividing the total process cost by number of units
produced in that particular process.
(d) The operations are in a sequence which is specific and predetermined.
(e) In case certain products remain in process at the end of the period, their stage of
completion is assessed and the inventory is calculated in terms of completed units.
(f) If there is some loss in process which cannot be avoided, then the cost of such loss is borne
by the units produced in that department. This leads to increase in cost per unit.
(g) The processing of raw materials leads to the production of several products from the same
raw material and such products may be joint products or by-products.
Process Costing Procedure
The essential stages in Process Costing are as follows:
1. The factory is divided into number of processes and an account is maintained for each
process.
2. Each process is debited with material cost, labour cost, direct expenses and overheads
allocated or apportioned to the process.
3. The output of a process is transferred to the subsequent process in a manner that the
output of one process becomes the input of other process.
4. The finished output of the last process is transferred to the finished goods account.
Difference between Job Costing and Process Costing.
By-Products and Joint Products

By-Products : By-products are secondary products whose value is relatively small and are incidental
to the production of the main product. For example in the production of sugar mills the sugar is the
main product but molasses and bagasse are incidental to the production of sugar. These molasses
and bagasse are relatively of smaller value and hence are the by –product of sugar.
By products may be
• Sold in their original form without further processing
• Sold after further processing.
Examples of By-products:
Sugar- Bagasse, Molasses
Cotton textile -Cotton seed
Edible oil- Oil cake
Meat -Bones
Rice mills -Hus
Joint Products
The joint product is a term used for two or more products of almost equal economic value which are
simultaneously produced from the same manufacturing process and the same raw material. Hence,
the joint products usually require more processing with each product in a proportion that no single
product is designated as a major product.
Characteristics of Joint Products:
(a) They are produced simultaneously from the same raw material in natural proportions.
(b) They are produced simultaneously by common process.
(c) Their economic value is almost same. (d) They can be sold after separation or after further
processing.
Examples of Joint products:
Oil refining - Petrol, diesel, kerosene, grease, lubricating oils etc
Dairy -Skimmed milk, butter
Mining - Several metals from the same ore. e.g copper, silver, zinc, iron
Meat processing - Meat, hides, bones, grease.
Coal gas - Coke, tar, benzol and sulphate of ammonia
Sheep rearing - Meat, wool
Process Losses and Wastages

There is certain amount of loss that occurs at various stages of production which may be
attributable
to evaporation, chemical reaction, inefficiency etc that results in wastage of units during the
course
of manufacturing process. Such loss can be classified into normal or abnormal loss.
Normal Process Loss

It is the percentage of wastage arising in a particular process during normal conditions
which cannot
be avoided. The loss due to normal wastage should be charged to the good units (effectives)
arising
out of the process. This loss is absorbed as an additional cost of good units produced by the
process.
Treatment of Normal Loss

• In case the scrapped units have certain value, such an amount should be credited to the
process account.
• In case the scrap is of very small value then the total proceeds of the scrap will be credited
to the Works Overhead Account. The loss in weight or volume must be shown in
the Process Account.
• In some processes a proportion of the output must be re-worked either in the same
process or an earlier one. The process should be credited with the value of such materials
and should be charged to the process where the material is relegated.
Abnormal Process Loss Any loss in excess of normal process loss is known as Abnormal
Process Loss. This loss may be attributable to faulty plant design, sabotage, carelessness,
breakdown of the machinery, accident, use of defective materials etc. The abnormal loss is
not absorbed by the cost of production as it would unreasonably inflate the cost of
production per unit rather it is transferred to Costing Profit and loss
A/c.
Treatment of Abnormal Loss
(a) To find out the amount of normal loss.
(b) After considering normal loss find out the cost per unit in that process assuming that
there is no abnormal loss by using the following formula:
Cost per unit = Total cost – Value of normal loss
Units introduced – Normal loss units
(c) Multiply the Abnormal Loss units with the cost per unit as computed above. This gives
the total value of abnormal wastage.
(d) The abnormal wastages account is to be debited and the relevant Process Account shall
be credited with the amount and quantity of abnormal wastage.
(e) The balance in the process account reflects the cost of good units produced in the
process.
(f) The scrap or saleable value of abnormal loss units shall be credited to the “Abnormal
Wastage Account “and shall be closed by transferring it to the Costing and Profit and Loss
A/c.
Abnormal Gain/ Effectives

Abnormal effectives occur when the actual production exceeds the expected production.
The excess of actual production is known as abnormal effectives. The abnormal effectives
should not affect the cost of goods under the normal circumstances. The value of effectives
would be similar to the good units that would have been valued had there been wastage at
the normal rate. The amount shall be debited to the Relevant Process account and credited
to the Abnormal Effectives account which shall be then transferred to the Costing Profit and
Loss Account.
OPERATING COSTING
Introduction
Cost Accounting has been traditionally associated with manufacturing companies. However, in the
modern competitive market, cost accounting has been increasingly applied in service industries like
banks, insurance companies, transportation organizations, electricity generating companies,
hospitals, passenger transport and railways, hotels, road maintenance, educational institutions, road
lighting, canteens, port trusts and several other service organizations.
What is Operating Costing?
The costing method applied in these industries is known as ‘Operating Costing’. According to the
Institute of Cost and Management Accountants [UK] operating costing is, ‘that form of operating
costing which applies where standardized services are provided either by an undertaking or by a
service cost centre within an undertaking’.
Nature of Operating Costing
The main objective of operating costing is to compute the cost of the services offered by the
organization.
• For doing this, it is necessary to decide the unit of cost in such cases. The cost units vary from
industry to industry. For example, in goods transport industry, cost per ton kilometer is to be
ascertained while in case of passenger transport, cost per passenger kilometer is to be computed.
• The next step is to collect and identify various costs under different headings.
The headings used are,
• Fixed or standing charges
• Semi-fixed or maintenance charges
• Variable or running charges.
• One of the important features of operating costing is that mostly such costs are fixed in nature. For
example, in case of passenger transport organization, most of the costs are fixed while few costs like
diesel and oil are variable and dependent on the kilometers run.
Transport Organization
Transport undertakings include goods transport organizations as well as passenger transport

organizations. The cost unit is either ton kilometer or passenger kilometer. The meaning is cost of
carrying one ton over a distance of one kilometer or cost of carrying one passenger for a distance of
one kilometer. The costs are shown under the following heads.
Standing Charges or Fixed Costs: These are the fixed costs, which remain constant irrespective of
the distance travelled. These costs include the following costs.
• License fees and insurance
• Salaries of drivers, cleaners and conductors
• Garage costs which include garage rent and other relevant expenses
• Depreciation of the vehicle and other assets
• Taxes applicable
• Any other fixed charge like administrative expenses etc.
Variable Costs or Running Costs: These costs include,

• Petrol and diesel
• Oil
• Grease
• Any other variable cost Maintenance Charges:
• These charges include expenses like repairs and maintenance, tyre, and other charges connected
with maintenance like servicing of the vehicles etc.
• The cost sheet for transport organizations can be prepared in the following manner.
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UNIT-5

General Principles of Process Costing

Difference between Job Costing and Process Costing.

By-Products and Joint Products

Process Losses and Wastages

Normal Process Loss

Treatment of Normal Loss

Abnormal Gain/ Effectives

Nature of Operating Costing

The headings used are,

• Fixed or standing charges

• Semi-fixed or maintenance charges

• Variable or running charges.

Transport undertakings include goods transport organizations as well as passenger transport

Variable Costs or Running Costs: These costs include,

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