PROCESS COSTING

OBJECTIVES
• By end of the lecture students should be able to:

1. Define and explain process costing

2. Prepare process account with both normal and abnormal loss/ gain.

3. Solve question relating to process costing.

 PROCESS COSTING
• Is a costing method applicable to production processes where similar products
are produced continuously in a series of production processes or steps.
• It is a costing method applicable to products that produced by applying a series
of stages and every stage becomes a cost center and has its own cost.
• I it is a form of operation cost used where production follows a series of
sequential processes’
• Such costs are incurred in the production of the product.
• The cost may include the following:
• Direct materials
• Labour
• overheaads
 PROCESS COSTING
• Definition
• Process costing is a method of costing used to ascertain
the cost of cost per unit of the product at each stage or
process where identical units pass through a number of
processes.
• Is a form of operation costing used where production
follows a series of sequential processes.
• Examples of industries that use process costing are :
• Chemical processing
• Soap making companies
• Textile industries
 CHARACTERISTICS OF PROCESS COSTING

• Similar units are produced continuously in large quantities

• Some losses are unavoidable, i.e losses are common feature due to
spoilage, wastage, evaporation etc.

• The output of one process is the input of the next process and so on until the
final product is completed

• Production takes places in multiple stages

• Costs can not be identified with individual products

 KEY DEFINATIONS
LOSSES
• Normal loss
• This is the expected loss and its unavoidable.
• They are unavoidable losses arising from the nature of production.
• They arise due to
• 1 chemical reactions
• 2 Unavoidable spoilage quantities

• Abnormal loss
• This is the loss over and above the normal or expected loss.
• They are process losses above the normal losses.
• May be due accidents
• Industrial action.
• they can not be predicted
• Abnormal losses are calculated as follows:
• Abnormal loss = actual loss – normal loss
• It is the amount by which the actual losses exceed the normal loss
• E.g abnormal loss = 2000 -1800 = 200.

• Actual loss = total input materials – actual output materials in units

• E.g. if input is 1000kg and output materials is 800kgs actual loss is

200kgs
• Cost per unit of output (rate) = Total process costs – scrap value of normal loss
• Total materials input – normal loss in units

• The cost per unit obtained in the formula is used to determine the value of:
•1 value of output/finished goods
•2 value of abnormal loss
•3 value of abnormal gain
• Abnormal gain
• This occurs when the loss incurred is less that the expected loss. i.e the
expected loss is less than the actual loss.

• These are process losses that are less the normal losses.

• Abnormal loss = actual loss – normal loss,

• Where actual loss exceeds the normal loss.

• Normal loss = 100kgs
• Actual loss = 800kgs

• Abnormal lgain = 1000kgs – 800kgs

• 200kgs
 KEY DEFINATIONS
Scrap
Is the normal loss or discarded materials with some recovery of residual value.

Disposable discarded materials.

Process cost is the cost per unit

= Total cost of the process – scrap value
• Total Materials input (unit) –Normal loss
The total cost will to value of output
Abnormal gain
 STAGES OF PROCESS COSTING
• The factory is divided into a number of processes and account is kept
for each process.
• Each process is debited with materials cost, labour costs, direct
expenses, and allocated or apportioned overhead costs to the process.

• The output of a process is transferred to the next process in the

sequence. Thus the finished output of one process becomes the input
of the next process.

• The finished output of the last process , i.e the final product is
transferred to to finished good account.
 QUESTION
• XY a manufacturing company produces a product that passes through three
distinct processes after which it is passed through to the finished goods
store.

• Procees 1 Process 2 Process 3

• Material inputs in units 1000

• Materials costs ($) 10 000 - -
• Direct labour ($) 15 000 12 000 8
500
• Direct expenses ($) 8000 5 000 4
000
• Overheads ($) 8 000 6 000 1 500
 PROCESSES WITH PROCESS LOSSES
AND GAINS
• NORMAL LOSS
• It is the loss inherent in the production process and cannot be avoided.
• Thus normal loss is expected under normal working or operating conditions.
• It is such that the output vale is less than the input volume.

• Normal loss is normal expressed as a percentage of the input volume of

materials or its stated in the terms of volume ofamount.
• EXAMPLE
• In a milk production firm, it is estimated that 5% of inputs (fresh milk) will be
lost in the manufacturing of yourghut.
 Treatment of normal loss and
scrap value in process account
• Normal loss may be calculated by a given percentage on material input or
its stated.

• Accounting treatment is to debit normal loss account and credit the

process account with normal loss unit and scrap value if any.

• Normal loss account is credited with cash received from the proceeds of
the scrap or debtors if sold on credit
 Question
• State 4 characteristics of the processing costing:

• State any 4 causes of losses in process manufacturing

• Explain the treatment of the following in process account:
• Normal loss
• Abnormal loss
• Abnormal gain
 ILLUSTRATION WHERE NORMAL LOSS
HAS SCRAP VALUE
• Company XYZ incurred the following in process 1 of one of its production stage.

• Materials 1000kgs costing $15 000

• Direct labour $20 000
• Overheads $60 000

• The normal loss is 10% of input volume and has a srap value of $50.

• Prepare the process and normal loss account.

 PROCESS ACCOUNT WITH ABNORMAL LOSS
• ABNORMAL LOSS
• Abnormal losses are not expected to occur under efficient working conditions.
• When the actual loss is more than the expected loss, abnormal loss occurs or is
created,
• Thus the excess of expected output over actual output.
• Cost per unit of output (rate) = Total process costs – value of normal loss (scrap)
• Total units introduced – normal loss units
• The cost per unit obtained in the formula is used to determine the value of
 TREATMENT OF ABNORMAL LOSS
• The quantity of abnormal loss is credited to the relevant process account
and debited to the abnormal loss account.

• The sales proceeds of the abnormal loss are credited to the abnormal loss
account.
 Example of Process Account with Abnormal Loss

The following costs were in incurred in the manufacturing product called X.

$
• Material cost (100 units) 40 000
• Direct wages 24 000
• Production overheads 12 500

• Normal loss is expected to 10% with scrap value of $200 . Output of the
process was 80 units.
• Prepare the process and the abnormal account.
 EXAMPLE
ABC limited produces a single product which undergoes three processes. The
following details relate to one period.
PROCESS

1 2 3

$ $ $

Raw materials (60 000units) 80 000

Materials introduced 23 500 18 750 22 100

Direct wages 15 600 12 000 13 400

Overheads allocated 3 800 4 600 3 200

Other overheads ($27 000)
Output in units 55 200 53 800 49 600
 EXAMPLE
A normal loss of 5% of input materials to each prosses is anticipated

Normal units lost have the following scrap values:

After process 1 – Nil
After process 2 - $1.00
After process 3 - $1.80

Other overhead costs are apportioned on the basis direct wages.

Required
• Prepare the three process accounts
• The abnormal loss account