Management Accounting BA213 Michael Dimond. Michael Dimond School of Business Administration Costing Methods Process Costing Job Costing Activity-based

Management AccountingBA213

Michael Dimond

Michael DimondSchool of Business Administration

Costing Methods

• Process Costing• Job Costing• Activity-based Costing (in the text, but not covered in this

class)


Understanding costs is key to cost management• A cost object is anything for which a separate measurement of costs

is desired. Examples include a product, a service, a project, a customer, a brand category, an activity, and a department

• Direct costs of a cost object are related to the particular cost object and can be traced to that cost object in an economically feasible (cost-effective) way. Direct costs are traced to a cost object.

• Indirect costs of a cost object are related to the particular cost object but cannot be traced to that cost object in an economically feasible (cost-effective) way. Indirect costs are allocated to a cost object.

• A cost driver is a factor which causes total costs to change in a given period (e.g. sales volume). A change in the cost driver results in a change in the level of total costs.

• A cost pool is a group of indirect cost items which are separate, but related.

• A cost allocation base is used to distribute the indirect costs in a cost pool to cost objects.


Example of assigning costs to cost object


Process Costing

• Process costing divides the total costs by the total number of units produced. All units (of goods or services) are identical and indistinguishable. This results in an average production cost per unit, which may be classified in as few as two categories: direct materials and conversion costs

• Process-costing systems separate costs into cost categories according to when costs are introduced into the process.• Direct materials are usually added at the beginning of the production process,

or at the start of work in a subsequent department down the assembly line.• Conversion costs are generally added equally along the production process.

• Process costing is very high-level and assumes all costs are spread evenly over the production of the identical units.• There will be complications when the process creates WIP inventory• FIFO and Average cost inventory methods will be treated differently


Steps in Process Costing

1. Summarize the flow of physical units of output.

2. Compute output in terms of equivalent units.

3. Summarize total costs to account for.

4. Compute cost per equivalent unit.

5. Assign total costs to units completed and to units in ending work in process.


Process Costing Details

Assume the company has no beginning WIP inventory


Process Costing Details, cont’d


Process Costing Details, cont’d


Inventory Methods in Process Costing1. Weighted-average process-costing method calculates the equivalent-

unit cost of all the work done to date (regardless of the accounting period in which it was done), assigns this cost to equivalent units completed and transferred out of the process, and to equivalent units in ending work-in-process inventory.

2. FIFO computations assign the cost of the previous accounting period’s equivalent units in beginning work-in-process inventory to the first units completed and transferred out of the process and assign the cost of equivalent units worked on during the current period first to complete beginning inventory, next to start and complete new units, and finally to units in ending work-in-process inventory.

3. Standard-cost procedures attribute costs based on the budgeted standard for the cost item in question. This avoids the intricacies involved in detailed tracking with weighted-average or FIFO methods when there are frequent price variations over time.


Job Costing

• Job costing assigns direct costs to the production of a unique unit of work based on consumption, then allocates the indirect costs using one of two basic approaches:• Actual costing: Indirect costs based on the actual indirect-cost rates

times the actual activity consumption.• Normal Costing: Indirect costs based on the budgeted indirect-cost rates

times the actual activity consumption.


Steps in Job Costing

1. Identify the job that is the chosen cost object

2. Identify the direct costs of the job

3. Select the cost-allocation bases to use for allocating indirect costs to the job

4. Identify the indirect costs associated with each cost-allocation base

5. Compute the rate per unit of each cost-allocation base used to allocate indirect costs to the job

6. Compute the indirect costs allocated to the job

7. Compute the total cost of the job by adding all direct and indirect costs assigned to the job.


Job Costing Details

• Journal entries are made at each step of the production process.

• The purpose is to have the accounting system closely reflect the actual state of the business, its inventories, and its production processes.

• All product costs are accumulated in the work-in-process control account.• Direct materials used• Direct labor incurred• Factory overhead allocated or applied

• Actual indirect costs (overhead) are accumulated in the manufacturing overhead control account.


Job Costing Details, cont’d


Job Costing Details, cont’d


Job Costing Requires Subsidiary Ledgers• Subsidiary ledgers keep track of details of a specific job so

management can better control costs

Documents

Management Accounting BA213 Michael Dimond. Michael Dimond School of Business Administration Costing Methods Process Costing Job Costing Activity-based