Job Order Costing and Process Costing

This unit pertains to job-order and process costing. Companies can be divided into two major types,
depending on whether or not their products/services are unique. Manufacturing and service firms
producing unique product or services require a job-order accounting system. On the other hand, those
firms producing simiar products or services can use a process-costing accounting system. !n a job-order
costing system, the cost of one job differs from the cost of another and must be accounted and
accumuated by job. "hereas with a process-costing system, a jobs are simiar and are accounted and
accumuated by department.
!n job-order costing, it is imperative the company has an idea of the cost that wi be invoved with the
production of the products/services for a their potentia jobs. "hie the cost associated with materias
and abor is reativey easy to account for, the cost associated with overhead can be chaenging. This is
because overhead incudes a the cost not reated to abor, materias, and/or administration costs. #ince
overhead is difficut to account for, a prediction is made caed predetermined overhead. The
predetermined overhead is based off estimates for the coming year. $y utii%ing the predetermined
overhead, companies are abe to have a rough figure to incude in their job-order costs.
There are times with process costing where the production of a product/service wi span mutipe
accounting periods. "hen this happens, there is a need to estimate the amount of ending wor& in process.
This theory utii%es the concept of equivaent units of output, which are the competed units that coud
have been produced given the tota amount of manufacturing effort e'pended for the accounting period.
Process Costing Overview
Process costing is used in situations where job costing cannot be used( that is, for the mass production of
simiar products, where the costs associated with individua units of output cannot be differentiated from
each other. !n other words, the cost of each product produced is assumed to be the same as the cost of
every other product.
)'ampes of the industries where this type of production occurs incude oi refining, food production, and
chemica processing. *or e'ampe, how woud you determine the precise cost required to create one
gaon of aviation fue, when thousands of gaons of the same fue are gushing out of a refinery every
hour+ The cost accounting methodoogy used for this scenario is process costing.
Example of Process Cost Accounting
,s a process costing e'ampe, ,$C !nternationa produces purpe widgets, which require processing
through mutipe production departments. The first department in the process is the casting department,
where the widgets are initiay created. -uring the month of March, the casting department incurs
./0,000 of direct materia costs and .120,000 of conversion costs 3comprised of direct abor and factory
overhead4. The department processes 10,000 widgets during March, so this means that the per unit cost of
the widgets passing through the casting department during that time period is ./.00 for direct materias
and .12.00 for conversion costs. The widgets then move to the trimming department for further wor&, and
these per-unit costs wi be carried aong with the widgets into that department, where additiona costs
wi be added.
Types of Process Costing
1. Weighted average costs. This version assumes that a costs, whether from a preceding period or
the current one, are umped together and assigned to produced units. !t is the simpest version to
cacuate.
2. Standard costs. This version is based on standard costs. !ts cacuation is simiar to weighted
average costing, but standard costs are assigned to production units, rather than actua costs( after
tota costs are accumuated based on standard costs, these totas are compared to actua
accumuated costs, and the difference is charged to a variance account.
The different cacuations are required for different cost accounting needs. The weighted average method
is used in situations where there is no standard costing system, or where the fuctuations in costs from
period to period are so sight that the management team has no need for the sight improvement in costing
accuracy. ,ternativey, process costing that is based on standard costs is required for costing systems
that use standard costs. !t is aso usefu in situations where companies manufacture such a broad mi' of
products that they have difficuty accuratey assigning actua costs to each type of product( under the
other process costing methodoogies, which both use actua costs, there is a strong chance that costs for
different products wi become mi'ed together.
Cost Flow in Process Costing
The typica manner in which costs fow in process costing is that direct materia costs are added at the
beginning of the process, whie a other costs 3both direct abor and overhead4 are graduay added over
the course of the production process. *or e'ampe, in a food processing operation, the direct materia is
added at the beginning of the operation, and then various rendering operations graduay convert the
direct materia into finished products. 5rocess costing is a method of aocating manufacturing cost to
products to determine an average cost per unit. !t is used by companies which mass produce identica or
simiar products. #ince every unit is essentiay the same, each unit receives the same manufacturing
input as every other unit. 6efineries, paper mis, and food processing companies are e'ampes of
businesses which use process costing.
, compication arising in process costing is that not a units may be competed at the baance sheet date.
To cacuate unit costs, it wi be necessary to compute equivaent units of production. )quivaent units
can be defined as the product of the number of partiay competed units times the percentage competion
of these units. !f there are 700 of partiay competed units at year-end which are 809 compete, then
there are 120 equivaent units. !f say /000 units were competed during the period, the manageria
accountant woud add /000 and 120 to arrive at /120 equivaent units competed during the period. Then
tota department costs for the period 3direct materia, direct abor, and overhead4 woud be divided by the
/120 equivaent units to arrive at cost per unit. )quivaent units can be computed weighted average
method.
There are some important differences between job order and processing costing as described beow.
Job Order Costing Process Costing
)ach job is different , products are identica
Costs are accumuated by job Costs are accumuated by department
Costs are captured on a job cost sheet Costs are accumuated on a department production
report
:nit costs are computed by job :nit costs are computed by department
Advantages & isadvantages of Job Order Costing & Process Costing
;ob order costing can be we suited for contract wor&.
Costing is an accounting technique used to determine the e'act e'penses for materias, abor and
overhead incurred in operations. ;ob order costing records the actua materias and abor e'penses for
specific jobs, and assigns overhead to jobs at a pre-determined rate. 5rocess costing appies costs to
departments based on the average number of units produced per day. ;ob order and process costing have
unique advantages and disadvantages that ma&e them best suited for specific situations.
Assigning Costs
One advantage of job order costing is that it aows managers to cacuate the profit earned on individua
jobs, heping them to better ascertain whether specific jobs are desirabe to pursue in the future. This is
best for businesses that do highy custom wor&, such as construction contractors and consutants. ,n
advantage of process costing is that it aows managers to get detaied information on the production
statistics of individua departments or wor&groups. This is best suited for continuous manufacturing
settings, such as factories and utiity companies.
!ecord "eeping
, disadvantage of job order costing is that empoyees are required to trac& a materias and abor used
during the job. 5rocess costing simpifies record &eeping by reying on statistica cacuations rather than
actua inputs. ,s an e'ampe, consider a construction contractor using a job order costing system. The
contractor has to &eep trac& of a the wood, nais, screws, eectrica fi'tures, paint and other materias
used on the job, as we as trac&ing wor&ers< unch brea&s and hours wor&ed. !n a factory setting, on the
other hand, materias are cacuated using an average of units produced, and saaries e'penses are often
reativey consistent between pay periods.
!eporting
;ob order costing gives managers the advantage of being abe to &eep trac& of individuas< and teams<
performance in terms of cost-contro, efficiency and productivity. 5rocess costing, on the other hand,
gives managers the advantage of being abe to ascertain the same quaities in entire departments and
compare performance over time.
#nit Cost Calculation
;ob order and process costing are adequate to determine the average cost of each unit produced.
,ccording to mdc.edu, the formua for unit cost cacuation in a job order costing system is= :nit Cost >
Tota ;ob Cost / ?umber of :nits 5roduced in ;ob !n many cases, such as the construction contractor
e'ampe, ony one unit is technicay being produced per job. The formua for unit cost cacuation in a
process cost system is= :nit Cost > -epartment<s 5eriodic Cost / ?umber of :nits 5roduced in the 5eriod
:nit cost considerations are generay more reevant in situations suited for process costing.