Process costing - What is process costing?
Process costing is a method of assigning manufacturing costs whereby the cost of each unit produced is assumed to be the same for every unit.
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Process costing is most commonly used when goods are mass produced and when the costs linked to individual units cannot be easily distinguished from each other.
Under process costing, costs build up over a fixed period, and are then assigned to all the units produced throughout that time frame.
If goods are manufactured with small-scale production runs or on an individual basis, costs are assigned using job costing. If a production process combines elements of mass manufacturing and customisation, a hybrid costing system is used.
Types of process costing
There are three different kinds of process costing: weighted average costs, standard costs, and First-in First-out (FIFO). There is no Last-in, Last-out (LIFO) method of process costing, as the basic principle of process costing is that the first unit produced is the first unit used.
Weighted average costs
The simplest type of process costing, weighted average costing groups costs together, then assigns these collective costs to the total units produced. The calculation for weighted average costing is simple: cost of goods available for sale ÷ number of units available for sale = cost per unit.
The standard costing approach is similar to weighted average costing. The main different is that standard costs are planned or budgeted costs, rather than actual, realised costs. The expected cost is then compared to actual costs, and the difference is charged to a variance account.
First-in First-out costing
The FIFO costing method is more complex than standard costing or weighted average costings. It is used when there are significant changes between production periods and creates layers of costs to differentiate between units started in the previous production period from units started in the current period.
Process costing vs. job costing
Unlike process costing, job costing assigns expenses to specific jobs or batches of products. The main differences between process costing and job costing include:
- Size of job: process costing is more suited to large-scale production runs than job costing, which is more suited to tracking small production runs with fewer units.
- Type of product: whereas process costing is used for standardised, mass-produced products, job costing is usually used for custom or unique products.
- Billing customers: using job costing, it is possible to bill customers specific costs for commissioned produced. This is less straightforward using process costing, as costs are aggregated.
- Record keeping: Process costing combined costs and therefore requires less recording keeping than job costing, which traces labour, materials, and overhead to specific jobs, batches, or units.