JOB ORDER COSTING AND PROCESS COSTING

The Concept of Order Costing This is a situation where expenses are linked
to the cost of products or services ordered from the supplier. The ordering
expenses are to be fully accounted for in the course of costing the product or
service. Examples of ordering items are job, contract, or batch. Thus, job
costing, contract costing and batch costing are specific order costing methods.
Order costing is a technique used by organizations which produce specific jobs,
batches, contracts or orders that can be identified throughout the various
stages of production. A job cost system, therefore, enables an organization to
determine the total cost incurred in the course of performing a job. The
system is normally used by organizations that are involved in construction
(bridge, road, etc), building (of houses, offices, etc.), machine tool
manufacturing, printing (of books, journals, newsletters, etc), and general
engineering where each product is produced to the satisfaction of the
customer.
Order costing is also widely used for costing of batches of similar articles
such as shoes, bags, shirts, etc. Order costing is a basic costing procedure
which may be used in conjunction with other costing techniques. The main
purpose of order is to determine the profit or loss realized on each order.
This means that total cost per order has to be estimated as accurately as
possible for a good price to be charged on the order, if the organization is to
make reasonable profit. Order costing assists organizations (in the private
or public sectors) to distinguish between profitable orders and unprofitable
orders and to make comparison with past estimates in order to assess
productivity and profitability levels.
The technique is also used as a basis of pricing government‟s contracts and
other contracts, where “cost plus” basis (that is at a price based on an
agreed cost plus agreed target profit) of pricing is in use.

Distinction between Process and Order Costing Order costing and process
costing are two extreme systems of product costing. The distinction between the
two centers mainly on how product costing is accomplished. Unlike process
costing, which deals with broad averages and great masses of like units, the
essential feature of order costing is the attempt to apply costs to specific jobs,
batches or contracts, which may consist of either a single physical unit or a few
like units.
The most important point is that product costing is an averaging process. The
unit cost used for products is the result of taking some accumulated cost that
has been allocated to production departments and dividing it by some level of
production (activity). The basic distinction between order costing and process
costing is the size of the denominator. For order costing, the denominator is
small (for example, one bridge constructed or one hundred copies of a book,
etc.). For process costing, the denominator is large (for example, thousands of
litres of kerosene, thousands of bags of cement, etc.).
As indicated earlier, order costing is used in industries like construction,
printing, furniture-making, aircraft, machinery, shoe-making, etc, where tailor-
made or unique goods are produced. Process costing, is mostly found in such
industries as chemicals, oil, textile, plastic, paints, flour milling, canneries,
rubber, food processing, glass-making, mining, cement, meat processing, etc,
where there is mass production of like units which usually pass in continuous
fashion, through a series of uniform production steps called processes.
Job Order Costing Procedure Costing a job, batches of product, or contract,
involves aggregation of all the cost elements necessary for the final product.
For factory working process, adequate production control records must be
maintained. Each job must be given an order number which must be cited or
identified at all stages of production. Where an order for a very large quantity
of output is placed, it should be divided into separate batches so that job
costing can be made without waiting for the completion of the whole work. The
batches are then to be numbered along the line of the number given to the
large quantity order. For example, where the order number is 30, the separate
batches of the job could be 30.1, 30.2, 30.3, etc for distinction purpose.
Each order is to be put into production control records and a job cost sheet or
job Ledger Account prepared. On this account will be recorded the cost of
material used, the wages paid to labour and the machine time taken. The
departmental general overhead cost is to be apportioned for absorption by
each of the jobs, batches or contracts performed by the department.

Meaning of Process Costing

Process Costing is a method of costing used in industries where the
material has, to pass through two or more processes for being converted
into a final product. It is defined as “a method of Cost Accounting whereby
costs are charged to processes or operations and averaged over units
produced”. A separate account for each process is opened and all
expenditure pertaining to a process is charged to that process account.
Such type of costing method is useful in the manufacturing of products like
steel, paper, medicines
soap, chemicals, rubber, vegetable oil, paints, varnish etc. where the
production rocess is continuous and the output of one process becomes the
input of the following process till completion

Industries, where process costing can be applied, have normally one or

more of the following features:
1. Each plant or factory is divided into a number of processes, cost centres
or departments, and each such division is a stage of production or a
process.
2. Manufacturing activity is carried on continuously by means of one or
more process run sequentially,selectively or parallel.
3. The output of one process becomes the input of another process.
4. The end product usually is of like units not distinguishable from one
another.
5. It is not possible to trace the identity of any particular lot of output to any
lot of input materials. For example, in the sugar industry, it is impossible to
trace any lot of sugar bags to a particular lot of sugarcane fed or vs. versa.
6. Production of a product may give rise to Joint and/or By-Products

The Cost of each process comprises the cost of;

(i) Materials
(ii) Labour
(iii) Direct expenses,
(iv) Overheads of production.
(i) Materials: Materials and supplies which are required for each process
are drawn against material requisitions from stores. Each process for which
the above drawn materials will be used should be debited with the cost of
materials consumed on the basis of the information received from the Cost
Accounting department. The finished product of first process generally
become the raw materials of second process; under such a situation the
account of second process, be debited with the cost of transfer from the
first process and the cost of any additional material required under this
second process.
(ii) Labour: Each process account should be debited with the labour cost
or wages paid to labour for carrying out the processing activities.
Sometimes the wages paid are apportioned over the different processes
after selecting appropriate basis.
(iii) Direct Expenses: Each process account should be debited with direct
expenses like depreciation, repairs, maintenance, insurance etc. associated
with it.
(iv) Overheads Related to Production: Expenses like rent, power
expenses, lighting bills, gas and water bills etc. are known as production
overheads. These expenses cannot be allocated to a
process. The suitable way-out to recover them is to apportion them over
different processes by using suitable basis. Usually, these expenses are
estimated in advance and the processes debited with these expenses on a
pre-determined basis.
Illustration - 1:
From the following data, prepare process accounts indicating the cost of
each process and the total cost.
The total units that pass through each process were 240 for the period.
Process A Process B Process C
Ksh. Ksh. Ksh.
Materials 1,500 500 200
Labour 800 2,000 600
Other expenses 260 720 250
Indirect expenses amounting to Ksh. 850 may be apportioned on the
basis of wages. There was no opening or closing stock.
Treatment of Normal Process Loss, Abnormal Process Loss
and Abnormal
Gain
Loss of material is inherent during processing operation. The loss of
material under different processes arises due to reasons like evaporation or
a change in the moisture content etc. Process loss is defined as the loss of
material arising during the course of a processing operation and is equal to
the difference between the input quantity of the material and its output.
There are two types of material losses viz. (i) Normal loss and (ii) Abnormal
loss,
(i) Normal Process Loss: It is defined as the loss of material which is
inherent in the nature of work.
Such a loss can be reasonably anticipated from the nature of the material,
nature of operation, the experience and technical data. It is unavoidable
because of nature of the material or the process. It also includes units
withdrawn from the process for test or sampling.
Treatment in Cost Accounts: The cost of normal process loss in practice
is absorbed by good units produced under the process. The amount realised
by the sale of normal process loss units should be credited to the process
account.
(ii) Abnormal Process Loss: It is defined as the loss in excess of the pre-
determined loss (Normal process loss). This type of loss may occur due to
the carelessness of workers, a bad plant design or operation, Sabotage etc.
Such a loss cannot obviously be estimated in advance. But it can be kept
under control by taking suitable measures.
Treatment in Cost Accounts: The cost of an abnormal process loss unit is
equal to the cost of a good unit. The total cost of abnormal process loss is
credited to the process account from which it arise. Cost of abnormal
process loss is not treated as a part of the cost of the product. In fact, the
total cost of abnormal process loss is debited to costing profit and loss
account.
(iii) Abnormal Gain: Sometimes, loss under a process is less than the
anticipated normal figure. In other words, the actual production exceeds the
expected figures. Under such a situation the difference between actual and
expected loss and actual and expected production is known as abnormal
gain. So abnormal gain may be defined as unexpected gain in production
under normal conditions.
Treatment in Cost Accounts: The process account under which abnormal
gain arises is debited with the abnormal gain and credited to abnormal gain
account which will be closed by transferring to the Costing Profit and loss
account. The cost of abnormal gain is computed on the basis of normal
production.

Illustration
A product passes through three processes. The output of each process is
treated as the raw material of the next process to which it is transferred
and output of the third process is transferred to finished stock.
1st Process 2nd Process 3rd
Process
Rs. Rs. Rs.
Material issued 40,000 20,000 10,000
Labour 6,000 4,000 1,000
Manufacturing overhead 10,000 10,000 15,000

10,000 units have been issued to the 1st process and after processing, the
output of each process is as under:
Output Normal Loss
Process No. 1 9,750 units 2%
Process No. 2 9,400 units 5%
Process No. 3 8,000 units 10%
No stock of materials or of work-in-progress was left at the end. Calculate
the cost of the finished articles.
The Concept of Joint Products
At the end of the processing activities, only one type of product would result
from the processed raw material. However, it is not always that we have only
one type of product from a processing operation. It is possible for a single raw
material to yield two or more products simultaneously when processed. Such
products are known as Joint Products. For example, when crude oil (a single
raw material) is processed or refined, petrol, kerosene, gas, etc, could be
obtained from it.
Accounting Treatment of By- products A by-product is a secondary product
arising as a result of a processing activity aimed at producing a certain main
product. The market value of a by-product less the processing cost after the
split off point is usually negligible, compared to the total market value of all the
joint products or the market value of the main product eg molasses in sugar
processing