Blog 5
Process Costing
Sandy Hood
This is the fifth of a series of blogs looking at Costs and Revenues (ECR). This
continues the detailed look at section 1 of the two sections. This relates to the
cost information for stocks that are part-finished goods. It also links to the
knowledge and understanding that require the recording of cost data in the
accounting records and calculation of product costs. Process costing systems are
identified as one of three types of systems that could be used by an organisation,
and as such the whole exam could be set in a process costing environment.
It is important to be aware that two types of questions are likely to be set on
process costing:
1. Process accounts which require the calculation of normal loss and
abnormal loss or gain. These will include accounting for scrap sales.
These questions will not include a closing work-in-progress valuation
(C WIP).
2. Process accounts where there is a need for the calculation of the unit
cost of products that have been completed and can be transferred to
the next process or to finished goods. These questions will not
include opening work in progress or process losses but will require a
calculation of the closing work-in-progress valuation (C WIP).
Paper based exams have featured questions with normal losses and abnormal
losses/gains. An exam question could test a full value of work in progress or just
the cost of the labour element.
It is worth highlighting that Costing and Management Accounting textbooks often
cover process costing, but that the example questions will often incorporate both
the types that can be tested in a single question. As these are more complex than
the Costs and Revenues exam, they are not good practice questions for this unit.
As the topic is tested in two ways, this blog has two sections one for each type of
question.
Normal loss and abnormal loss or gain type questions
Very often it is tricky for students to understand these sorts of questions and they
are tempted to revert to learning the numerical steps without seeing how the
business is operating.
Mass production settings suit process costing where there are lots of the same
product being produced going through one process after another.
On YouTube there are several films about chocolate making which I hope will help
anyone who can’t visualise a series of processes in the production of a product,
will look at.
I will use domestic cooking as my example, and although I use roast beef as my
example the same principles apply to most foods.
I know that a 1.5 kg joint of raw beef will shrink during cooking, and weigh less
when I take it out of the oven. That inevitable reduction is a normal loss.
Experience tends to suggest that 1.5 kg of raw meat will weigh 1.2 kg after
cooking. This is a normal loss of 20% or 0.3 kg.
If we use this normal loss rate of 20% we can apply it to any joint of beef (or joints
of beef if we are imagining beef roasting as a continuous process).
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Blog 5
Process Costing
Sandy Hood
So, if 150 kg are cooked we would have a normal loss of 20% or 30 kg and expect
the output to be 120 kg. If the actual output were to weigh:
 115 kg we would have 5 kg more loss than we consider normal – an
abnormal loss
 123 kg we would have 3 kg more output than expected – an abnormal gain
In the case of domestic cooking a lot of the loss is evaporation, so nothing of any
value remains that can be sold. Commercial mass producers of roast beef may well
sell the fat that has dropped off the beef as “dripping”. Beer and cake
manufacturers can sell their “losses” as cattle feed. All of this income is referred
to as “scrap value”.
How should we answer the sort of question we might be given?
1. First enter the physical amounts onto the T-account. Typically there will be
enough data provided to be able to enter the material input, the amount of
normal loss and the actual output. It is tempting to want to add the values,
but at this stage they would not help.
2. Balance the inputs and outputs.
 If they are equal, there will be no abnormal loss or abnormal gain.
 If the inputs are more than the output+ the normal loss there was an
abnormal loss.
 If the inputs are less than the output + the normal loss, there was an
abnormal gain.
3. Find the scrap value of the normal loss (if any). This is usually spelt out in
the data. Enter it in the value column as a credit. Then add all the other
known values, for example value of materials, labour and overhead.
4. You should then have a part finished process account, with the input costs
and the scrap value of normal loss entered, but no values for output or
abnormal gain/loss. At this point carry out a calculation of the expected
output. This is the input material units less the normal loss. (In the 1.5 kg of
beef example where we lose 20% in the cooking process, the expected
output is 1.5 kg – (normal loss of 0.3 kg) = 1.2 kg
5. Now work out the cost per unit of output:
Total input cost – scrap value of normal loss
Expected output (units)
6. Enter this value in the cost per unit column on the credit side, and value the
output (units actually produced x cost per unit). Then value the abnormal
loss/gain using the same cost per unit.
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