The process is a series of stages that must be followed in order to finish a given task. The method of preserving cost records for each procedure is referred to as costing. It refers to the approach of cost accounting in which expenses are accrued for all processes that are interdependent.
After going through a series of processes, raw materials are transformed into final commodities in manufacturing companies that employ process pricing. In the case of cotton textiles, for instance, the first step may be spinning, the second process could be weaving, and the last phase could be completed.
Charter Institute of Management Accountants (CIMA), London defines “process costing is that form of operating costing where standardized goods are produced.”
Process costing is the ideal costing approach when identical items are manufactured using a standardised process and the direct material, direct labour, and manufacturing overhead cannot be tracked back to a given unit economically or readily. The use of process costing is particularly prevalent in batch production. Each department, production process, and batch process keeps track of their direct material and direct labour costs, as well as the number of units produced.
The actual cost to produce each unit using a process costing system varies, but the average result provides a sufficient estimate of the unit cost. Examples of commodities that could be manufactured and accounted for using a form of the process costing method include soft drinks, petroleum products, and even chairs, given that the company does not customise its end products for particular consumers.
Process costing is mostly utilised by manufacturers. This method of costing is utilised by the textile, biscuit, cement, paper, and oil refining sectors, among others. As indicated in the accompanying diagram, the output of the first process becomes the input of the second process, and so on.
Pros of Process Costing
a. It is straightforward and inexpensive to determine the cost of each activity.
b. It is simple to allocate expenses to processes for precise costing.
c. Production activity is standardised in process costing. Consequently, management control and monitoring are simplified.
d. The goods in process costing are homogenous. As a consequence, costs per unit may be readily determined by averaging the overall cost, and quoting prices are simplified.
e. It is feasible to estimate periodic process costs using short integrals.
Cons of Process Costing
a. The cost collected at the conclusion of the accounting period is of historical character and serves little purpose for management control.
b. Since process cost is the average cost, it may not be an accurate metric for analysing, evaluating, and controlling the performance of different departments.
c. Once an error occurs in one process, it propagates to succeeding processes.
d. Process costing does not assess the productivity of individual employees or supervisors.
e. When several types of a product are created, it is difficult to calculate the average cost.