Manufacturers use different types of costing systems to allocate production costs to their products and services. Two types of common product costing systems are process costing and job-order costing. While each system applies the same production costs to products, there are distinct variances in the application method. Process Costing
oProcess costing applies production costs to products based on the process they go through in the manufacturing process. Each process has a standard amount of overhead, labor and materials that are applied to each batch run the individual manufacturing processes. Reconciliations are used after batches are processed to ensure that all appropriate costs are applied to the manufactured goods. Uses
oProcess costing is primarily used in the production of homogeneous goods through repeated manufacturing processes. Products that use process costing include beverages, food, nails and screws. These items are processed through individual processes where costs are applied to each batch of produced goods. Manufacturers must be careful in streamlining their manufacturing process to ensure that each batch has production costs applied in similar amounts. Job-Order Costing
oJob-order costing is a method where overhead, labor and material are applied to different products, based on how much of each production material is used. Some items may use more labor, while other products may require more raw materials. Costs are applied, based on the cost of each portion of materials used, rather than through the production process used to manufacture the good. Manufacturers who produce several different types of goods will use job-order costing. Uses
oProducts like clothing, repair shops and hospitals all use a form of job-order costing. These companies have readily identifiable raw material costs that can be applied directly to each unit produced or serviced. Labor is also identifiable to each product because of the differences in the products produced. Most companies use job-order costing because of the various products they produce and the different manufacturing processes needed for each product.
oProcess costing is the best costing method when producing large amounts of similar items. Casts are applied at the production process level, creating simple cost allocations for manufacturers. Overhead is applied by each department as the products are moved through the individual production processes. Job-order costing may use several different types of overhead application processes, based on the cost driver of the manufacturer. Cost drivers are selected by accountants as the best way to apply overhead, based on how the products are produced. Number of direct labor hours, machine hours or activities is common cost drivers for job-order costing. Overhead is applied by dividing the amount of overhead by the total number of costs drivers used when producing products. Explanation of Process Costing
Product costing is used to calculate gross profits and to calculate ending inventory values. It is also used for making pricing decisions. Understanding your product cost is essential to understanding if you are making a profit. There are two primary methods used for product costing -- job order costing and process costing.
Why Use Process Costing
oProcess costing is generally used for the continuous production of identical products. As the name implies, it is used when there is an ongoing process of multiple items coming down the line. Materials and labor are added continuously to the production process. Why Not Use Process Costing
oFor all of its benefits, process costing is not always the best choice. Process costing is not the preferred costing method for customized products or services or for items produced in a single batch. These items are not produced continuously and are not identical in nature. Job order costing is a better fit for these...