The Determination of cost involves allocating and accumulating costs at each stage or department within the production process. The costs incurred are assigned to units of output, allowing for the calculation of the average cost per unit.
Identify Cost Components:
First, identify the different cost components associated with the production process. These typically include direct materials, direct labor, and manufacturing overhead. Direct materials are the materials specifically used in the production process, direct labor refers to the labor directly involved in the production, and manufacturing overhead comprises indirect costs related to the production process (e.g., rent, utilities, depreciation).
Allocate Costs to Each Department:
Allocate the costs incurred for each cost component to the respective department or stage within the production process. This allocation is based on the resources consumed by each department. For example, direct materials used in a specific department are assigned to that department’s costs.
Accumulate Costs:
Accumulate the costs within each department. This involves tracking and recording the costs incurred for direct materials, direct labor, and manufacturing overhead. The costs can be accumulated either in a cost ledger or a cost accounting system.
Determine Equivalent Units:
In process costing, the concept of equivalent units is used to account for partially completed units in a department. Equivalent units represent the portion of a unit that is completed in terms of both physical completion and the cost incurred. Calculate the equivalent units for each cost component in each department.
Calculate Cost per Equivalent Unit:
To determine the cost per equivalent unit, divide the accumulated costs for each cost component within a department by the equivalent units calculated for that component. This gives you the average cost per equivalent unit for each cost component in the department.
Compute Total Costs:
Multiply the cost per equivalent unit by the total number of equivalent units for each cost component to obtain the total costs incurred in each department. This provides the department’s total cost for direct materials, direct labor, and manufacturing overhead.
Reconcile Costs:
If there is more than one department in the production process, you need to reconcile the costs between departments. The output of one department becomes the input for the next department, and the costs associated with the input need to be transferred and included in the costs of the subsequent department.
Calculate Total Cost of Production:
Sum up the costs from all departments to determine the total cost of production. This represents the total cost incurred for the entire production process.
Calculate Average Cost per Unit:
To determine the average cost per unit, divide the total cost of production by the total number of units produced. This provides the average cost per unit for the entire production process.
Example:
ABC Manufacturing Company produces widgets through a three-stage production process: Mixing, Shaping, and Packaging. The following information is available for the month of January:
Mixing Department:
Direct materials cost: $20,000
Direct labor cost: $12,000
Manufacturing overhead cost: $8,000
Equivalent units of production: 5,000 widgets
Shaping Department:
Direct materials cost: $15,000
Direct labor cost: $10,000
Manufacturing overhead cost: $7,500
Equivalent units of production: 4,500 widgets
Packaging Department:
Direct materials cost: $10,000
Direct labor cost: $8,000
Manufacturing overhead cost: $6,000
Equivalent units of production: 4,000 widgets
Now, let’s determine the cost per equivalent unit and the total costs for each department:
Mixing Department:
Cost per equivalent unit:
Direct materials: $20,000 / 5,000 = $4 per unit
Direct labor: $12,000 / 5,000 = $2.40 per unit
Manufacturing overhead: $8,000 / 5,000 = $1.60 per unit
Total costs:
Direct materials: $4 per unit x 5,000 units = $20,000
Direct labor: $2.40 per unit x 5,000 units = $12,000
Manufacturing overhead: $1.60 per unit x 5,000 units = $8,000
Shaping Department:
Cost per equivalent unit:
Direct materials: $15,000 / 4,500 = $3.33 per unit
Direct labor: $10,000 / 4,500 = $2.22 per unit
Manufacturing overhead: $7,500 / 4,500 = $1.67 per unit
Total costs:
Direct materials: $3.33 per unit x 4,500 units = $15,000
Direct labor: $2.22 per unit x 4,500 units = $10,000
Manufacturing overhead: $1.67 per unit x 4,500 units = $7,500
Packaging Department:
Cost per equivalent unit:
Direct materials: $10,000 / 4,000 = $2.50 per unit
Direct labor: $8,000 / 4,000 = $2 per unit
Manufacturing overhead: $6,000 / 4,000 = $1.50 per unit
Total costs:
Direct materials: $2.50 per unit x 4,000 units = $10,000
Direct labor: $2 per unit x 4,000 units = $8,000
Manufacturing overhead: $1.50 per unit x 4,000 units = $6,000
To determine the total cost of production, we sum up the costs from all departments:
Total Cost of Production:
= Total costs in Mixing Department + Total costs in Shaping Department + Total costs in Packaging Department
= ($20,000 + $12,000 + $8,000) + ($15,000 + $10,000 + $7,500) + ($10,000 + $8,000 + $6,000)
= $40,000 + $32,500 + $24,000
= $96,500
Assuming the total number of widgets produced in the month is 4,000 units, we can calculate the average cost per unit:
Average Cost per Unit = Total Cost of Production / Total Number of Units
= $96,500 / 4,000 units
= $24.125 per unit
Therefore, the average cost per unit for the widgets produced in the month of January is $24.125.
Please note that this is a simplified example, and in practice, process costing calculations may involve additional cost components, such as indirect materials and indirect labor. The level of detail and complexity of the calculations may vary depending on the specific requirements of the production process.