Discussion Question 2
Process costing is a costing method that identify the total cost of production which is identical
produced in large a quantity through a various steps. Under process costing, cost of every
product produced are assumed to be same as cost of other. It is calculated by dividing the
production cost by the production unit for the certain period of time.
In a process operation, each process is a separate production department, workstation, or
a work center. Each process applies direct labor, overhead, and, perhaps, direct materials
to move the product toward completion. The final process or department in the series
finishes the goods and make them ready for sale. (Wild et al., 2019)
Process costing use absorption costing system while making income statement. Process costing
income statement deals with detailed information regarding manufacturing cost of finished goods
and work in process according the department during the various steps.
Hypothetical example,
ABC Company produce a table and ask to determine unit product cost by the given information
and prepare income statement under process costing for December 2020.
Sales units 12000 unit @$200,Direct material 10000 unit @60, Direct labor 10000 unit @20,
Rent $50000, Insurance$10000, Depreciation$15000.
Raw material for 1st January 2020 and 31st December 2020 are 2000units and 3000 units
respectively.
Finished goods for 1st January 2020 and 31st December 2020 are 5000units and 3000 units
respectively.
WIP for 1st January 2020 is $ 5000 and 31st December 2020 is $3000.
Here,
Sales revenue = 12,000*200 Direct labor = 10,000*20
= $2,400,000 = $200,000
Direct material = 10,000*60
= $600,000
Now, calculating cost of goods manufactured
Amoun
Particulars t ($)
Direct material 600,000
Direct labor 200,000
Add: opening stock of direct material 2000
unit @60 120,000
Less: closing stock of direct material
3000unit@60 180,000
COGS before WIP 740,000
Add: opening WIP 5,000
Less: closing WIP 3,000
COGS after WIP 742,000
Now,
Product cost per unit = Total production cost/ production unit
= 742,000/10,000
= 74.2
Again, schedule of COGS
Particulars Amount ($)
Opening stock of finished goods (5000*74.2) 371,000
Add: manufacturing during 2020 (10000*74.2) 742,000
Less: closing stock (3000 *74.2) 222,600
COGS of 12000 units 890,400
Preparing income statement
Particulars Amount ($)
Sales revenue 2,400,000
Less: COGS 890,400
Gross profit 1,509,600
Less: operating cost
Rent 50,000
Insurance 10,000
Depreciation 15,000
Net profit 1,454,600
The income statement of ABC Company shows the net profit of $ 1,454,600 after adjusting
COGS and other operating cost. While calculating COGS opening stock of materials and work in
process is added and the stock and work in process that are remained are deducted. We
calculated the product cost per unit by dividing total product cost (COGS after WIP) and unit.
Therefore, we calculate the actual COGS after adjusting the stock of finished goods at the rate
we get from product cost per unit.
Conclusion
The process costing income statement helps to evaluate the cost of each process and stocks of
every process.
Variable costing is a costing method where only variable costs are treated as product cost. All
overhead costs are charged to expense in the incurred period, while direct material, labor and
variable overhead costs are determined according to stock. “The concept of Variable Costing
considers only the costs of direct materials, direct labor and variable factory overhead to be
product costs. Fixed factory overhead under Variable Costing is not included in inventory. The
concept of Variable Costing considers fixed factory overhead to be a period cost.” (Hasan &
M.S, 2016) Variable costing income statement deals with the percentage of expenses which are
directly proportional to revenue. All variable expenses are deducted from revenue and then all
fixed expenses are deducted to get net profit or loss.
Hypothetical example,
ABC Company has Direct labor $8000, Direct material $10,000, Variable overhead $5000,
Commission $3000, Insurance premium $5000, Rent $10,000, Salary $15,000, Depreciation
$5000, Sales 10,000 unit @$10 for the month of December 2020.
Here,
Calculating sales revenue = 10000*10
= $100,000
ABC Company
Income statement under variable costing for December 2020
Particulars Amount ($) Amount($
)
Sales revenue 100,000
less: variable cost
Direct material 10,000
Direct labor 8,000
Variable overhead 5,000
Commission 3,000 (26,000)
Contribution Margin 74,000
less: Fixed cost
Insurance premium 5,000
Rent 10,000
Salary 15,000
Depreciation 5,000 (35,000)
Net profit 39,000
The income statement of ABC Company is prepared for the month of December 2020 under
variable costing method. Here, direct material, direct labor, variable overhead, commission are
deducted from sales revenue as they are considered as product cost. We get contribution margin
of $74,000 after deducting all variable expenses from sales revenue$100,000.Then, all Fixed cost
$35,000 (insurance premium, rent, salary, depreciation) are later deducted to get net profit of
$39000. We can see the production cost is lesser than the fixed cost so we can relocate ABC
Company to a cheaper area or reduce employee to increase the profitability. We cannot reduce
the variable cost but we can find a solution to reduce fixed cost.
Conclusion
Variable costing income statement helps in planning and control, managerial decision making
and maintain cash flow in the production process.
References
Wild, J., & Shaw, K. (2019). Financial and managerial accounting: Information for decisions
(8th ed.). New York, NY:McGraw-Hill
Hasan, M. S. (2016). VARIABLE COSTING AND ITS APPLICATIONS IN
MANUFACTURING COMPANY. International Journal of Information, Business and
Management, 8(2), 145-157. Retrieved from https://www.proquest.com/scholarly-
journals/variable-costing-applications-manufacturing/docview/1778467564/se-2?
accountid=158986
