The cost accounting system that an organization chooses to use is determined by many factors. Key among the determining factors is the business the organization carries out. For instance, an organization offering services and having distinct jobs for its workforce will elect to go by the job order costing system of accounting (Shim & Siegel, 2009). On the other hand, an organization dealing in the production of goods, especially identical units, will opt to use the process costing system of accounting. In simple terms, the products of the organization are the determinants of the system since costs relate directly to the products. This is to say that the costs are incurred for the sole purpose of producing the final product. Cost accounting concerns itself with the estimation and appropriation of costs. This paper seeks to explain process costing in the context of the company in which I work.
Process costing is a costing system that is used in large organizations that deal in the production of identical units of goods (Bhar, 2005). Our company deals in the production of automobiles. The automobile production takes place in mass processes that have multiple steps. As such, the process costs are applied according to the number of departments. Our company has six departments that work on various parts of the process of making the finished vehicles. The first department concerns itself with the assembly of the basic parts of the body of the automobiles. This is a process that entails the use of metallic materials, as well as, the employment of highly skilled labor as far as mechanical know-how is concerned. The second part of the process is the assembly and advanced fixing of the engines. The third process or department is concerned with the wiring process. This employs the expertise of electronics experts. The fourth department concerns itself with the spraying of paint. The fifth and the sixth departments are concerned with fixing of internal accessories and fitting of seats respectively.
Proponents of this system argue that it is most appropriate where the products are made in bulk, but sold in small quantities and are identical (Gupta et al, 2010). From the above explanation, it is notable that our company’s products, automobiles are produced in mass numbers, but sold in small quantities; in most cases a unit is sold at a time. Process costing is a method of ascertaining costs and allocating such costs to the various departments and processes. The ultimate aim of the process costing system is to settle on the standard cost per product. The per-unit cost concept is not always accurate as it is subjected to many inconsistencies such as undervaluation and overvaluation. The process costing process allocates such direct costs as the cost of labor, materials and variable overheads to units and departments.
This system traces the movement of raw materials through the various stages of the process. In simple terms, the costs are monitored as the raw materials get transformed into partially finished goods and finally into the consumable finished product. The major problem that our company accountants encounter in the process costing system is the manner in which to handle partially finished products. Such unfinished pieces of work are referred to as work-in-progress. Valuation of the work-in-progress can be subjective since allocating costs to goods that are not complete can be allocated exact amounts of costs. The second drawback of this technique is the fact that it is linked to cost control (Bhar, 2005). Cost control by senior managers may be adverse on the flexibility of the system.
The pros of process costing
Arguably, process costing is the easiest method of ascertaining and allocating costs to the processes, departments and units of a manufacturing concern. The system identifies the nonperforming departments as well as those processes that are not necessary Hansen et al, 2012). This helps the organization save costs and improve efficiency by scraping off the unnecessary and loss-generating departments. All departments, which do not generate a positive contribution, should be done away with since they increase costs without correspondingly affecting the profits or contributions. Similarly, process costing identifies the most efficient departments and cost effective processes. The management then invests more resources into such departments after scrapping off the redundant departments and processes.
The second advantage of this method is that it is flexible. Gurus in the field of accounting have identified this system as one that is capable of manipulation and reasonable adjustment (Mowen, 2011). This is an immensely fundamental characteristic since it determines the pricing needs of the organization. The flexibility of this system can as well be explained by the fact that it enables the organization to do away with redundant activities and departments. Apart from being flexible, the system provides a wide array of financially useful information. Such information can be employed in making such decisions as the make or buy decisions. Decisions concerning the introduction of a new product, so as to maximize the production capacity of a department, are the most difficult investment choices (Dosch & Wilson, 2010). However, if process costing is applied appropriately, it can provide information that can make such decisions simpler.
The cons of process costing systems
Debatably, this system of cost accounting is the one that is most prone to such errors as cost errors. Cost errors are those errors that entail the inclusion of non production costs. The inclusion of such costs translates to unnecessarily high prices on the side of the consumer. Similarly, there is a lofty likelihood that the cost accountants will fail to include production costs. This may cause undervaluation or underestimation of the cost per unit (Bhar, 2005). In turn, there will be chances of undercharging during the pricing process. As such, the organization may fail to recover the costs of production. The second demerit of this system of costing is the fact that handling such things as work-in-progress and equivalent units may be quite an uphill task. It may be subject to inconsistencies and subjectivity since the values attached to equivalent units are mere estimations. This may translate to an exaggerated value of final products.
Process costing information in financial management
Financial management is a branch of business planning that borrows from both economics and accounting. The essence of the discipline is to make long-term financial decisions. In our company, just like in all other companies, financial management concerns itself with the making of long-term decisions of non-routine nature (Shim & Siegel, 2009). The information provided by process costing contributes to the information used in making such decisions. Notably, without the process costing information, removal of non performing departments would not have been possible. This is for the simple reason that it is only the process costing systems that can provide information relevant to the process of identifying the performers and nonperformers (Stelling et al, 2010). It is worth noting that removal of a line of production and introduction of another are examples of financial management decisions.
Recommendations to our cost accounting system
Our cost accounting system is in such a way that it makes absolute decisions. These decisions are those that rely on the results of a single process. For instance, the fact that a department is not performing well does not mean that such a department should be banned. Rather, the organization’s management should seek to understand the impact of such removal on the morale of the employees, as well as, consumers. A line of production or a department handling a process could be considered unnecessary, but removal of such line may have negative impacts on the morale of the employee. In simple terms, our cost accounting system should consider human aspects of the organization.
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