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It's the classic "either/or" proposition in manufacturing settings, where assembly practices generally follow one of two tracks: job or process. The difference between the two is the ability to trace input costs to finished goods. A manufacturing process that requires specific amounts of raw materials and labor to complete a unit is the job method.With job costing, the amount of raw materials and labor placed into production can be traced or specifically identified to the finished good.
A process method, on the other hand, involves the manufacture of large or mass quantities of identical units and is more complex because specific amounts of raw materials and labor can't be traced to finished goods. In a process manufacturing environment, raw materials, labor, and overhead placed into production need to be allocated to inventory. Given the difference in the ability to trace input costs of these two methods, the valuations of work-in-process and finished goods inventories differ significantly.
The topic of process costing as often presented in textbooks is simplified and doesn't reflect industry practice. The primary difference is the textbook assumption that actual costs incurred each month are reflected in valuing inventory and cost of goods sold. In practice, predetermined standard costs-not actual ones-are used. Valuation and costing are important aspects when discussing standards. But potentially the most significant use for standards is as a strategic cost management tool, an approach that's either ignored or limited to a description in most textbooks. Thus, many management accountants are untrained or unaware of the many potential uses of standards as a management tool.
To clarify how process costing is done in industry and how the use of standards can facilitate strategic cost management, we conducted interviews with managers at three consumer packaged goods manufacturers. The homogeneous nature of the packaged goods industry provides an ideal application of process costing. To provide a balanced perspective, we selected three companies varied in size and complexity: a large multibillion-dollar company, a $500 million company, and a small company. All of them use process costing and standards-in a manner ranging from straightforward to complex-to help them manage their business profitably.
Theory of Process Costing
Process costing is defined as an accounting methodology that tracks the production of large quantities of identical units....