Product Costing

                    Product costing

“A product cost is any cost that is correlated with units of product for a particular purpose and is those which are identified with goods or services intended for sale to customers.” (Caplan, nd) Thus, identification of product costs depends on the purpose for which it is done. For example, “the factory manager is interested in manufacturing costs, whereas the merchandising manager might be interested in both manufacturing and nonmanufacturing costs, including research and development, marketing, and advertising costs.” (Caplan, nd)

Product costs include direct and indirect production costs. (Gowthorpe, 2011)

Different methods of product costing

Absorption costing

“Absorption costing is a method of costing that, in adjunct to direct costs, sends a proportion or all the production overheads to the cost units. Costs are first allocated or apportioned to the cost centres,” where they are absorbed into the cost unit applying one or more overhead absorption rates. (Collis &Hussey, 2007)

Absorption costing stages: 

1. Allocation to cost centres: Identify cost centres according to their function.
2. Apportionment to the cost centres: collect indirect costs in cost centres. 
3. Overhead absorption: Determine an overhead absorption rate for each production cost centre.(total overheads of a production cost centre／level of activity)

(Gowthorpe, 2011)

[pic 1]                 

 Source: Adapted from Weetman, 1999, p. 751.

Example for absorption costing

[pic 2]

Source: Management Accounting:Concepts, Techniques & Controversial Issues, nd

Advantage

1. This method is always used to prepare financial accounts.

2. Absorption costing will show the true profit calculation than variable costing in a situation where production is made to have sales in the future (example: seasonal production and seasonal sales).

3. Absorption costing conforms to accrual and matching accounting concepts which require matching costs with revenue for a particular accounting period.

(Account-Management, 2010)

Disadvantage

1. As the manager’s emphasis is on the total cost, the cost volume profit relationship is ignored. The manager needs to use his perception to make the decision.

2. As absorption costing emphasized on total cost explicitly both variable and fixed, it is not so useful for management to use to make decision, planning and control.

 (Account-Management, 2010)

Activity-Based Costing

“ABC is a method of costing in which overheads are assigned activities and cost drivers are used to attach the activity cost pools to the cost units. An activity cost pool is a collection of all the elements of cost associated with an activity”. (Collis &Hussey, 2007)