Factory costing method: definition; characteristics, steps, advantages and disadvantages and examples

1.1 Introduction

Definition: Factory job costing is a type of job costing approach which entails undertaking a client’s assignment or job in a factory or workshop such as garage repair and maintenance of motor vehicle or machinery and printing assignment. In this case, the job is allocated a job number. This costing applies more so on small cost units.

Characteristics of factory job costing method

1. The assignment is undertaken from a factory building or workshop.
2. Each job is assigned a job number for identification purposes.
3. Job is prepared or produced as per the request or specifications of the client.
4. The delivery value of the product is cost of production plus a certain percent of the cost value as profit margin.
5. Overhead Absorption Rate (OAR) is used to apportion the indirect costs.

Steps of factory costing method

There are several steps or stages to follow if one has to do proper costing using this technique. That is;

Step-1: During production

Charge direct cost to the job-in this step, the producer or manufacturer will accumulate all the directly associated economic resources to that specific job.

Step 2: Apportionment of overheads

An appropriate overhead absorption rate is selected to act as the base for apportioning a share of these cost to each cost Centre.

Step 3: Transfer of finished goods to store

The complete products are transferred to the stores at factory cost.

Step 4: Delivery of the finished goods

The completed goods are dispatched to the end users from the stores and a portion of the administration, selling and distribution overheads is added to the final product.

Step 5: Profitability determination

The producer determines the profit level of the product by getting the difference between the selling or delivery price and total cost.

Example

Flyover co ltd. is a structural engineering company that deals with leather treatment processes. The company has three sections 1, 2 and 3.

Section-1: material preparation

Section 2: purifying

Section 3: branding

The budgeted direct labor hours for these three sections are 20,000 hours; 30,000 hours and 25,000 hours in that order. Fixed overhead factory costs are budgeted at $450,000 per annum. While, variable overhead costs were as indicated below;

Administration and selling overheads are to be absorbed by adding 10% of all other costs. Profit is charged at 25% of the total costs.

Required

Prepare total cost estimation for job number KK-10

Advantages of factory costing method

1). Factory job costing is applicable where the assignment/job is a small one as compared to the contract one.

2). Factory job costing is applicable when the management want to control processes. This is because the absorption rate of overheads can give us a starting point of comparing the current cost of a job with future outputs.

3).Simple to compute. The cost per job for the procedure are simple to follow.

4).possible to determine the profit for the job for the profit margins are always predetermined as early as possible.

5). Increase management efficiency and responsibility for every job in the factory is assigned a number which is managed by a line manager.

6.) Full utilization of economic resources for the past finished factory jobs can provide historical data to guide similar production.

Disadvantages of factory costing method

1). Use of inappropriate absorption rate may result to misleading outcome.

2). Costly to maintain such factory jobs especially when the jobs are several. This is because each job requires serious attention so as to meet the client’s specifications.