Product costing methods
Businesses of all shapes and sizes aim to produce high-quality products that meet customer needs while ensuring profitability. In this quest for success, product costing plays a vital role. It helps determine the cost of goods sold, which eventually determines the price of a product. While there are various types of product costing, we will delve into the four main categories that businesses typically use to categorize their expenses.
Job costing is used to calculate the cost of producing a specific product or service. This method takes into account the labor, material, and overhead costs associated with the job. It’s commonly used in industries such as construction, where each project is unique and requires custom pricing.
Process costing is used to calculate the cost of producing a large number of identical products. This method is typically used in manufacturing environments where products are made in large batches. The total cost of production is divided by the number of units produced to arrive at the cost per unit.
Activity-based costing, or ABC costing, allocates indirect costs to specific products or services based on the activities involved in producing them. This method is useful when many indirect costs are associated with a product, and it’s difficult to determine how to allocate those costs. By identifying the activities involved in producing a product, it becomes easier to determine how much of the indirect costs should be allocated to that product.
Standard costing uses predetermined standard costs for materials, labor, and overhead. The actual costs are then compared to the predetermined costs to identify variances and make adjustments. This method is useful when a company wants to identify areas of inefficiency and reduce costs.