Batch costing accounting is a specific order costing method similar in nature to job costing. Using job costing the cost object is a specific single unit whereas in batch costing the cost object is a batch of identical units.
The purpose of a batch costing system is to accumulate the costs relating to a particular batch. On completion the business knowing the total cost and number of units in the batch can calculate the unit cost, selling price and profitability of each unit.
What is Batch Costing
The batch costing method can be used by both manufacturing and service businesses and is best suited to industries whose products are mass produced. For example the clothing industry might manufacture a garment in a specific size and color in batches.
Features of Batch Costing
- The batch is the unit of production.
- Each batch is a quantity of identical units.
- Production is continuous and takes place before demand.
- Direct costs such as raw materials, labor and setup expenses are allocated directly to the batch.
- Indirect costs are applied to the batch using an appropriate predetermined overhead rate.
- Batch costing can be applied to manufacturing and non-manufacturing operations.
Batch Costing System
Batch costing accounting involves transferring costs from the materials, labor, expenses and production overhead accounts to a work in process (WIP) account. Each batch has its own work in process account usually referred to as a batch cost sheet or batch cost card to accumulate its respective costs.
The diagram below sets out a summary of the batch costing accounting system for two identical batches A and B and identifies the cost transfers in relation to Batch A.
Batch Costing Accounting Source Documents
Costs are transferred to the work in process account using the following accounting source documents.
Material Requisition Form
The materials requisition form is used to issue materials either directly to a batch (direct materials) or to production overheads (indirect materials). The transfer takes place by a credit entry to raw materials and a debit entry to either the batch cost sheet or to prodcution overhead.
The batch timesheet is used to transfer labor costs either directly to a batch (direct labor) or to production overheads (indirect labor). The transfer takes place by a credit entry to labor costs and a debit entry to the batch cost sheet or to production overheads.
Production overhead is accumulated in the production overhead account and comprises indirect materials from the material requisition form, indirect labor from the timesheet and other production overhead such as expenses and depreciation supported by the appropriate source document.
Production overhead is applied to batches using predetermined overhead rate calculated on an appropriate basis such as direct labor hours or labor cost. The transfer entry is a credit to production overhead and a debit entry to the batch cost sheet.
Work in Process Subsidiary Ledger
When combined, the collection of individual batch cost sheets form a subsidiary ledger referred to as the work in process (WIP) ledger. As with other subsidiary ledgers the business can choose whether this ledger or the work in process control account in the general ledger is part of the double entry bookkeeping system.
The totals of all transfers in and out of the batch cost sheets in the WIP ledger are also posted to the WIP control account in the general ledger. At the end of an accounting period the balance on the WIP control account should equal the sum of the balances on each of the batch cost sheets in the WIP ledger.
Finally, on completion the total costs of a batch are transferred from its batch cost sheet in the WIP ledger to the finished goods inventory account. On sale the costs are then transferred from the finished goods inventory account to the cost of sales account in the usual manner.
Example of Batch Costing
Throughout this batch costing example reference should be made to the diagram above.
A business uses batch costing in the manufacture of its products. For a batch of 80 units the following costing information is available.
|Direct labor hours||30|
Additional information is as follows.
- Production overhead is absorbed into the batch costs at the rate of 12.00 per direct labor hour.
- Selling, general and administrative overhead is absorbed into batch costs at a rate of 20 per cent of the total production cost.
Assuming a selling price of a unit is 40.00, calculate the unit and batch profit.
Production Overhead Calculation
The first step is to calculate the production overhead to be applied to the batch based on the predetermined rate.
Production overhead = Direct labor hours x Predetermined rate Production overhead = 30 x 12.00 = 360
Batch Cost Calculation
Information from the batch cost sheet is used to calculate the production cost and unit cost as follows.
The total production cost for the batch of 80 units is 1,200. The unit production cost can now be calculated as follows.
Unit production cost = Total production cost / Batch quantity Unit production cost = 1,200 / 80 = 15.00
Selling, General and Administrative Overhead
The business allocates selling, general and administrative (SG&A) overhead at the rate of 20% of the total production cost. The selling, general and administrative overhead applied to this batch is calculated as follows.
SG&A overhead = Production cost x Rate SG&A overhead = 1,200 x 20% = 240
Calculation of Batch Profit
The batch profit and unit profit can now be calculated as follows.
Batch Costing Summary
Batch costing is a form of specific order costing similar to job costing. Each batch is a quantity of identical units the size of which should be decided upon using the economic batch quantity to minimize production costs. The output from a batch costing system is the batch cost sheet used to calculate the product unit cost by dividing the total cost by the batch quantity.
About the Author
Chartered accountant Michael Brown is the founder and CEO of Plan Projections. He has worked as an accountant and consultant for more than 25 years and has built financial models for all types of industries. He has been the CFO or controller of both small and medium sized companies and has run small businesses of his own. He has been a manager and an auditor with Deloitte, a big 4 accountancy firm, and holds a BSc from Loughborough University.