How to Set Up a Cost Accounting System

by Kirk Thomason; Updated September 26, 2017

Manufacturing companies use cost accounting to measure, record and report production costs. Accurate product costing is necessary to achieve profit goals. High production costs eat into a company’s profits and decrease opportunities for the business to remain a going concern. The cost accounting system is an in-depth set of accounts that track specific production data. The two common cost-accounting systems are job order costing and process costing. Each has a specific use and helps companies track production costs based on their manufacturing methods.

Job Order Costing

Step 1

Set up the individual accounts to record production costs. Accounts include inventory, factory labor, manufacturing overhead, work in process, finished goods and cost of goods sold. The accounts are in the company’s general ledger and follow its standard numbering system.

Step 2

Use a perpetual inventory system to track inventory costs. Perpetual inventory systems update general ledger accounts for any movement of inventory. This system works best for job order costing, as the manufacturer may have multiple jobs working at one time.

Step 3

Compute production costs per job. Job order costing requires the use of order sheets. This sheet lists the necessary materials and labor needed to produce the product. Accountants track these costs based on the report information.

Step 4

Allocate manufacturing overhead using a predetermined overhead rate. This rate is the expected indirect costs for all jobs. An allocation factor — such as labor hours — allows a company to allocate only the portion of indirect costs used on specific jobs.

Process Costing

Step 1

Set up the individual accounts to record production costs. Accounts include inventory, factory labor, manufacturing overhead, work in process, finished goods and cost of goods sold. The accounts are in the company’s general ledger and follow its standard numbering system.

Step 2

Identify the processes that will drive the production of goods. Processes may include mixing, refining, separating, finishing and packaging. Costs allocated to goods depend on the number of processes used to produce goods.

Step 3

Implement a periodic inventory system to track materials. This system computes inventory based on the dollar cost used to produce a batch of product. Computed once a month, the formula adds purchases to beginning inventory and subtracts inventory used to determine final inventory.

Step 4

Report production costs using a batch cost report. The information contained on the report lists all costs for a particular batch of produced goods.

References

  • "Managerial Accounting: Tools for Business Decision Making"; Jerry Weygandt, et al.; 2010

About the Author

Kirk Thomason began writing in 2011. In addition to years of corporate accounting experience, he teaches online accounting courses for two universities. Thomason holds a Bachelor and Master of Science in accounting.