Unit Output Costing, Concept and Need for Unit Output Costing

Unit output costing is a method of costing used to determine the cost of producing each unit of output. It involves dividing the total cost of production by the number of units produced to arrive at the cost per unit.

The concept of unit output costing is based on the principle that the cost of producing a product is directly proportional to the number of units produced. This means that as the number of units produced increases, the cost per unit decreases, and vice versa.

Unit output costing is commonly used in manufacturing industries where large quantities of products are produced. By determining the cost per unit, manufacturers can set prices that ensure profitability while remaining competitive in the market.

The process of unit output costing involves identifying all the costs associated with producing a product, including direct materials, direct labor, and overhead costs. These costs are then added together to arrive at the total cost of production. Finally, the total cost is divided by the number of units produced to determine the cost per unit.

Different Definitions

“Unit output costing is a method of costing that involves calculating the cost per unit of output by dividing the total cost of production by the number of units produced.” – Accounting Tools

“Unit output costing is a technique of costing that enables a manufacturer to determine the cost of producing each unit of output. It involves the allocation of direct and indirect costs to each unit produced.” – Business Dictionary

“Unit output costing is a cost accounting technique used to determine the cost per unit of a product or service. It is calculated by dividing the total production costs by the number of units produced.” – My Accounting Course

“Unit output costing is a method of ascertaining the cost per unit by dividing the total cost of production by the number of units produced.” – The Economic Times

“Unit output costing is a system of cost accounting in which the cost of each unit produced is calculated by dividing the total cost of production by the number of units produced.” – Oxford Reference

Need for Unit Output Costing

The need for unit output costing arises from the fact that it provides a clear understanding of the cost of production per unit. This understanding is important for several reasons:

• Pricing decisions: Unit output costing provides a basis for setting prices that ensure profitability while remaining competitive in the market. By knowing the cost per unit, manufacturers can determine a price that covers their costs and generates a profit.
• Cost control: Unit output costing helps in identifying the different cost components of a product, such as direct materials, direct labor, and overhead costs. This information helps in controlling costs and reducing wastage, as manufacturers can identify areas where costs can be reduced.
• Performance evaluation: Unit output costing provides a basis for evaluating the performance of different products or processes. By comparing the cost per unit of different products or processes, manufacturers can identify areas where improvements can be made to increase efficiency and reduce costs.
• Decision-making: Unit output costing provides a basis for making informed decisions, such as whether to invest in new equipment or whether to outsource a particular process. By knowing the cost per unit, manufacturers can evaluate the potential costs and benefits of different options and make a decision that is in their best interest.

Objectives of Output Costing

• To determine the cost of producing each unit of output: The primary objective of output costing is to determine the cost of producing each unit of output. This information is essential for pricing decisions, cost control, and performance evaluation.
• To allocate overhead costs to each unit produced: Output costing enables manufacturers to allocate overhead costs to each unit produced. This helps in identifying the cost components of a product and controlling costs.
• To identify areas for cost reduction: Output costing helps in identifying areas where costs can be reduced. By knowing the cost per unit, manufacturers can identify areas where efficiency can be improved and wastage can be reduced.
• To evaluate the performance of different products or processes: Output costing provides a basis for evaluating the performance of different products or processes. By comparing the cost per unit of different products or processes, manufacturers can identify areas where improvements can be made to increase efficiency and reduce costs.
• To make informed decisions: Output costing provides a basis for making informed decisions, such as whether to invest in new equipment or whether to outsource a particular process. By knowing the cost per unit, manufacturers can evaluate the potential costs and benefits of different options and make a decision that is in their best interest.

Types:

Output costing can be broadly classified into two types:

• Marginal or Variable Costing
• Absorption Costing

Here are the formulas for both types of output costing:

Marginal or Variable Costing:

In marginal costing, only variable costs are considered in determining the cost of production. Fixed costs are treated as period costs and are not allocated to products. The formula for marginal costing is:

Total Cost of Production = (Variable Cost per Unit × Number of Units Produced) + Total Fixed Costs

Cost per unit = Variable Cost per Unit

Absorption Costing:

In absorption costing, all costs, including fixed and variable costs, are allocated to products. The formula for absorption costing is:

Total Cost of Production = (Variable Cost per Unit × Number of Units Produced) + (Fixed Cost per Unit × Number of Units Produced)

Cost per unit = (Total Cost of Production / Number of Units Produced)

Where:

• Variable Cost per Unit = Total Variable Costs / Number of Units Produced
• Fixed Cost per Unit = Total Fixed Costs / Number of Units Produced

Advantages of Output Costing:

• Helps in pricing decisions: Output costing provides a basis for setting prices that ensure profitability while remaining competitive in the market.
• Cost control: Output costing helps in identifying the different cost components of a product, such as direct materials, direct labor, and overhead costs. This information helps in controlling costs and reducing wastage.
• Performance evaluation: Output costing provides a basis for evaluating the performance of different products or processes. By comparing the cost per unit of different products or processes, manufacturers can identify areas where improvements can be made to increase efficiency and reduce costs.
• Helps in decision-making: Output costing provides a basis for making informed decisions, such as whether to invest in new equipment or whether to outsource a particular process.
• Facilitates cost management: Output costing provides a clear understanding of the cost of production per unit. This information helps managers in managing and reducing costs.

Disadvantages of Output Costing:

• Assumes fixed cost behavior: Absorption costing, in particular, assumes that fixed costs are always incurred regardless of the level of production. This can lead to distorted profitability figures and may not be suitable for businesses with high fixed costs.
• Overlooks non-production costs: Output costing focuses solely on production costs, ignoring non-production costs such as selling, administrative, and research and development costs. This may result in a skewed view of the true cost of a product.
• Time-consuming: Output costing requires a significant amount of time and effort to collect and allocate costs accurately. This may not be practical for small businesses with limited resources.
• May lead to overproduction: Since absorption costing allocates fixed costs to products, manufacturers may be incentivized to overproduce to spread fixed costs over a larger number of units, leading to excess inventory and higher storage costs.