Cost Accounting: Allocation Decisions about Scrap
In cost accounting, scrap is defined as material that’s left over after production. Scrap has a low sales value, if it has any value at all. You sell scrap as is. No costs are added to scrap before you sell it to someone. Keep in mind that if you add any costs (by performing more work) on an item, the unit is considered a byproduct.
Typically, the buyer will be another business — a company that can use the scrap to make a different product. The customers who buy your real completed products probably won’t be in the market for your scrap.
An experienced manager should have some idea about how much leftover stuff a production run generates. But there’s a difference between spoilage and scrap.
Spoilage has to do with a defective product. Scrap isn’t a product at all. Instead, scrap is leftover pieces of items that were used to make a product. That’s why your normal customers aren’t interested in buying scrap. Accountants don’t make a distinction between normal and abnormal scrap — it’s all scrap.
You need to make decisions about allocating costs and revenue for scrap. Like spoilage, you can allocate scrap to a specific job, but you can also allocate scrap to all jobs.
Accounting for scrap is similar to accounting for inventory. You need to track where the scrap is — where it is physically. You do a physical inventory count to verify where all the inventory is located. There’s a similar process for scrap.
Track where the scrap is, and protect it against theft. After all, scrap usually has some sales value. You also need to account for any scrap cost and revenue in your accounting records.
Consider the timing of your accounting entries for scrap. Say you finish a production run for leather purses, and you have leftover scraps of leather. One option is to post accounting entries after production. Another option is to record the scrap accounting activity when the scrap is sold. Say a maker of leather baseball gloves shows up and buys your leather scraps. You could record the accounting activity when the sale occurs.