Process Costing

Copyright © 2006, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin

11th EditionChapter 4


Chapter Four

Systems Design:Process Costing


Similarities Between Job-Order and Process Costing

• Both systems assign material, labor and overhead costs to products and they provide a mechanism for computing unit product cost.

• Both systems use the same manufacturing accounts, including Manufacturing Overhead, Raw Materials, Work in Process, and Finished Goods.

• The flow of costs through the manufacturing accounts is basically the same in both systems.


Differences Between Job-Order and Process Costing

• Process costing is used when a single product is produced on Process costing is used when a single product is produced on a continuing basis or for a long period of time. Job-order a continuing basis or for a long period of time. Job-order costing is used when many different jobs are worked on each costing is used when many different jobs are worked on each period.period.

• Process costing systems accumulate costs by department. Process costing systems accumulate costs by department. Job-order costing systems accumulated costs by individual Job-order costing systems accumulated costs by individual jobs.jobs.

• Process costing systems use department production reports to Process costing systems use department production reports to accumulate costs. Job-order costing systems use job cost accumulate costs. Job-order costing systems use job cost sheets to accumulate costs.sheets to accumulate costs.

• Process costing systems compute unit costs by department. Process costing systems compute unit costs by department. Job-order costing systems compute unit costs by job.Job-order costing systems compute unit costs by job.


Process costing is used for products that are:a. Different and produced continuously.b. Similar and produced continuously.c. Individual units produced to customer specifications.d. Purchased from vendors.

Quick Check


What is a Processing Department?

Any location in an organization where materials, labor or overhead are added to the product.

The activities performed in a processingThe activities performed in a processingdepartment are department are performed uniformlyperformed uniformly on all on all

units of production. Furthermore, the output ofunits of production. Furthermore, the output ofa processing department must bea processing department must be

homogeneoushomogeneous..


Sequential vs. Parallel Processing

Sequential processing means that unitsSequential processing means that unitsflow in a sequence from oneflow in a sequence from one

department to another.department to another.

Parallel processing is used whenParallel processing is used whenafter a point, some units go throughafter a point, some units go throughdifferent processing departments different processing departments

than others. For example, athan others. For example, apetroleum refinery separates crudepetroleum refinery separates crude

oil into products like gasoline, jetoil into products like gasoline, jetfuel, and heating oil.fuel, and heating oil.


Comparing Job-Orderand Process Costing

FinishedGoods

Cost of GoodsSold

Work inProcess

Direct Materials

Direct Labor

ManufacturingOverhead



FinishedGoods

Cost of GoodsSold

Direct Labor


Jobs

Costs are traced andapplied to individualjobs in a job-order

cost system.Direct

Materials



FinishedGoods

Cost of GoodsSold

Direct Labor


ProcessingDepartment

Costs are traced and applied to departments

in a process cost system.

Direct Materials


T-Account and Journal Entry Views of Cost Flows

For purposes of this example, assume there are two

processing departments – Departments A and B.

We will use T-accounts and journal entries.


Process Cost Flows(in journal entry form)

GENERAL JOURNAL Page 4

Date DescriptionPost. Ref. Debit Credit

Work in Process - Department A XXXXXWork in Process - Department B XXXXX

Raw Materials XXXXXTo record the use of direct material.


Raw Materials

Process Cost Flows(in T-account form)

Work in Process Department B

Work in Process Department A

•DirectMaterials

•Direct Materials

•Direct Materials


Process Costing(in journal entry form)




Salaries and Wages Payable XXXXXTo record direct labor costs.




Work in Process Department A Wages Payable

•Direct Materials

•Direct Materials

•Direct Labor

•Direct Labor •Direct

Labor


Process Costing(In journal entry form)




Manufacturing Overhead XXXXXTo apply overhead to departments.




Work in Process Department A

Manufacturing Overhead

•OverheadApplied to

Work inProcess

•AppliedOverhead

•AppliedOverhead

•Direct Labor

•Direct Materials

•Direct Labor

•Direct Materials

•Actual Overhead





Work in Process - Department B XXXXXWork in Process - Department A XXXXX

To record the transfer of goods fromDepartment A to Department B.




Work in ProcessDepartment A

•Direct Materials

•Direct Labor

•AppliedOverhead

•Direct Materials

•Direct Labor

•AppliedOverhead

Transferred to Dept. B

•Transferred from Dept. A





Finished Goods XXXXXWork in Process - Department B XXXXX

To record the completion of goodsand their transfer from Department Bto finished goods inventory.


Finished Goods



•Cost of Goods

Manufactured

•Direct Materials

•Direct Labor

•AppliedOverhead


•Cost of Goods

Manufactured





Accounts Receivable XXXXXSales XXXXX

To record sales on account.

Cost of Goods Sold XXXXXFinished Goods XXXXX

To record cost of goods sold.


Finished Goods

Cost of Goods Sold

Process Cost Flows(in journal entry form)


•Cost of Goods

Manufactured

•Direct Materials

•Direct Labor

•AppliedOverhead


•Cost of GoodsSold

•Cost of GoodsSold

•Cost of Goods

Manufactured


Equivalent Units of Production

Equivalent units are the product of the number of partially completed units and the percentage

completion of those units.

We need to calculate equivalent units because a department usually has some partially completed units

in its beginning and ending inventory.


Equivalent Units – The Basic Idea

Two half completed products are equivalent to one completed product.

So, 10,000 units 70% completeare equivalent to 7,000 complete units.

+ = 1


For the current period, Jones started 15,000 units and completed 10,000 units, leaving 5,000 units in process 30 percent complete. How many equivalent units of production did Jones have for the period? a. 10,000 b. 11,500 c. 13,500 d. 15,000

Quick Check


For the current period, Jones started 15,000 units and completed 10,000 units, leaving 5,000 units in process 30 percent complete. How many equivalent units of production did Jones have for the period? a. 10,000 b. 11,500 c. 13,500 d. 15,000

10,000 units + (5,000 units × 0.30) = 11,500 equivalent units

Quick Check


Calculating Equivalent Units

Equivalent units can be calculated two Equivalent units can be calculated two ways:ways:

The First-In, First-Out Method – The First-In, First-Out Method – FIFO is FIFO is covered in the appendix to this chapter.covered in the appendix to this chapter.

The Weighted-Average Method – The Weighted-Average Method – This This method will be covered in the main portion of the method will be covered in the main portion of the chapter.chapter.


Equivalent Units of ProductionWeighted-Average Method

Cost perequivalent

unit

=Costs for the period

Equivalent units of productionfor the period

The weighted-average method . . .

•Makes no distinction between work done in prior or current periods.

•Blends together units and costs from prior and current periods.


Process Costing and Direct Labor

Direct labor costsmay be small

in comparison toother product

costs in processcost systems.

DirectMaterials

Type of Product Cost

Dol

lar A

mou

nt

DirectLabor

Conversion


Process Costing and Direct Labor

Type of Product Cost

Dol

lar A

mou

nt

Conversion

Direct labor and manufacturing overhead may beDirect labor and manufacturing overhead may becombined into one product cost called combined into one product cost called conversionconversion..

DirectMaterials Direct labor costs

may be smallin comparison to

other productcosts in process

cost systems.


Weighted-Average Example

Smith Company reported the following activity in Department A for the month of June:

Percent CompletedUnits Materials Conversion

Work in process, June 1 300 40% 20%

Units started into production in June 6,000

Units completed and transferred out 5,400 of Department A during June

Work in process, June 30 900 60% 30%


The first step in calculating the equivalent units is to identify the units completed and transferred

out of Department A in June (5,400 units)


Materials ConversionUnits completed and transferred out of Department A in June 5,400 5,400


The second step is to identify the equivalent units of production in ending work in process with respect to

materials for the month (540 units) and add this to the 5,400 units from step one.


Materials ConversionUnits completed and transferred out of Department A in June 5,400 5,400 Work in process, June 30:

900 units × 60% 540

Equivalent units of Production in Department A during June 5,940




900 units × 60% 540 900 units × 30% 270 Equivalent units of Production in Department A during June 5,940 5,670

The third step is to identify the equivalent units of production in ending work in process with respect to

conversion for the month (270 units) and add this to the 5,400 units from step one.



900 units × 60% 540 900 units × 30% 270 Equivalent units of Production in Department A during June 5,940 5,670

Equivalent units of production always equals: Units completed and transferred + Equivalent units remaining in work in process



BeginningWork in Process

300 Units40% Complete

EndingWork in Process


6,000 Units Started

5,400 Units Completed

5,100 Units Startedand Completed


Materials

5,400 Units Completed 540 Equivalent Units 900 × 60%5,940 Equivalent units of production


6,000 Units Started

5,400 Units Completed

5,100 Units Startedand Completed

270 Equivalent Units 900 × 30%

5,670 Equivalent units of production

BeginningWork in Process


EndingWork in Process



Conversion


Production Report – Weighted-Average

A computation ofA computation ofcost per equivalent unit. cost per equivalent unit.

Section 1

Section 2

Section 3

Production Report A quantity schedule A quantity schedule showing the flow of units showing the flow of units and the computation of and the computation of

equivalent units.equivalent units.


Production Report

Cost Reconciliation section shows the reconciliation of all cost flows into and out of the department during the period.

Section 1

Section 2

Section 3

Production Report


Assume that Double Diamond Skis uses the weighted-average method of process costing to determine unit costs in it Shaping and Milling Department.

Production Report Example


Work in process, May 1: 200 units

Materials: 55% complete $ 9,600Conversion: 30% complete 5,575

Production started during May 5,000 unitsProduction completed during May 4,800

units

Costs added to production in MayMaterials cost $ 368,600Conversion cost 350,900

Work in process, May 31 400 unitsMaterials: 40% completeConversion: 25% complete



Step1: Prepare Quantity Schedule with Equivalent Units.


Units to be accounted for: Work in process, May 1 200 Started into production 5,000 Total units 5,200

Equivalent unitsMaterials Conversion

Units accounted for as follows: Completed and transferred 4,800 4,800 4,800 Work in process, May 31 400





Units accounted for as follows: Completed and transferred 4,800 4,800 4,800 Work in process, May 31 400 Materials 40% complete 160

5,200 4,960






Units accounted for as follows: Completed and transferred 4,800 4,800 4,800 Work in process, May 31 400 Materials 40% complete 160 Conversion 25% complete 100

5,200 4,960 4,900



Step 2: Calculating the Costs Per Equivalent Unit

To calculate the cost per equivalent unit for the period:

Cost perequivalent

unit

=Costs for the period

Equivalent units of productionfor the period


Step 2: Compute the cost per equivalent unit.


TotalCost Materials Conversion

Cost to be accounted for: Work in process, May 1 15,175$ 9,600$ 5,575$ Costs added in the Shipping and Milling Department 719,500 368,600 350,900 Total cost 734,675$ 378,200$ 356,475$

Equivalent units 4,960 4,900 Cost per equivalent unit




Equivalent units 4,960 4,900 Cost per equivalent unit 76.25$



$378,200 ÷ 4,960 units = $76.25




Equivalent units 4,960 4,900 Cost per equivalent unit 76.25$ 72.75$ Total cost per equivalent unit = $76.25 + $72.75 = $149.00


$356,475 ÷ 4,900 units = $72.75$356,475 ÷ 4,900 units = $72.75



Step 3: Prepare a Cost Reconciliation


Total Equivalent UnitsCost Materials Conversion

Cost accounted for as follows: Transferred out during May 4,800 4,800 Work in process, May 31: Materials 160 Conversion 100 Total work in process, May 31Total cost accounted for



Cost accounted for as follows: Transferred out during May 715,200$ 4,800 4,800 Work in process, May 31: Materials 160 Conversion 100 Total work in process, May 31Total cost accounted for

4,800 units @ $149.00





Cost accounted for as follows: Transferred out during May 715,200$ 4,800 4,800 Work in process, May 31: Materials 12,200 160 Conversion 7,275 100 Total work in process, May 31 19,475 Total cost accounted for 734,675$


160 units @ $76.25


All costs accounted for

100 units @ $72.75


Operation Costing

Operation costing is a Operation costing is a hybrid hybrid of job-order of job-order and process costing because it and process costing because it

possesses attributes of both approaches.possesses attributes of both approaches.

Conversion costsassigned to batches

as in process costing.

Material Costs chargedto batches as in

job-order costing.

Job-orderCosting

ProcessCosting

Operation Costing(Products produced in batches)

Process Costing

Documents

Transcript of Process Costing