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Chapter 18Process Costing
Chapter 18 Learning Objectives
1. Describe the flow of costs through a process costing system
2. Calculate equivalent units of production for direct materials and conversion costs
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Chapter 18 Learning Objectives
3. Prepare a production cost report for the first department using the weighted-average method
4. Prepare a production cost report for subsequent departments using the weighted-average method
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Chapter 18 Learning Objectives
5. Prepare journal entries for a process costing system
6. Use a production cost report to make decisions
7. Prepare a production cost report using the first-in, first-out method (Appendix 18A)
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Learning Objective 1
Describe the flow of costs through a process costing system
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HOW DO COSTS FLOW THROUGH A PROCESS COSTING SYSTEM?
• Job order costing system– Allocates costs by job– Used by companies that manufacture unique
products or provide specialized services• Process costing system
– Allocates costs by process– Used by companies that manufacture identical
units– Focuses on a process, one of the steps in
manufacturing production
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Job Order Costing Versus Process Costing
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Flow of Costs Through a Process Costing System
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Flow of Costs Through a Process Costing System
Suppose the company’s production costs incurred to make 50,000 puzzles and the costs per puzzle are as follows:
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Flow of Costs Through a Process Costing System
• Companies use process costing to determine the per unit cost in order to:– Control costs– Set sales prices– Calculate account balances for
• Work-in-Process Inventory• Finished Goods Inventory• Cost of Goods Sold
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Learning Objective 2
Calculate equivalent units of production for direct materials and conversion costs
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WHAT ARE EQUIVALENT UNITS OF PRODUCTION, AND HOW ARE THEY
CALCULATED?
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• Companies may have products still in process at the end of the accounting period.
• The total production costs incurred in each process must be split between the following:– The units that have been completed in that
process and transferred to the next process.– The units not completed and remaining in
Work-in-Process Inventory.
WHAT ARE EQUIVALENT UNITS OF PRODUCTION, AND HOW ARE THEY
CALCULATED?
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Equivalent Units of Production
• Equivalent units of production (EUP)– Measures the amount of materials added to or
work done on partially completed units during a period
– Expressed in terms of fully complete units of output
• Conversion costs are the sum of direct labor and manufacturing overhead costs and represent the cost to convert direct materials into finished goods.
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Equivalent Units of Production
• Assume Puzzle Me has 40,000 units that the Assembly Department completed and transferred out.
• Therefore, for units complete and transferred out the equivalent units would be 40,000 units (40,000 units * 100% complete) for both direct materials and conversion costs.
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Equivalent Units of Production
• Puzzle Me has 10,000 units in ending Work-in-Process Inventory that are 100% complete with respect to direct materials cost and 25% completed with respect to conversion costs.
• The equivalent units in ending Work-in-Process Inventory in terms of direct materials:
• The equivalent units in ending Work-in-Process Inventory in terms of conversion costs:
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Learning Objective 3
Prepare a production cost report for the first department using the weighted-average method
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HOW IS A PRODUCTION COST REPORT PREPARED FOR THE FIRST DEPARTMENT?
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• A production cost report shows the calculations for the physical flows and the cost flows of the products.
• Preparing this report involves four steps:
1. Summarize the flow of physical units.2. Compute output in terms of equivalent units of
production.3. Compute the cost per equivalent unit of production.4. Assign costs to units completed and units in process.
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HOW IS A PRODUCTION COST REPORT PREPARED FOR THE FIRST DEPARTMENT?
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• Two unique terms are used on the production cost report:
• To account for includes the amount in process at the beginning of the period plus the amount started or added during the period.
• Accounted for shows what happened to the amounts to account for. They are either still in process or completed and transferred out.
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HOW IS A PRODUCTION COST REPORT PREPARED FOR THE FIRST DEPARTMENT?
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Production Cost Report—First Process—Assembly Department
The Assembly Department applies glue to the cardboard and then presses a picture onto the cardboard. Operations for this department include two inputs:• The direct materials (glue
and cardboard) are added at the beginning of the process.
• The conversion costs are added evenly throughout the process.
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Production Cost Report—First Process—Assembly Department
Step 1: Summarize the Flow of Physical Units The physical units are the actual units that the company will account for during the period. The Assembly Department had 8,000 units in process on July 1 and started 42,000 units during the month.
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Production Cost Report—First Process—Assembly Department
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Production Cost Report—First Process—Assembly Department
Step 2: Compute Output in Terms of Equivalent Units of Production The Assembly Department adds all direct materials at the beginning of the process.
Equivalent Units of Production for Direct Materials:
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Production Cost Report—First Process—Assembly Department
Step 2: Compute Output in Terms of Equivalent Units of Production The Assembly Department incurs conversion costs evenly throughout the process.
Equivalent Units of Production for Conversion Costs:
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Production Cost Report—First Process—Assembly Department
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Production Cost Report—First Process—Assembly Department
Step 3: Compute the Cost per Equivalent Unit of ProductionThe Assembly Department has to account for costs associated with the following:• Work done last month on the 8,000 partially
completed units (beginning work-in-process)• Work done this month to complete the 8,000 partially
completed units• Work done this month on the 42,000 units that were
started into production
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Production Cost Report—First Process—Assembly Department
Step 3: Compute the Cost per Equivalent Unit of Production• The weighted-average method combines the
beginning work-in-process costs and the costs added during the period into one cost pool.
• A cost pool is an accumulation of individual costs. • The total costs to be accounted for include direct
materials and conversion costs and will be calculated as beginning work-in-process costs plus costs added during the period.
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Production Cost Report—First Process—Assembly Department
Step 3: Compute the Cost per Equivalent Unit of Production
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Production Cost Report—First Process—Assembly Department
Step 3: Compute the Cost per Equivalent Unit of Production
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Production Cost Report—First Process—Assembly Department
Step 4: Assign Costs to Units Completed and Units in ProcessThe costs must be divided between two outputs:• The 40,000 completed puzzle boards that have been
transferred out to the Cutting Department.• The 10,000 partially completed puzzle boards
remaining in the Assembly Department’s ending Work-in-Process Inventory.
This is accomplished by multiplying the cost per equivalent unit of production (Step 3) by the equivalent units of production (Step 2).
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Production Cost Report—First Process—Assembly Department
Step 4: Assign Costs to Units Completed and Units in Process
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Learning Objective 4
Prepare a production cost report for subsequent departments using the weighted-average method
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• The Cutting Department receives the puzzle boards from the Assembly Department and cuts the boards into puzzle pieces before inserting the pieces into the box at the end of the process. – Glued puzzle boards with pictures are transferred
in from the Assembly Department at the beginning of the Cutting Department’s process.
– The Cutting Department’s conversion costs are added evenly throughout the process.
– The Cutting Department’s direct materials are added at the end of the process.
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Production Cost Report—Second Process—Cutting Department
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Production Cost Report—
Second Process—Cutting Department
Transferred in costs are costs that were incurred in a previous process and brought into a later process as part of the product’s cost.
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Step 1: Summarize the Flow of Physical Units The Cutting Department has 5,000 units in process on July 1 and receives 40,000 units during the month from the Assembly Department.
The Cutting Department completes the cutting and boxing process on 38,000 of the 45,000 units to account for and transfers those units to Finished Goods Inventory.
Production Cost Report—Second Process—Cutting Department
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Production Cost Report—Second Process—Cutting Department
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Step 2: Compute Output in Terms of Equivalent Units of Production The Cutting Department starts with the units transferred in from the Assembly Department. The equivalent units of production for transferred in are always 100%.
Equivalent Units of Production for Transferred In:
Production Cost Report—Second Process—Cutting Department
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Step 2: Compute Output in Terms of Equivalent Units of Production The Cutting Department adds direct materials at the end of the process.
Equivalent Units of Production for Direct Materials:
Production Cost Report—Second Process—Cutting Department
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Step 2: Compute Output in Terms of Equivalent Units of Production The Cutting Department incurs conversion costs evenly throughout the process.
Equivalent Units of Production for Conversion Costs:
Production Cost Report—Second Process—Cutting Department
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Production Cost Report—Second Process—Cutting Department
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Step 3: Compute the Cost per Equivalent Unit of ProductionThe Cutting Department has three inputs and therefore must make three calculations for cost per equivalent unit of production.
Production Cost Report—Second Process—Cutting Department
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Step 3: Compute the Cost per Equivalent Unit of Production
Production Cost Report—Second Process—Cutting Department
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Step 3: Compute the Cost per Equivalent Unit of Production
Production Cost Report—Second Process—Cutting Department
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Step 4: Assign Costs to Units Completed and Units in ProcessThe $233,040 total costs accounted for by the Cutting Department should be assigned to the following:• The 38,000 completed puzzles that have been
transferred out to Finished Goods Inventory• The 7,000 partially completed puzzle boards
remaining in the Cutting Department’s ending Work-in-Process Inventory
Production Cost Report—Second Process—Cutting Department
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Step 4: Assign Costs to Units Completed and Units in Process
Production Cost Report—Second Process—Cutting Department
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Learning Objective 5
Prepare journal entries for a process costing system
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WHAT JOURNAL ENTRIES ARE REQUIRED IN A PROCESS COSTING SYSTEM?
• Costs flow through the process costing system in four steps:1. Accumulate2. Assign3. Allocate4. Adjust
• Costs flow from one Work-in-Process Inventory account to the next and eventually to Finished Goods Inventory and Cost of Goods Sold.
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Transaction 1—Raw Materials Purchased
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During July, the company purchases materials on account for $175,000.
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Transaction 2—Raw Materials Used in Production
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During July, Puzzle Me assigns direct materials to the two production departments: $130,200 to the Assembly Department and $19,000 to the Cutting Department; $2,000 in indirect materials is accumulated in Manufacturing Overhead.
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Transaction 3—Labor Costs Incurred
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During the month, Puzzle Me assigns $22,090 in direct labor costs to the Assembly Department and $3,840 in direct labor costs to the Cutting Department. $1,500 in indirect labor costs are accumulated in Manufacturing Overhead.
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Transaction 4—Additional Manufacturing Costs Incurred
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Puzzle Me incurs $30,000 in machinery depreciation and $19,000 in indirect costs that were paid in cash. These costs are accumulated in the Manufacturing Overhead account.
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Transaction 5—Allocation ofManufacturing Overhead
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Puzzle Me uses a predetermined overhead allocation rate to allocate indirect costs to the departments: $42,000 to the Assembly Department and $11,000 to the Cutting Department.
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Transaction 6—Transfer from the Assembly Department to the Cutting Department
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At the end of July, when the production cost report for the Assembly Department is prepared, Puzzle Me assigns $176,000 to the 40,000 units transferred from the Assembly Department to the Cutting Department.
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Transaction 7—Transfer from Cutting Department to Finished Goods Inventory
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At the end of July, when the production cost report for the Cutting Department is prepared, Puzzle Me assigns $201,400 to the 38,000 units transferred from the Cutting Department to Finished Goods Inventory. This is the cost of goods manufactured.
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Transaction 8—Puzzles SoldDuring July, Puzzle Me sells 35,000 puzzles. The total production cost of manufacturing a puzzle is $5.30. The cost of 35,000 puzzles is $185,500 (35,000 puzzles × $5.30 per puzzle). The puzzles are sold on account for $8.00 each, which is a total of $280,000 (35,000 puzzles × $8.00 per puzzle).
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Transaction 9—Adjust Manufacturing Overhead
The actual manufacturing overhead costs incurred are $50,500. The amount of manufacturing overhead allocated to the two departments is $53,000.
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Transaction 9—Adjust Manufacturing Overhead
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WHAT JOURNAL ENTRIES ARE REQUIRED IN A PROCESS COSTING SYSTEM?
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Learning Objective 6
Use a production cost report to make decisions
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HOW CAN THE PRODUCTION COST REPORT BE USED TO MAKE DECISIONS?
• Controlling costs• Evaluating performance• Pricing products• Identifying the most profitable products• Preparing the financial statements
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Learning Objective 7
Prepare a production cost report using the first-in, first-out method (Appendix 18A)
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HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
• Equivalent unit of production cost methods:– Weighted-average method– First-in, first-out
• The first-in, first-out method (for Process Costing) determines the cost of equivalent units by accounting for beginning inventory separately.
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HOW IS A PRODUCTION COST REPORT
PREPARED USING THE FIFO METHOD?
The data related to Puzzle Me’s Assembly Department is shown to the left.
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Step 1: Summarize the Flow of Physical Units The Assembly Department has 8,000 units in process on July 1 and starts 42,000 units during the month. Therefore, to account for is 50,000 units. This is the same as in the weighted-average method.
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Step 1: Summarize the Flow of Physical UnitsIf 40,000 units are completed and transferred, this includes the 8,000 units in beginning inventory plus another 32,000 units started in July. We must account for 50,000 units. If 40,000 are transferred out, then that leaves 10,000 still in process at the end of July.
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Step 1: Summarize the Flow of Physical Units
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Step 2: Compute Output in Terms of Equivalent Units of ProductionThe Assembly Department adds direct materials at the beginning of the process.
Equivalent Units of Production for Direct Materials:
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Step 2: Compute Output in Terms of Equivalent Units of ProductionThe Assembly Department incurs conversion costs evenly throughout the process.
Equivalent Units of Production for Conversion Costs:
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Step 2: Compute Output in Terms of Equivalent Units of Production
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Step 3: Compute the Cost per Equivalent Unit of ProductionThe Assembly Department has $208,000 of costs to account for.
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Step 3: Compute the Cost per Equivalent Unit of Production
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Step 4: Assign Costs to Units Completed and Units in ProcessThe $208,000 total costs must be assigned to:• The 8,000 puzzle boards from beginning inventory
that have now been completed and transferred to the Cutting Department.
• The 32,000 started and completed puzzle boards that have also been transferred to Cutting Department.
• The 10,000 partially completed puzzle boards remaining in the Assembly Department’s ending Work-in-Process Inventory.
HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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HOW IS A PRODUCTION COST REPORT PREPARED USING THE FIFO METHOD?
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Comparison of Weighted-Average and FIFO Methods
Notice the differences in the completed and transferred out costs and ending work-in-process costs under each method.
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