Cornerstones of cost

management, 4e

Process Costing

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 Learning Objectives (1 of 2)

1. Describe the basic characteristics of process costing,

including cost flows, journal entries, and the cost of
production report
2. Describe process costing for settings without work-in-
process inventories
3. Describe process costing for settings with ending
work-in-process inventories
4. Prepare a departmental production report using the
FIFO method

Introduction
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 Learning Objectives (2 of 2)

5. Prepare a departmental production report using the

weighted average method
6. Prepare a departmental production report with
transferred-in goods and changes in output measures

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 Operational Process System

• Characterized by a large number of homogeneous

products passing through a series of processes
– Each process is responsible for one or more operations
that bring a product one step closer to completion
 May require materials, labor, and overhead inputs
 Upon completion of a particular process, the partially
completed goods are transferred to another process

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EXHIBIT 6.1 - An Operational Process
System: Antihistamine Manufacturing

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 Differences in the Cost Flows For Process-
Costing System and Job-Order Costing System
• Process-costing system
– Accumulates production costs by process
 Transferred-in cost: Cost transferred from a prior
process to a subsequent process
– Has a work-in-process (WIP) account for every process
• Job-order costing system
– Accumulates production costs by job
– Uses a single WIP account

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 Production Report
• Traces the flow of units through a department and
identifies the costs charged
– Shows the computation of unit costs and reveals the
disposition of the department’s costs for the reporting
period
• Divided into unit information and cost information
sections
• Unit information section
– Units to account for
– Units accounted for

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 Unit Costs

• Key input to the cost of production report

• Presence of significant work-in-process inventories
complicates cost and output definitions needed for unit
cost calculation

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Exhibit 6.4 - Basic Features of a Process-
Costing System (1 of 2)
1. Homogeneous units pass through a seroies of similar
processes.
2. Each unit in each process receives a similar dose of
manufacturing costs.
3. Manufacturing costs are accumulated by a process for a
given period of time.
4. There is a work-in-process account for each process.

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Exhibit 6.4 - Basic Features of a Process-
Costing System (2 of 2)
5. Manufacturing cost flows and the associated journal
entries are generally similar to job-order costing.
6. The departmental production report is the key document
for tracking manufacturing activity and costs.
7. Unit costs are computed by dividing the departmental
costs of the period by the output of the period.

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 Equivalent Units of Output

• Complete units that could have been produced given

the total amount of productive effort expended for the
period under consideration
• Every transferred-out unit is an equivalent unit

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 Steps in Building a Production Report for
Process Costing
• Preparation of a physical flow schedule
– Physical flow schedule: Provides an analysis of the
physical flow units
• Calculation of the period’s equivalent units
• Unit cost calculation
• Valuation of inventories
• Cost reconciliation
– Costs in beginning WIP and costs incurred during the
current period should equal the total costs assigned to
goods transferred out and to goods in ending WIP

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Physical Flow Analysis and Calculation of
Equivalent Units - Example
• Richardson Testing Center had the following data for CBC
production for January
– Output is measured in number of tests
– Prepare a physical flow schedule
– Prepare an equivalent units schedule
 Explain why output is measured in equivalent units
Particulars Number of units
Units, beginning work in process -
Units started 36,000
Units completed 30,000
Units, ending work in process (25% 6,000
complete)

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Physical Flow Analysis and Calculation of
Equivalent Units – Solution (1 of 3)
• Units started and completed = Units completed - Units,
BWIP
=30,000 − 0 = 30,000
• Units started = Units, EWIP + Units started and
completed
=6,000 + 30,000 = 36,000

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Physical Flow Analysis and Calculation of
Equivalent Units – Solution (2 of 3)
Physical flow schedule:

Particulars Number of units Total

Units to account for:
Units in BWIP 0
Units started 36,000
Total units to account for 36,000
Units accounted for:
Units completed:
From BWIP 0
Started and completed 30,000 30,000
Units in EWIP 6,000
Total units accounted for 36,000

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Physical Flow Analysis and Calculation of
Equivalent Units – Solution (3 of 3)
• Equivalent units schedule:
– Output for the period must take into consideration the
work done on units fully completed as well as the work
done on partially completed units

Particulars Number of units

Units completed 30,000
Units in EWIP × Fraction complete:
6,000 × 0.25 1,500
Equivalent units 31,500

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 Unit Cost, Inventory Valuation, and Cost
Reconciliation – Example (1 of 2)
• For the month of January, Richardson Testing Center
incurred total production costs of $787,500 for
processing CBC tests
– Calculate the cost of preparing one CBC test for January
– Assign costs to tests completed and to EWIP, and do a
cost reconciliation

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 Unit Cost, Inventory Valuation, and
Cost Reconciliation – Example (2 of 2)
• Solution
– Unit cost = $787,500 ÷ 31,500 = $25 per test
– Costs assigned:

Particulars Amount
Tests completed ($25 × 30,000) $750,000
EWIP ($25 × 1,500) 37,500
Total assigned $787,500

– Reconciliation
 The costs assigned equal the costs to account for of
$787,500

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Richardson Testing Center Production
Report for January (1 of 2)

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Richardson Testing Center Production
Report for January (2 of 2)

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 Approaches That Help deal with Prior-
Period Output and Costs
• First-in, first-out (FIFO) costing method
• Weighted average method

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 FIFO Costing Method

• Equivalent units and manufacturing costs in beginning

work in process are excluded from the current period
unit cost calculation
• Recognizes that the work and costs carried over from
the prior period legitimately belong to that period
• Categories of completed units
– Beginning work-in-process units
– Units started and completed during the current period

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Physical Flow Analysis and Calculation of
Equivalent Units: FIFO
• The production of Bienestar’s antihistamine product
begins in the Blending Department
– The production data for May are as follows:
– Prepare a physical flow schedule for May
– Prepare an equivalent units schedule for May using the
FIFO method

Particulars Units
Units in process, May 1, 70% complete* 15,000
Units completed and transferred out 90,000
Units in process, May 31, 40% complete* 30,000
*With respect to conversion costs

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Physical Flow Analysis and Calculation of
Equivalent Units: FIFO – Solution (1 of 2)
Units started and completed = Units completed – Units, BWIP
=90,000-15,000=75,000
Units started = Units started and Completed + Units, EWIP
=75,000+30,000=105,000
Step 1: Physical Flow Schedule: Blending Department
Units to account for:
Units, beginning work in process (70% complete) 15,000
Units started during May 105,000
Total units to account for 120,000
Units accounted for:
Units completed and transferred out:
Started and completed 75,000
From beginning work in process 15,000 90,000
Units in ending work in process (40% complete) 30,000
Total units accounted for 120,000

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Physical Flow Analysis and Calculation of
Equivalent Units: FIFO – Solution (2 of 2)
Step 2: Equivalent Units Schedule: Blending
Department
Direct Materials Conversion Costs
Units started and completed 75,000 75,000
Add: Units in beginning work in Process ×
Percentage complete:
15,000×0% direct materials
15,000×30% conversion costs 4,500
Add: Units in ending work in process ×
Percentage complete:
30,000×100% direct materials 30,000
30,000×40% conversion costs 12,000
Equivalent units of output 105,000 91,500

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 Unit Cost and Cost Assignment: FIFO
(1 of 4)
Cost data from the Wichita plant’s Blending Department for
the month of May:
Costs:
Work in process, May 1:
Direct materials $1,500
Conversion costs 525
Total work in process $2,025
Current costs:
Direct materials $18,900
Conversion costs 4,575
Total current costs $23,475

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 Unit Cost and Cost Assignment: FIFO
(2 of 4)
– Calculate the unit cost for May using the FIFO method
– Calculate the cost of goods transferred out and the cost
of EWIP
 Reconcile the costs assigned with the costs to account for
• Solution
• Step 3: Unit Cost Calculation
Unit cost = Unit materials cost + Unit conversion cost
= $18,900/105,000 + $4,575/91,500
= $0.18 + $0.05 = $0.23 per ounce

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 Unit Cost and Cost Assignment: FIFO
(3 of 4)
Step 4: Valuation of Inventories
Using unit cost information and the information from the
equivalent units schedule (Step 2 of Cornerstone 6.7):
Cost of goods transferred out:
From BWIP $2,025
To complete BWIP ($0.05×4,500) 225
Started and completed ($0.23×75,000) 17,250
Total $19,500
EWIP:
($0.18×30,000)+($0.05×12,000) $6,000
Total costs assigned (accounted for) $25,500

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 Unit Cost and Cost Assignment:
FIFO (4 of 4)
Step 5: Reconciliation (comparing costs assigned to costs
to account for)

Cost to account for:

BWIP $ 2,025
Current (May) 23,475
Total $25,500

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Exhibit 6.5 - Production Report:
Blending Department (1 of 2)

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Exhibit 6.5 - Production Report:
Blending Department (2 of 2)

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 Weighted Average Costing Method

• Treats beginning inventory costs and accompanying

equivalent output as if they belong to the current period
• Merges prior period output and manufacturing costs
found in beginning work in process with the current
period output and manufacturing costs

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 Physical Flow Analysis and Calculation of
Equivalent Units: Weighted Average Method (1 of 3)
• Prepare a physical flow schedule and an equivalent
units schedule for Bienestar’s Blending Department for
the month of May using the weighted average method
– Solution
Units started and completed = Units completed – Units,
BWIP
= 90,000-15,000 = 75,000
Units started = Units started and completed + Units, EWIP
= 75,000 + 30,000 = 105,000

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Physical Flow Analysis and Calculation of
Equivalent Units: Weighted Average
Method (2 of 3)
Step 1: Physical Flow Schedule: Blending
Department
Units to account for:
Units, beginning work in process (70% complete) 15,000
Units started during May 105,000
Total units to account for 120,000
Units accounted for:
Units completed and transferred out:
Started and completed 75,000
From beginning work in process 15,000 90,000
Units in ending work in process(40% complete) 30,000
Total units accounted for 120,000

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Physical Flow Analysis and Calculation of
Equivalent Units: Weighted Average
Method (3 of 3)
Step 2: Equivalent Units Schedule: Blending
Department

Direct Conversion
Materials Costs
Units completed 90,000 90,000
Add: Units in ending work in process ×
Percentage complete:
30,000 × 100% direct materials 30,000
30,000 × 40% conversion costs 12,000
Equivalent units of output 120,000 102,000

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Unit Cost and Cost Assignment: Weighted
Average Method (1 of 3)
• Calculate the unit cost for May using the weighted
average method
– Calculate the cost of goods transferred out and the cost
of EWIP
– Reconcile the costs assigned with the costs to account
for

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 Unit Cost and Cost Assignment:
Weighted Average Method (2 of 3)
Step 3: Unit Cost Calculation
Unit cost = Unit materials cost + Unit conversion cost
= ($1,500 + $18,900)/120,000 + ($525 + $4,575)/102,000
=$0.17 + $0.05 = $0.22 per ounce
Step 4: Valuation of Inventories
Using unit cost information and the information from the equivalent
units schedule (Step 2 of Cornerstone 6.9):
Cost of goods transferred out:
Units completed ($0.22 × 90,000) $19,800
EWIP:
($0.17 × 30,000) + ($0.05 + 12,000) 5,700
Total costs assigned (accounted for) $25,500

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 Unit Cost and Cost Assignment:
Weighted Average Method (3 of 3)
Step 5: Reconciliation (comparing costs assigned
to costs to account for)

Cost to account for:

BWIP $2,025
Current (May) 23,475
Total $25,500

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Exhibit 6.6 - Production Report:
Blending Department (1 of 2)

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Exhibit 6.6 - Production Report:
Blending Department (2 of 2)

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Weighted average method - Advantage and
Disadvantage
• Differs from FIFO on:
– How output is calculated
– What costs are used for calculating the period’s unit cost
• Advantage - Simplicity
• Disadvantage
– May impair accuracy and performance measurement

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 Treatment of Transferred-In Goods
• Cost of this material is the cost of the goods transferred
out computed in the prior department
• Units started in the subsequent department correspond
to the units transferred out from the prior department
• Units of the transferring department may be measured
differently than the units of the receiving department
– Goods transferred in must be converted to the units of
measure used by the second department

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EXHIBIT 6.7 - Production and Cost
Data: Encapsulating Department

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 Step 1: Physical Flow Schedule
Dependence of the Encapsulating Department on the
Blending Department must be considered:
Units to account for:
Units, beginning work in process 24,000
Units transferred in during May 396,000*
Total units to account for 420,000
Units accounted for:
Units completed and transferred out:
Started and completed 351,000
From beginning work in process 24,000 375,000
Units, ending work in process 45,000
Total units accounted for 420,000

*90,000 ×4.4 (Converts transferred-in units from ounces to capsules).

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 Step 2: Calculation of Equivalent Units
Equivalent Units of Production: Weighted Average Method

Transferred-In Direct Conversion

Materials Materials Costs
Added
Units completed 375,000 375,000 375,000
Add: Units in ending work in
process × Percentage
complete:
45,000 × 100% 45,000
45,000 × 100% 45,000
45,000 × 30% 13,500
Equivalent units of output 420,000 420,000 388,500

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 Step 3: Computation of Unit Costs

• Unit cost is computed by calculating the unit cost for

each input category
Unit transferred-in cost = ($1,200 + $19,800)/420,000 =
$0.05
Unit direct materials cost = ($450 + $3,750)/420,000 =
$0.01
Unit conversion costs = ($270 + $7,500)/388,500 = $0.02
Total unit cost = $0.05 + $0.01 + $0.02 = $0.08

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 STEP 4: Valuation of Inventories
Cost of goods transferred out = $0.08 × 375,000 =
$30,000

Transferred-in materials: $0.05 × 45,000 $2,250

Direct materials added: $0.01 × 45,000 450
Conversion costs: $0.02 × 13,500 270
Total $2,970

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EXHIBIT 6.9 - PRODUCTION REPORT:
Encapsulating Department (1 of 2)

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EXHIBIT 6.9 - PRODUCTION REPORT:
Encapsulating Department (2 of 2)

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