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PROCESS
COSTING (Hilton, Ronald W.
Managerial Accounting)
After studying this chapter, you will be able to:
1 List and explain the similarities and important differences between joborder and process costing.
2 Prepare journal entries to record the flow of costs in a process-costing
system with sequential production departments.
3 Prepare a table of equivalent units under weighted-average process
costing.
4 Compute the cost per equivalent unit under the weighted-average method
of process costing.
5 Analyze the total production costs for a department under the weightedaverage method of process costing.
6 Prepare a departmental production report under weighted-average process
costing.
7 Describe how an operation costing system accumulates and assigns the
costs of direct-material and conversion activity in a batch manufacturing
process.
8 After completing the appendix, prepare process-costing calculations for a
sequential manufacturing process.
account.
The journal entries for the case of two sequential production departments, as
illustrated in Exhibit 4-1, are as follows. (The numbers used in the journal
entries are assumed for the purpose of showing the form of the entries.)
1.As direct material and direct labor are used in production department A,
these costs are added to the Work-in-Process Inventory account for
department A. Overhead is applied using a predetermined overhead rate.
The predetermined overhead rate is computed in the same way in job-order
and process costing.
Work-in-Process Inventory: Production 100,000
Department A
Raw-Material Inventory
50,000
Wages Payable
20,000
Manufacturing Overhead
30,000
2.When production department A completes its work on some units of
product, these units are transferred to production department B. The costs
assigned to these goods are transferred from the Work-in-Process Inventory
account for department A to the Work-in-Process Inventory account for
department B. In department B, the costs assigned to these partially
completed products are called transferred-in costs.
Work-in-Process Inventory: Production 80,000
Department B
Work-in-Process
Inventory:
80,000
Production Department A
3. Direct material and direct labor are used in production department B,
and manufacturing overhead is applied using a predetermined overhead
rate.
Work-in-Process Inventory: Production 75,000
Department B
Raw-Material Inventory
40,000
Wages Payable
15,000
Manufacturing Overhead
20,000
4. Goods are completed in production department B and transferred to the
finished- goods warehouse.
Finished-Goods inventory
130,000
Work-in-Process
Inventory:
130,000
Production Department B
5. Goods are sold.
Cost of Goods Sold
125,000
Finished-Goods Inventory
125,000
Suppose there are 1,000 physical units in process at the end of an
accounting period. Each of the physical units is 75 percent complete with
respect to conversion (direct labor and manufacturing overhead). How much
conversion activity has been applied to these partially completed units?
Conversion activity occurs uniformly throughout the production process.
Therefore, the amount of conversion activity required to do 75 percent of
the con- version on 1,000 units is equivalent to the amount of conversion
activity required to do all of the conversion on 750 units. This number is
computed as follows:
3. PRODUCTION REPORTS
Departmental production reports are completed to derive the preceding
information (equivalent units, unit costs, as well as the cost of completed
production , and the cost of the ending work-in-process inventory).
Production reports may be compiled by using either the weighted-average
method or the FIFO method. The text focuses on the weighted-average
method because of its popularity in practice. Production reports have
several sections, which are completed as follows:
(1) Analyze the physical flow of actual units.
(2) Calculate the equivalent units for the various direct materials and
conversion.
(3) Calculate the cost per equivalent unit.
(4) Analyze the total costs to determine the cost of completed production
and the cost of ending work-in-process inventory. Step 4 is
accomplished by simply multiplying equivalent units (step 2) by the
equivalent-unit costs (step 3).
The following journal entry is made during March to add the costs of direct
material, direct labor, and manufacturing overhead to Work-in-Process
Inventory.
Work-in-Process inventory: Cutting 283,500
Department
Raw-Material Inventory
90,000
Wages Payable
86,000
Manufacturing Overhead
107,500
Exhibit 4-4 . Basic Data for Illustration - Cutting Department
Work in process, March 1-20,000 units:
Direct material: 100% complete, cost of
$ 50,000*
Conversion: 10% complete, cost of
7,200*
Balance in work in process, March 1
57,200*
Units started during March
30,000 units
.Units completed during March and transferred out of 40,000 units
the Cuffing Department
Work in process, March 31
10,000 units
Direct material: 100% complete
Conversion: 50% complete
Costs incurred during March:
Direct material
$ 90,000
Conversion costs:
Direct labor
$ 86,000
Applied manufacturing overhead
107,500+
Total conversion costs
$193,500
*These costs were incurred during the prior month, February.
+ (Predetermined overhead rate ) x (Direct labor cost) = 125% * $86,000 =
$107,500
40,000
10,000
50,000
40,000
100%
40,000
40,000
10,000
50,000
50%
10,000
5,000
50,000
45,000
However, the total number of equivalent units of direct material used for
weighted-average process costing is 50,000 (see Exhibit 4-6). The other
20,000 equivalent units of direct material were actually entered into
production during the preceding month. This is the key feature of the
weighted- average method. The number of equivalent units of activity is
calculated without making a distinction as to whether the activity occurred
in the current accounting period or the preceding period.
Step 3: Computation of Unit Costs. The third step in the process-costing
procedure, calculating the cost per equivalent unit for both direct material
and conversion activity, is presented in Exhibit 4-7. The cost per equivalent
unit for direct material is computed by dividing the total direct-material
cost, including the cost of the beginning work in process and the cost
incurred during March, by the total equivalent units (from step 2, Exhibit 46). An analogous procedure is used for conversion costs.
$140,000
/50,000
$200,700 /
45,000
$2.80
$4.46
In March, 30,000 physical units were entered into work in process and
received their direct material. The direct-material cost incurred in March
was $90,000. Thus, the direct-material cost per equivalent unit experienced
in March was $3.00 ($90,000 + 30,000).
Under the weighted-average method of process costing, the cost per
equivalent unit for direct material was calculated in Exhibit 4-7 to be $2.80.
This $2.80 unit-cost figure is a weighted average, as the following
calculation shows.
Exhibit 4-9. Production Report Production Report
Physical %
of Equivalent Units
Units
Completion
with Respect
to Conversion
Direct
Convers
Material ion
WIP, March 1
20,000
10%
Units started during 30,000
March
Total units to account 50,000
for
Units completed and
transferred out during
March
WIP, March 31
Total units accounted
for
Total equivalent units
40,000
100%
40,000
40,000
10,000
50,000
50%
10,000
5,000
50,000
Conversion
45,000
Total
$ 7,200
$ 57,200
90,000
193,500
283,500
$140,000
50,000
$200,700
45,000
$340,700
$ 2.80
$140,000 /
50,000
$ 4.46
$200,700
45,000
Direct
Material
$ 50,000
$ 7.26
$2.80 +
$4.46
are needed for planning, cost control, decision making, and reporting to
various outside organizations. The flow of costs in process-costing systems
and job-order costing systems is the same. Costs of direct material, direct
labor, and manufacturing overhead are added to a Work-in-Process
Inventory account. Direct labor and manufacturing overhead are often
combined into a single cost category termed conversion costs. When
products are completed, the costs assigned to them are transferred either to
Finished-Goods Inventory or to the next production department's Work-inProcess Inventory account. In sequential production processes, the cost of
the goods transferred from one production department to another is called
transferred-in cost. There are some important differences between job-order
and process-costing systems. Chief among these is that job-order costing
systems accumulate production costs by job or batch, whereas processcosting systems accumulate costs by department. Another important
difference is the focus on equivalent units in process costing. An equivalent
unit is a measure of the amount of productive input that has been applied to
a fully or partially completed unit of product. In process costing, production
costs per equivalent unit are calculated for direct-material and conversion
costs. The key document in a process-costing system is the departmental
production report, rather than the job-cost sheet used in job-order costing.
There are four steps in preparing a departmental production report: (1)
analyze the physical flow of units, (2) calculate the equivalent units, (3)
compute the cost per equivalent unit, and (4) analyze the total costs of the
department.
In the weighted-average method of process costing, the cost per equivalent
unit, for each cost category, is a weighted average of (1) the costs assigned
to the beginning work-in-process inventory and (2) the costs incurred during
the current period.
Job-order and process costing represent the polar extremes of productcosting systems. Operation costing is a hybrid of these two methods. It is
designed for production processes in which the direct material differs
significantly among product lines but the conversion activities are
essentially the same. Direct-material costs are accumulated by batches of
products using job-order costing methods. Conversion costs are
accumulated by production departments and are assigned to product units
by process-costing methods.
Key terms
batch manufacturing - High-volume production of several product lines
that differ in some important ways but are nearly identical in others.
departmental production report -
equivalent units - , (..)
hybrid product-costing system -
,
operation costing -
process-costing systems - ,
,
(, )
unit -
weighted-average method - -
( )
Appendix
to
Chapter
)
Transferred- in costs
Direct material
Conversion:
Direct labor
Manufacturing overhead
As the T-accounts show, the Cutting Department has two cost elements:
direct-material and conversion costs. However, the Stitching Department
has three cost elements: direct-material, conversion, and transferred-in
costs. Transferred-in costs are the costs assigned to the units transferred
from the Cutting Department to the Stitching Department. Transferred-in
costs are conceptually similar to direct-material costs. The only difference is
that direct-material costs relate to raw materials, whereas transferred-in
costs relate to partially completed products.
Exhibit 4-12 presents the basic data for our illustration of process costing in
the Stitching Department. The March I work-in-process inventory in the
department consists of 10,000 units that received some work in the Stitching
Department during February but were not completed. The $61,000 of
transferred-in costs in the March I work-in-process inventory are costs that
were transferred into the Stitching Department's Work-in-Process Inventory
account during February. Note that any partially completed baseball glove
in the Stitching Department must have received all of its transferred-in
input, or it would not have been transferred from the Cutting Department.
The March I work-in-process inventory has not yet received any direct
material in the Stitching Department, because the direct material (rawhide
lacing) is not added until the end of the process.
As Exhibit 4-12 shows, 40,000 units were transferred into the Stitching
Department during March. This agrees with Exhibit 4-4, which shows that
40,000 units were completed and transferred out of the Cutting Department
during March. The Stitching Department completed 30,000 units during
March and transferred them to finished-goods inventory. This left 20,000
units in the Stitching Department's March 31 work-in-process inventory.
Exhibit 4-12 shows that the costs incurred in the Stitching Department
during March were $7,500 for direct material, $115,000 for direct labor, and
$115,000 for applied manufacturing overhead. The predetermined overhead
rate in the Stitching Department is 100 percent of direct-labor cost. Note
that the predetermined overhead rates are different in the two production
departments.
The March transferred-in cost in the Stitching Department is the cost of
goods completed and transferred out of the Cutting Department. The
amount shown in Exhibit 4-12, $290,400, comes from Exhibit 4-8.
40,000 units
30,000 units
WIP, March 31
20,000 units
Transferred in: 100% complete
Direct material: none
Conversion: 90% complete
Costs incurred during March:
Transferred in from Cutting Department (assumes $290,400
that weighted-average method was used for
Cutting Department)
Direct material
$ 7,500
Conversion costs:
Direct labor
$115,000
Applied manufacturing overhead
115,000+
Total conversion costs
$230,000
*These costs were incurred during the prior month, February,
+(Predetermined overhead rate) * (Direct-labor cost) = 1000% x
$115,000 = $115,000
Exhibit 4-13 presents a completed production report for the Stitching
Department using weighted- average process costing. Steps I through 4 are
identified in the exhibit. The process-costing procedures used for the
Stitching Department are identical to those used for the Cutting Department,
except for one important difference. While there were only two cost
elements (direct material and conversion) in the Cutting Department, there
are three cost elements in the Stitching Department. In each of the four steps
in Exhibit 4-13, transferred-in costs are listed along with direct material and
conversion as a separate cost element.
The analysis of the physical flow of units (step I in Exhibit 4-13) is like the
analysis for the Cutting Department. Now focus on step 2. In calculating
equivalent units, we add a "transferred-in" column. Both the 30,000 units
10
completed and transferred out of the Stitching Department and the March
31 work- in-process inventory are 100 percent complete as to transferred-in
activity. Thus, the number of equivalent units is the same as the number of
physical units. The calculation yields 50,000 total equivalent units of
transferred-in activity for March. The equivalent units of direct material and
conversion are determined as described earlier for the Cutting Department.
Costs per equivalent unit are computed in step 3. Since we are using the
weighted-average method, the transferred-in costs in the March 1 work-inprocess inventory are added to the March transferred-in costs before
dividing by the equivalent units. Direct material and conversion costs are
handled like those for the Cutting Department.
The analysis of total costs is done in step 4. The 30,000 units completed and
transferred out of the Stitching Department are assigned a total weightedaverage cost per unit of $12.228. This unit cost includes the transferred-in
cost per equivalent unit of $7.028 calculated in step 3. The cost remaining
in the work-in-process inventory on March 31 consists of two cost
elements: transferred-in costs (20,000 equivalent units X $7.028 per
equivalent unit) and conversion costs (18,000 equivalent units X $4.95 per
equivalent unit). The March 31 work-in-process inventory has not yet
received any direct material in the Stitching Department.
The following journal entry is made to transfer the cost of the units
completed to the Finished- Goods Inventory account.
Finished-Goods Inventory
366,840
Work-in-Process Inventory:
366,840
Stitching Department
To transfer the cost of goods
completed, as computed under the
weighted-average method
Exhibit 4-13. Production Report-Stitching Department (weightedaverage method)
Step 1
Step 2
Physic %
of Equivalent Units
al
Comple
Units
tion
with
Respect Transf Direct
Conversio
to Con
erred
Material n
version
in
WIP, March 1
10,000 20%
Units started
during March
Total units to
account for
40,000
Units
completed and
transferred out
during March
WIP, March 31
Total
units
accounted for
Total
equivalent
units
Step 3
30,000
50,000
20,000
50,000
WIP,
March1
(from
Exhibit412)
Costs
incurred
during
March
(from Exhibit 412)
Total costs to
account for
Equivalent units
Costs
per
equivalent unit
90%
30,000
30,000
30,000
20,000
-0-
18,000
50,000
30,000
48,000
Transferred
in
$ 61,000
Direct
Material
-0-
Convers
ion
$ 7,600
Total
290,400*
$7,500
230,000
527,900
$351,400
$7,500
$596,500
50,000
$7.028
30,000
$ 0.25
$237,60
0
48,000
$ 4.95
$351,400 /
50,000
$7,500
30,000
$237,60
0
/
48,000
$7.028 + $
0.25 + $
4.95
Step4
Cost of goods completed and transferred out of the
Stitching Department during March: (Number of units )
x ( Total cost per equivalent unit) =30,000 x $12.228
Cost remaining in March 31 work-in-process inventory
in the Stitching Department: Transferred-in costs:
(Number of equivalent units of transferred-in costs) *
$ 68,600
$12.228
$366,840
$140,560
11