Process Costing

Chapter 18

PowerPoint Authors: Susan Coomer Galbreath, Ph.D., CPA Charles W. Caldwell, D.B.A., CMA Jon A. Booker, Ph.D., CPA, CIA Cynthia J. Rooney, Ph.D., CPA
McGraw-Hill/Irwin Copyright 2012 The McGraw-Hill Companies, Inc.

Production of Goods and Services and Costing Systems

18-2

Process Costing
Used for production of small, identical, low-cost items. Mass produced in automated continuous production process. Costs cannot be directly traced to each unit of product.

Typical process cost applications:

Petrochemical refinery Paint manufacturer

Paper mill
18-3

Tracking the Physical Flow and Related Production Costs

Direct Materials The Work in Process account consists of individual jobs in job costing. Jobs Finished Goods

Direct Labor

Factory Overhead

Cost per unit for each job

18-4

Tracking the Physical Flow and Related Production Costs

Direct Materials The Work in Process account consists of specific processes in process costing. Processes Direct Labor and Factory Overhead (Conversion) Finished Goods

Cost per unit processed

18-5

Tracking the Physical Flow and Related Production Costs

Same objective: to determine the cost of products

Same inventory accounts: raw materials, work in process, and finished goods

Same overhead assignment method: predetermined rate times actual activity

18-6

Understanding Cost Flows

Materials Indirect Direct

Work in Process Assembly Work in Process Packaging Finished Goods

Conversion Costs Delivered to Customers

18-7

Labor

Factory Overhead

Understanding Cost Flows

Costs are accumulated for a period of time by process or department. Unit cost is computed by dividing the accumulated costs by the number of units produced in the period. If partially complete units remain in process, we must use equivalent units as the divisor to obtain unit costs.
18-8

Process Costing and Equivalent Units

Equivalent units is a concept expressing a number of partially completed units as a smaller number of fully completed units. Two one-half full pitchers are equivalent to one full pitcher.

18-9

Process Costing and Equivalent Units

For the current period, PencilCo 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 PencilCo have for the period? a. 10,000 b. 11,500 c. 1,500

d. 15,000

18-10

Process Costing and Equivalent Units

For the current period, PencilCo 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 PencilCo have for the period? a. 10,000 b. 11,500 c. 1,500
10,000 units + (5,000 units .30) = 11,500 equivalent units

d. 15,000

18-11

Cost per Equivalent Unit

Cost per equivalent = unit Product costs for the period Equivalent units for the period

18-12

Cost per Equivalent Unit

Now assume that PencilCo incurred $27,600 in production costs. What was PencilCos cost per unit for the period? a. $1.84 b. $2.40 c. $2.76 d. $2.90

18-13

Cost per Equivalent Unit

Now assume that PencilCo incurred $27,600 in production costs. What was PencilCos cost per unit for the period? a. $1.84 $27,600 11,500 equivalent units b. $2.40 = $2.40 per equivalent unit c. $2.76 d. $2.90

18-14

Process Costing and Equivalent Units

40% of Material Stage 1 25% of Conversion At completion of Stage 1 of the process, material is 40% complete, but conversion is only 25% complete.
18-15

Equivalent units may be different for material and conversion at different stages of a process.

Process Costing and Equivalent Units

40% of Material Stage 1 25% of Conversion

60% of Material Stage 2

100%

25% of Conversion

50%

18-16

Process Costing and Equivalent Units

40% of Material Stage 1 25% of Conversion 60% of Material Stage 2 25% of Conversion Stage 3 50% of Conversion

The process is now complete.

18-17

Process Costing

Owl Inc. uses FIFO process costing in its Fabrication Department where a product called Strata is made.
18-18

Process Costing
Owl Inc Fabrication Department Data For April
Beginning Inventory: Units of product Percentage of completion - direct material Percentage of completion - conversion Units started in April Units transferred from fabrication to mixing Ending Inventory: Units of product Percentage of completion - direct material Percentage of completion - conversion 20,000 100% 25% 30,000 100% 40% 90,000 100,000

Material is added at the beginning of the process so it is always 100% complete.

18-19

Physical Flow of Units

April Fabrication Department Physical Flow
Units to account for: Beginning inventory Units started during April Total number of units Units accounted for as: Units transferred from Fabrication to Mixing Ending inventory Total number of units

30,000 90,000 120,000

100,000 20,000 120,000

18-20

Computing Equivalent Units of Production

Since materials are added at the beginning of the process, no additional materials are necessary to complete the beginning inventory.
Fabrication Department Direct Material Equivalent Units of Production - April
Units of Product Beginning goods in process Goods started and completed Ending work in process Total units 30,000 70,000 20,000 120,000 Percent Added Equivalent This Period Units 0% 100% 100% 0 70,000 20,000 90,000
18-21

Computing Equivalent Units of Production

100,000 units completed and transferred.

Fabrication Department Direct Material Equivalent Units of Production - April

Units of Product Beginning goods in process Goods started and completed Ending work in process Total units 30,000 70,000 Percent Added Equivalent This Period Units

} 100,000

0%

0 70,000 20,000 90,000

18-22

100% 100%

20,000 120,000

Computing Equivalent Units of Production

Since conversion is 40 percent complete in the beginning inventory, 60 percent of the work must be completed in April.
Fabrication Department Conversion Equivalent Units of Production - April
Units of Percent Added Equivalent Product This Period Units Beginning goods in process Goods started and completed Ending work in process Total units 30,000 70,000 20,000 120,000 60% 100% 25% 18,000 70,000 5,000 93,000
18-23

Computing Equivalent Units of Production

Fabrication Department Conversion Equivalent Units of Production - April

Units of Percent Added Equivalent Product This Period Units Beginning goods in process Goods started and completed Ending work in process Total units 30,000 70,000 20,000 120,000

100,000 60% Transferred 100%

25%

18,000 70,000 5,000 93,000

18-24

Computing Equivalent Units of Production

Summary of Fabrication Department Equivalent Units of Production - April
Activities during April Units from beginning inventory processed in current period Units started and completed in current period Units in ending inventory at end of current period Equivalent units of production for period Direct Material 0 70,000 Conversion 18,000 70,000

20,000

5,000

90,000

93,000
18-25

Process Costing and Equivalent Units

Fabrication Department April Work in Process Costs Beginning work in process Costs added in April: Direct material Conversion Total costs to account for $ 22,380 45,000 55,800 $ 123,180

18-26

Cost per Equivalent Unit

Fabrication Department Cost Per Equivalent Unit - April
Direct Materials Total cost of resource for April Equivalent units of production in April Cost per equivalent unit for April $ 45,000 Conversion $ 55,800

90,000

93,000

= $

0.50 = $

0.60

18-27

Cost of Completed Units

Fabrication Department Work in Process Cost Summary for April Cost of completed units From beginning work in process April 1 balance Costs to complete April 1 inventory Direct material Conversion Started and completed Total completed and transferred

$ 22,380

18-28

Cost of Completed Units

Fabrication Department Work in Process Cost Summary for April Cost of completed units From beginning work in process April 1 balance Costs to complete April 1 inventory Direct material Conversion (18,000 $0.60) Started and completed Total completed and transferred

$ 22,380 $ 0 10,800

10,800

18-29

Cost of Completed Units

Fabrication Department Work in Process Cost Summary for April Cost of completed units From beginning work in process April 1 balance Costs to complete April 1 inventory Direct material Conversion (18,000 $0.60)

$ 22,380 $ 0 10,800

10,800 77,000 $ 110,180

Started and completed (70,000 $1.10) Total completed and transferred (100,000 units)

$0.50 + $0.60 = $1.10

18-30

Tracking Costs Using a Process Costing Production Report

We will account for all costs incurred by assigning unit costs to the:
A. 100,000 units completed and transferred. B. 20,000 units remaining in ending work in process inventory.

18-31

Tracking Costs Using a Process Costing Production ReportFabrication Department Work in Process
Cost Summary for April Cost of completed units From beginning work in process April 1 balance Costs to complete April 1 inventory Direct material Conversion (18,000 $0.60) $ 22,380 $ 0 10,800

10,800 77,000 $ 110,180

Started and completed (70,000 $1.10) Total completed and transferred (100,000 units) Cost of ending work in process Direct material (20,000 $0.50) Conversion Total cost accounted for $ 10,000

18-32

Tracking Costs Using a Process Costing Production ReportFabrication Department Work in Process
Cost Summary for April Cost of completed units From beginning work in process April 1 balance Costs to complete April 1 inventory Direct material Conversion (18,000 $0.60) $ 22,380 $ 0 10,800

10,800 77,000 $ 110,180

Started and completed (70,000 $1.10) Total completed and transferred (100,000 units) Cost of ending work in process Direct material (20,000 $0.50) Conversion (5,000 $0.60) Total cost accounted for $ 10,000 3,000

13,000 $ 123,180
18-33

All costs accounted for

Evaluating Departmental Efficiency

Only those costs incurred within a department are considered for efficiency analysis. Costs transferred in from other departments should not be allowed to cloud the picture.
Comparing the current periods unit costs, for material and conversion, with budgeted unit costs or with last periods unit costs are common efficiency measures.

18-34

Ethics, Fraud and Corporate Governance

Overstating the number of equivalent units of production understates the cost per equivalent, resulting in an understatement of cost of goods manufactured and sold, and an overstatement of income.

Overstating the number of equivalent units in ending inventory understates cost of goods sold and overstates income.
18-35

End of Chapter 18

18-36