Process Costing

CHAPTER 4

Managerial Accounting
Seventeenth edition
 4-2

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 costs.
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.

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 4-3

Differences Between Job-Order and

Process Costing

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 4-4

Quick Check 1
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.

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 4-5

Quick Check 1a
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.

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 4-6

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

The activities performed in a processing

department are performed uniformly on all
units of production. Furthermore, the output of
a processing department must be homogeneous.
Products in a process costing environment typically
flow in a sequence from one department to another.

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 4-7

Learning Objective 1

Record the flow of materials,

labor, and overhead through a
process costing system.

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 4-8

The Flow of Materials, Labor, and

Overhead Costs – Part 1

Direct
Materials

Work in Finished
Direct Labor
Process Goods

Manufacturing Cost of
Overhead Goods
Sold

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 4-9

The Flow of Materials, Labor, and

Overhead Costs – Part 2
Job-order costing systems
trace and apply
Direct manufacturing costs to jobs
Materials

Finished
Direct Labor Jobs Goods

Manufacturing Cost of
Overhead Goods
Sold

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 4-10

The Flow of Costs in a Process Costing

System
Costs are traced and applied to
departments in a process cost
Direct system.
Materials

Processing Finished
Direct Labor
Department Goods

Manufacturing Cost of
Overhead Goods
Sold

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 4-11

Flow of Raw Material Costs

For purposes of this example, assume

there are two processing departments –
Departments A and B.
We will use T-accounts and journal
entries.

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 4-12

Flow of Raw Material Costs: T-Account Form

Work in Process
Raw Materials Department A
•Direct •Direct
Materials Materials

Work in Process
Department B
•Direct
Materials

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 4-13

Flow of Raw Material Costs: Journal Entry Form

As in job-order costing, materials are drawn from the
storeroom using a materials requisition form.
Materials can be added in any processing department.
Here is the journal entry to issue raw materials to
Processing Department A and Department B.

Work in Process - Department A XXXXX

Work in Process - Department B XXXXX
Raw Materials XXXXX

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 4-14

The Flow of Labor Costs: T-Account Form

Salaries and Work in Process
Wages Payable Department A
•Direct
•Direct Materials
Labor •Direct
Labor

Work in Process
Department B
•Direct
Materials
•Direct
Labor

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 4-15

The Flow of Labor Costs: Journal Entry Form

In process costing, labor costs are traced to
departments—not to individual jobs. The following
journal entry records the labor costs recorded to
Department A and Department B.

Work in Process - Department A XXXXX

Work in Process - Department B XXXXX
Salaries and Wages Payable XXXXX

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 4-16

The Flow of Manufacturing Overhead

Costs: T-Account Form
Work in Process
Department A
Manufacturing •Direct
Overhead Materials
•Direct
•Actual •Overhead Labor
Overhead Applied to •Applied
Work in Overhead
Process
Work in Process
Department B
•Direct
Materials
•Direct
Labor
•Applied
Overhead
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 4-17

The Flow of Manufacturing Overhead

Costs: Journal Entry Form
In process costing, as in job-order costing, predetermined
overhead rates are usually used. Manufacturing overhead
cost is applied according to the amount of the allocation
base that is incurred in the department. The following
journal entry records the overhead cost applied to
Department A and Department B.

Work in Process - Department A XXXXX

Work in Process - Department B XXXXX
Manufacturing Overhead XXXXX

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 4-18

Transfers from Work In Process-Dept. A to Work In

Process-Dept. B: T-Account Form
Work in Process Work in Process
Department A Department B
•Direct Transferred •Direct
Materials to Dept. B Materials
•Direct •Direct
Labor Labor
•Applied •Applied
Overhead Overhead
•Transferred
from Dept. A

The transferred-in costs from Department A are added to

the manufacturing costs incurred in Department B.

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 4-19

Transfers from Work In Process-Dept. A to Work In

Process-Dept. B: Journal Entry Form
Once processing has been completed in a
department, the units are transferred to the next
department for further processing.

Work in Process - Department B XXXXX

Work in Process - Department A XXXXX

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 4-20

Transfers from Work In Process–Dept. B to

Finished Goods: T-Account Form

Work in Process
Department B Finished Goods
•Direct •Cost of •Cost of
Materials Goods Goods
•Direct Manufactured Manufactured
Labor
•Applied
Overhead
•Transferred
from Dept. A

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 4-21

Transfers from Work In Process–Dept. B to

Finished Goods: Journal Entry Form

After processing has been finished in Department

B, the costs of the completed units are transferred
to the Finished Goods inventory account:

Finished Goods XXXXX

Work in Process - Department B XXXXX

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 4-22

Transfers from Finished Goods Inventory to

Cost of Goods Sold: T-Account Form
Work in Process
Department B Finished Goods
•Direct •Cost of •Cost of •Cost of
Materials Goods Goods Goods
•Direct Manufactured Manufactured Sold
Labor
•Applied
Overhead
•Transferred
from Dept. A Cost of Goods Sold

•Cost of
Goods
Sold

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 4-23

Transfers from Finished Goods to Cost of

Goods Sold: Journal Entry Form

Finally, when a customer’s order is filled and units

are sold, the cost of the units is transferred to Cost
of Goods Sold:

Cost of Goods Sold XXXXX

Finished Goods XXXXX

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 4-24

Process Costing Computations: Three Key Concepts

– Part 1
In process costing, each department needs to calculate two
numbers for financial reporting purposes—the cost of its ending
work in process inventory and the cost of its completed units that
were transferred to the next stage of the production process. The
key to deriving these two numbers is calculating unit costs within
each department.

Key Concept #1: There are two methods for performing the
computations, the weighted-average method and the FIFO method.
The weighted-average method of process costing calculates unit
costs by combining costs and outputs from the current and prior
periods. The FIFO method of process costing, which will be covered
in Appendix 4A, calculates unit costs based solely on the costs and
outputs from the current period.

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 4-25

Process Costing Computations: Three Key Concepts

– Part 2
Characteristics of the weighted-average method:
a)This method makes no distinction between work
done in the prior and current periods. It blends
together units and costs from the prior and current
periods.
b)The equivalent units of production for a
department are the number of units transferred to
the next department (or finished goods) plus the
equivalent units in the department’s ending work in
process inventory.

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 4-26

Process Costing Computations: Three Key Concepts

– Part 3

Key Concept #2: Conversion Costs

Direct labor costs are often small in
comparison to the other product costs in
process cost systems.

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 4-27

Process Costing Computations: Three Key Concepts

– Part 4
Therefore, direct labor and manufacturing overhead are often combined
into one classification of product cost called conversion costs.
The example combines these costs:

Direct
Materials
Dollar Amount

Conversion

Direct Labor
Direct Manufacturing
Labor Overhead

Type of Product Cost

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 4-28

Process Costing Computations: Three Key Concepts

– Part 5
Key Concept #3: Equivalent Units
a)Equivalent units  Defined as the product of the number
of partially completed units and the percentage completion
of those units.
b)Equivalent units need to be calculated because a
department usually has some partially completed units in
its beginning and ending inventories. These partially
completed units complicate the determination of a
department’s output for a given period, and the unit cost
that should be assigned to that output.

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 4-29

Calculating Equivalent Units

Equivalent units is the product of the number of partially completed

units and the percentage completion of those units with respect to
the processing in the department. The equivalent units is the
number of complete units that could have been obtained from the
materials and effort that went into the partially complete units.

Assume Department A has 500 units in its ending work in process

inventory that are 60% complete with respect to processing in the
department. These 500 partially complete units are equivalent to
300 fully complete units (500 × 60% = 300). Department A’s ending
work in process inventory would contain 300 equivalent units for the
period.
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 4-30

Quick Check 2
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

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 4-31

Quick Check 2a
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
10,000 units + (5,000 units × 0.30)
b. 11,500 = 11,500 equivalent units
c. 13,500
d. 15,000

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 4-32

Learning Objective 2

Compute the equivalent units

of production using the
weighted-average method.

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 4-33

Step 1: Compute the Equivalent

Units of Production – Part 1
Smith Company reported the following activity in the
Assembly Department for the month of June:
Percent Completed
Units 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%

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 4-34

Step 1: Compute the Equivalent

Units of Production – Part 2
Begin by calculating the equivalent units completed and transferred
out of the Assembly Department in June (5,400 units).

Materials Conversion
Units completed and transferred
out of the Department in June 5,400 5,400

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 4-35

Step 1: Compute the Equivalent

Units of Production – Part 3
Next, identify the equivalent units of production in ending work in
process with respect to materials for the month (540 units) and adding
this to the 5,400 units from step one.
Materials Conversion
Units completed and transferred
out of the Department in June 5,400 5,400
Work in process, June 30:
900 units × 60% 540

Equivalent units of Production in

the Department during June 5,940

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 4-36

Step 1: Compute the Equivalent

Units of Production – Part 4
Finally, identify the equivalent units of production in ending work
in process with respect to conversion for the month (270
units) and adding this to the 5,400 units.

Materials Conversion
Units completed and transferred
out of the Department in June 5,400 5,400
Work in process, June 30:
900 units × 60% 540
900 units × 30% 270
Equivalent units of Production in
the Department during June 5,940 5,670

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 4-37

Step 1: Compute the Equivalent

Units of Production – Part 5
Equivalent units of production always equals:
Units completed and transferred
+ Equivalent units remaining in work in process

Materials Conversion
Units completed and transferred
out of the Department in June 5,400 5,400
Work in process, June 30:
900 units × 60% 540
900 units × 30% 270
Equivalent units of Production in
the Department during June 5,940 5,670

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 4-38

Step 1: Compute the Equivalent

Units of Production – Part 6
6,000 Units Started
Materials

Beginning Ending
Work in Process 5,100 Units Started Work in Process
300 Units and Completed 900 Units
40% Complete 60% Complete

5,400 Units Completed

540 Equivalent Units 900 × 60%
5,940 Equivalent units
of production
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 4-39

Step 1: Compute the Equivalent

Units of Production – Part 7
6,000 Units Started
Conversion

Beginning Ending
Work in Process 5,100 Units Started Work in Process
300 Units and Completed 900 Units
20% Complete 30% Complete

5,400 Units Completed

900 × 30%
270 Equivalent Units
5,670 Equivalent units
of production
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 4-40

Learning Objective 3

Compute the cost per

equivalent unit using the
weighted-average method.

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 4-41

Step 2: Compute the Cost per

Equivalent Unit – Part 1
Beginning Work in Process Inventory: 300 units

Materials: 40% complete $ 6,119

Conversion: 20% complete $ 3,920

Production started during June 6,000 units

Production completed during June 5,400 units

Costs added to production in June

Materials cost $ 118,621
Conversion cost $ 81,130

Ending Work in Process Inventory: 900 units

Materials: 60% complete
Conversion: 30% complete
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 4-42

Step 2: Compute the Cost per

Equivalent Unit – Part 2
The formula for computing the cost per equivalent
unit is:

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 4-43

Step 2: Compute the Cost per

Equivalent Unit – Part 3
Here is a schedule with the cost and equivalent
unit information.

Total
Cost Materials Conversion
Cost to be accounted for:
Work in process, June 1 $ 10,039 $ 6,119 $ 3,920
Cost added in Assembly 199,751 118,621 81,130
Total cost $ 209,790 $ 124,740 $ 85,050

Equivalent units 5,940 5,670

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 4-44

Step 2: Compute the Cost per

Equivalent Unit – Part 4
Here is a schedule with the cost and equivalent
unit information.
$124,740 ÷ 5,940 units = $21.00 $85,050 ÷ 5,670 units = $15.00
Total
Cost Materials Conversion
Cost to be accounted for:
Work in process, June 1 $ 10,039 $ 6,119 $ 3,920
Cost added in Assembly 199,751 118,621 81,130
Total cost $ 209,790 $ 124,740 $ 85,050

Equivalent units 5,940 5,670

Cost per equivalent unit $ 21.00 $ 15.00

Cost per equivalent unit = $21.00 + $15.00 = $36.00

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 4-45

Learning Objective 4

Assign costs to units using the

weighted-average method.

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 4-46

Step 3: Assign Costs to Units – Part 1

Assembly Department
Cost of Ending WIP Inventory and Units Transferred Out
Materials Conversion Total
Ending WIP inventory:
Equivalent units 540 270

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 4-47

Step 3: Assign Costs to Units – Part 2

Assembly Department
Cost of Ending WIP Inventory and Units Transferred Out
Materials Conversion Total
Ending WIP inventory:
Equivalent units 540 270
Cost per equivalent unit $ 21.00 $ 15.00

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 4-48

Step 3: Assign Costs to Units – Part 3

Assembly Department
Cost of Ending WIP Inventory and Units Transferred Out
Materials Conversion Total
Ending WIP inventory:
Equivalent units 540 270
Cost per equivalent unit $ 21.00 $ 15.00
Cost of Ending WIP inventory $ 11,340 $ 4,050 $ 15,390

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 4-49

Step 3: Compute Cost of Units Transferred

Out
Assembly Department
Cost of Ending WIP Inventory and Units Transferred Out
Materials Conversion Total
Ending WIP inventory:
Equivalent units 540 270
Cost per equivalent unit $ 21.00 $ 15.00
Cost of Ending WIP inventory $ 11,340 $ 4,050 $ 15,390
Units completed and transferred out:
Units transferred 5,400 5,400

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 4-50

Step 3: Assign Costs to Units – Part 4

Assembly Department
Cost of Ending WIP Inventory and Units Transferred Out
Materials Conversion Total
Ending WIP inventory:
Equivalent units 540 270
Cost per equivalent unit $ 21.00 $ 15.00
Cost of Ending WIP inventory $ 11,340 $ 4,050 $ 15,390
Units completed and transferred out:
Units transferred 5,400 5,400
Cost per equivalent unit $ 21.00 $ 15.00

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 4-51

Step 3: Assign Costs to Units – Part 5

Assembly Department
Cost of Ending WIP Inventory and Units Transferred Out
Materials Conversion Total
Ending WIP inventory:
Equivalent units 540 270
Cost per equivalent unit $ 21.00 $ 15.00
Cost of Ending WIP inventory $ 11,340 $ 4,050 $ 15,390
Units completed and transferred out:
Units transferred 5,400 5,400
Cost per equivalent unit $ 21.00 $ 15.00
Cost of units transferred out $ 113,400 $ 81,000 $ 194,400

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 4-52

Learning Objective 5

Prepare a cost reconciliation

report using the weighted-
average method.

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 4-53

Step 4: Prepare a Cost Reconciliation

Report – Part 1
Assembly Department
Cost Reconciliation
Costs to be accounted for:
Cost of beginning Work in Process Inventory $ 10,039
Costs added to production during the period 199,751
Total cost to be accounted for $ 209,790

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 4-54

Step 4: Prepare a Cost Reconciliation Report –

Part 2
Assembly Department
Cost Reconciliation
Costs to be accounted for:
Cost of beginning Work in Process Inventory $ 10,039
Costs added to production during the period 199,751
Total cost to be accounted for $ 209,790

Cost accounted for as follows:

Cost of ending Work in Process Inventory $ 15,390
Cost of units transferred out 194,400
Total cost accounted for $ 209,790

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 4-55

Operation Costing

Operation costing is a hybrid of job-order and process

costing because it possesses attributes of both
approaches.

Operation costing is commonly used when batches

of many different products pass through the same
processing department.

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 4-56

End of Chapter 4

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