Chapter 9
Recording and
Evaluating
Conversion
Process Activities
McGraw-Hill/Irwin
Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved.
What are the Primary Activities in
the Conversion Process?
• Schedule production
• Obtain raw materials (internal transfer)
• Use labor and manufacturing resources to
convert raw materials into finished goods
• Store finished goods until sold (internal
transfer)
9-2
Which of the Conversion Process
Activities are Accounting Events?
• Obtain raw materials
 Increase work-in-process inventory
 Decrease direct materials inventory
• Use labor and overhead
 Increase work-in-process inventory
• Store finished goods
 Increase finished goods inventory
 Decrease work-in-process inventory
9-3
What is the Basic Flow of Information
in the Conversion Process?
• Customer places an order and production is
scheduled
• Raw materials are requisitioned and recorded
• Labor is used and recorded
• Cost record prepared and goods are
manufactured
• Goods are finished and recorded
9-4
What are the Manufacturing
Inventory Accounts?
• Direct materials inventory
 Current asset (similar to Merchandise
Inventory for a merchandising company):
Cost of direct materials on hand
 Increases when purchases of direct materials
are made (Chapter 8)
 Decreases when direct materials are
requisitioned into production
9-5
Inventories Continued
• Work-in-process inventory
 Current asset: Cost of products that have
been started but not completed
 Increases when direct materials are
requisitioned into production
 Increases when direct labor is used in
production
 Increases when manufacturing overhead is
applied to production
 Decreases when products are finished
9-6
Inventories Continued
• Finished goods inventory
 Current asset: Cost of products that have been
finished but not sold
 Increases when products are finished
 Decreases when products are sold (Chapter
10)
9-7
How do Costs Flow through the
Inventory Accounts?
Beginning direct materials inventory
+ Purchases of direct materials
= Cost of direct materials available for use
- Direct materials issued into production
= Ending direct materials inventory
9-8
Cost Flows Continued
Beginning work-in-process inventory
+ Direct materials issued into production
+ Direct labor used in production
+ Applied manufacturing overhead
= Cost of goods in process
- Cost of goods manufactured
= Ending work-in-process inventory
9-9
Cost Flows Continued
Beginning finished goods inventory
+ Cost of goods manufactured
= Cost of goods available for sale
- Cost of goods sold
= Ending finished goods inventory
9-10
How does the Manufacturing
Overhead Application Process Work?
• Beginning of period
 Estimate overhead for each cost pool
•
•
•
•
Unit-related
Batch-related
Product-sustaining
Facility-sustaining
 Estimate cost drivers for each cost pool
 Divide estimated overhead by estimated cost
driver = predetermined overhead rate
9-11
Overhead Application Continued
• During period
 Apply overhead to production as the cost driver
is used
 Record actual overhead as incurred
• End of period
 Compare total applied overhead to total actual
overhead
 Close the overhead account to Cost of Goods
Sold (difference between applied and actual)
9-12
What are Variances?
• Difference between the standards and the
actual prices or quantities
• Direct labor variances
 Direct labor price variance
 Direct labor usage variance
• Direct material variances
 Direct material price variance
 Direct material usage variance
 Direct material inventory variance
9-13
How are Direct Labor Variances
Calculated?
• Direct labor price variance
 (SP – AP) * AH
 Tells us whether we paid more or less for labor
than anticipated (budgeted)
• Direct labor usage variance
 (AH – SHa) * SP
 Tells us whether we worked more or less hours
than planned given the number of units
produced
9-14
How are Direct Material Variances
Calculated?
• Direct materials price variance
 (AP – SP) * AQp
 Tells us whether we paid more or less for direct
materials than anticipated (budgeted)
• Direct materials usage variance
 (AQu – SQa) * SP
 Tells us whether we used more or less direct materials
than planned given the number of units produced
• Direct materials inventory variance
9-15
 (AQp – AQu) * SP
 Tells us whether inventory levels are increasing or
decreasing