BA213: Chapter 18—Process Costing
Process Cost Accounting
Study Objectives for Process Costing:
1. Understand who uses process cost systems.
2. Explain the similarities and differences between job order cost and process cost
systems.
3. Explain the flow of costs in a process cost system.
4. Make the journal entries to assign manufacturing costs in a process cost system
5. Compute equivalent units.
6. Explain the four steps necessary to prepare a production cost report.
7. Prepare a production cost report.
I. THE NATURE OF PROCESS COST SYSTEMS
A. USES OF PROCESS COST SYSTEMS
1. Process cost systems are used to apply costs to similar products that are mass
produced in a continuous fashion.
2. In a process cost system, costs are tracked through a series of connected
manufacturing processes or departments, rather than by individual jobs (as in
job order cost systems).
3. A process cost accounting system is used for continuous process manufacturing,
and it is necessary to record both the accumulation and assignment of
manufacturing costs.
a) A distinctive feature of process cost accounting is that individual Working
Process Inventory accounts are maintained for each production department
or manufacturing process.
b) In a beverage company, there would be a Work in Process Inventory account
for each of the manufacturing processes.
B. SIMILARITIES AND DIFFERENCES BETWEEN JOB ORDER AND PROCESS
COST SYSTEMS
1. SIMILARITIES BETWEEN JOB ORDER COST AND PROCESS COST
SYSTEMS—Job order and process cost systems are similar in three ways :
a) The 3 manufacturing cost elements. They both track direct materials, direct
labor, and manufacturing overhead.
b) The accumulation of the costs of materials, labor, and overhead:
1) Both debit the purchase of raw materials to Raw Materials Inventory.
2) Both debit the cost of factory labor to Factory Labor.
3) Both debit all manufacturing overhead costs to Manufacturing
Overhead.
c) The flow of costs (although the methods of assigning costs differ
significantly). The flow of costs of the two systems is shown below:
Job Order Cost Flow
DM
→
WIP
→
FG Inventory
→
COGS
DL
MO
Job No. 101
Job No. 102
Process Cost Flow
DM
DL
MO
→
WIP—
Dept. A
→
WIP—
Dept B
→
FG Inventory
→
COGS
2. DIFFERENCES BETWEEN JOB ORDER COST AND PROCESS COST
SYSTEMS are different in three ways:
a) The number of work in process accounts used.
1) In a job order system, there is only one Work in Process account.
2) In a process cost system, there are multiple Work in Process accounts—
separate accounts for each production department or manufacturing
process.
b) Documents used to track costs.
1) In a job order system, costs are assigned to individual jobs and
summarized in a job cost sheet.
2) In a process cost system, costs are tracked through a series of connected
manufacturing processes or departments, rather than by individual jobs.
Thus, process cost systems are used when a large volume of uniform or
relatively homogenous products are produced (Examples: Ben & Jerry’s
ice cream; Kellogg and General Mills cereal; Exxon-Mobil oil refining;
Sherwin Williams paint products; Coca-Cola beverages, etc.
3) A feature of process costing is that costs charged to work in process are
summarized in production cost reports.
c) The point at which costs are totaled.
1) In a job order system, total costs are determined when the job is
completed.
2) In a process cost system, total costs are determined at the end of a period
of time, usually a month.
d) Unit cost computations.
1) In a job order cost system, the unit cost is the total cost per job divided by
the units produced as follows:
Total Cost per Job
÷
Units Produced
=
Cost per Unit
2) Unit costs are calculated by dividing total manufacturing costs for the
period by the units produced during the period and calculated for
materials costs and conversion costs as explained later.
e) The major differences between job order cost accounting and process cost
accounting are summarized below:
Feature
Work in process accounts
Documents used
Determination of total
manufacturing costs
Job Order Cost System
Process Cost System
One for each job
Jobs cost sheets
One for each process
Production cost reports
Each job
Each period
Unit-cost computations
Cost of each job ÷ Units
produced for the job
Total manufacturing costs
÷ Units produced during
the period
C. FLOW OF COSTS IN PROCESS COST SYSTEM that shows the flow of costs
through various accounts in process cost accounting:
1. Separate work in process accounts are provided for each producing department.
2. Manufacturing costs are accumulated by debits to Raw Materials Inventory,
Factory Labor, and
Manufacturing Overhead.
3. These costs are then assigned to Work in Process, Finished Goods Inventory,
and Cost of Goods Sold.
a) As the flow of costs indicates, materials, labor, and manufacturing overhead
can be added in both Machining and Assembly Departments.
b) When the Machining Department finishes its work, the partially completed
units are transferred to the Assembly Department.
c) In the Assembly department, the goods are finished and are then transferred
to the finished goods inventory.
d) The goods are removed from finished goods inventory when sold.
D. ASSIGNMENT OF MANUFACTURING COSTS—JOURNAL ENTRIES
1. The accumulation of materials and labor costs is the same in process costing as
in job order costing.
a) All raw materials are debited to Raw Materials Inventory when the
materials are purchased.
b) All factory labor is debited to Factory Labor when the labor costs are
incurred.
c) Overhead costs are debited to Manufacturing Overhead as they are
incurred.
2. However, the assignment of the three manufacturing cost elements to Work in
Process in a process cost system is different from a job order cost system.
Making the journal entries to assign manufacturing costs in a process cost
system area as follows:
a) Materials Costs
1) In a process cost system, fewer materials requisitions slips are usually
required than in a job order cost system, since materials are used for
processes rather than for specific jobs.
2) For example, in the manufacture of Hershey candy bars, Tyler
Manufacturing Company, by the end of the period, has accumulated the
materials, labor, and overhead costs in each production department’s
Work in Process account and therefore the journal entry shows two
debits to the two work in process accounts as follows:
General Journal
Page 1
P.R
Date
Account Title
Debit
Credit
201X
Mon.
Day Work in Process Inventory—Machining
XXXX
Work in Process Inventory—Assembly
XXXX
Raw Materials Inventory
(To record materials used)
XXXX
b) Factory Labor Costs
1) In process costing, as in fob order costing, time tickets may be used to
determine the cost of labor assignable to the production departments.
2) The labor cost chargeable to a process can be obtained from the payroll
register to departmental payroll summaries.
3) The entry to assign these costs is:
General Journal
Page 1
P.R
Date
Account Title
Debit
Credit
201X
Mon.
Day Work in Process Inventory—Machining
XXXX
Work in Process Inventory—Assembly
XXXX
Factory Labor
XXXX
(To assign factory labor to production)
c) Manufacturing Overhead Costs
1) In process cost accounting, the objective in assigning overhead is to
allocate the overhead costs to the production departments on an objective
and equitable basis.
2) That basis is the activity the “drives” or causes the costs.
3) A primary driver of overhead costs is continuous manufacturing
operations in machine time used, not direct labor.
4) The entry to allocate overhead in the 2 processes is:
General Journal
Page 1
P.R
Date
Account Title
Debit
Credit
201X
Mon.
Day Work in Process Inventory—Machining
XXXX
Work in Process Inventory—Assembly
XXXX
Manufacturing Overhead
XXXX
(To assign overhead to processes)
d. Transfer to Next Department
1) At the end of the month, an entry is needed to record the cost of the goods
transferred out of the department.
2) The transfer is to the Assembly Department and the following entry is
made:
General Journal
Page 1
P.R
Date
Account Title
Debit
Credit
201X
Mon.
Day Work in Process Inventory—Assembly
XXXX
Work in Process Inventory—Machining
XXXX
(To record the transfer of units to the
Assembly Department).
e. Transfer to Finished Goods
1) The units completed in the Assembly Department are transferred to the
finished goods warehouse.
2) The entry for this transfer is as follows:
General Journal
Account Title
Page 1
P.R
Date
Debit
Credit
201X
Mon.
Day Finished Goods Inventory
XXXX
Work in Process Inventory—Assembly
XXXX
(To record transfer of units to finished
goods).
f. Transfer to Cost of Goods Sold—when finished goods are sold, the entries to
record the sale and the cost of goods sold are as follows:
General Journal
Page 1
P.R
Date
Account Title
Debit
Credit
201X
Mon.
Day Accounts Receivable
XXXX
Sales
XXXX
(To record sale of units)
Day Cost of Goods Sold
Finished Goods Inventory
(To record the cost of units sold)
XXXX
XXXX
II. EQUIVALENT UNITS
A. Determining the amounts to assign.
1. By the end of the period, Tyler Manufacturing Company has accumulated the
materials, labor, and overhead costs in each production department’s Work in
Process account.
2. These accumulated costs must now be assigned to:
a) The units transferred out of each department and
b) The units in the ending Work in Process in each department.
3. The procedures used in calculating and assigning the costs present the most
difficult challenge to your understanding of process cost account.
a) For each process, it is necessary to perform the following procedures at the
end of the period:
1)
2)
3)
4)
5)
Calculate the physical units.
Calculate equivalent units of production.
Calculate unit costs of production.
Assign costs to the units transferred and in process.
Prepare the production cost report
B. Compute Equivalent Units
1. Equivalent units of production are the work done during the period on the
physical units of output, expressed in terms of fully completed units.
2. Equivalent units of production are determined by applying the percentage of
work done to the physical units of output.
3. Equivalent units are the sum of the work performed to:
a) Finish the units of beginning work in process inventory.
b) Complete the units started into production during the period.
c) Start, but only partially complete, the units in ending work in process
inventory.
4. Compute the cost of instruction at your college per full-time equivalent student:
a) Part-time students take 60 percent of the classes of a full-time student during
the year.
b) To compute the number of full-time equivalent students per year, you would
make the following computation:
Full-time
Equivalent Units of
+
= Full-time Equivalent Students
Students
Part-time Students
900
+
(60% x 1,000)
=
1,500
c) The cost of instruction per full-time equivalent student is therefore the total
cost of instruction ($9,000,000) divided by the number of full-time equivalent
students (1,500), which is $6,000 ($9,000,000 / 1,500).
d) In a process cost system, the same idea, called equivalent units of
production, is used. Equivalent units of production measure the work done
during the period expressed in fully completed units. This concept is used to
determine the cost per unit of completed product.
C. WEIGHTED-AVERAGE METHOD
1. The formula to compute equivalent units of production is as follows:
Units Completed and
Equivalent Units of
Equivalent Units of
+
=
Transferred Out
Ending Work in Process
Production
Blending Department
0
+
10,000
+
(60% x 4,000)
=
2,400
Packaging Department
(70% x 5,000)
=
13,500
2. This method of computing equivalent units is referred to as the weightedaverage method.
a) It considers the degree of completion (weighting) of the units (1)
completed and (2) transferred out and the (3) ending work in process.
b) It is the method most widely used in practice.
D. REFINEMENTS ON THE WEIGHTED-AVERAGE METHOD
1. EXAMPLE: Kellogg Company has produced Eggo® Waffles since 1970.
Three departments are used to produce these waffles:
a) Mixing,
b) Baking, and
c) Freezing and Packaging.
2. Example:
a) The beginning inventory is:
1) 100% complete as to materials cost—both the dry and liquid
ingredients (materials) are added at the beginning of the process to
make Eggo® Waffles.
2) 70% complete as to conversion costs (labor and overhead)—as
these are added uniformly and now 70% done.
b) The ending work in process is:
1) 100% complete as to materials cost.
2) 60% complete as to conversion costs (labor and overhead).
3. Computation of equivalent units:
a) The beginning work in process in not part of the equivalent units of
production formula as they would have probably be completed and
transferred out.
b) The units transferred out will be 100% complete for both materials and
conversion costs. Therefore 700,000 units x 100% = 700,000 under both
the Materials and Conversion Costs columns.
c) The ending work in process is 100% complete for materials but only
60% for conversion costs and therefore 200,000 x 60% = 120,000
computed as follows:
Equivalent Units
Materials
700,000
Conversion Costs
700,000
Units transferred out (700,000 x 100%)
Work in process, June 30:
200,000 x 100%
200,000
200,000 x 60%
120,000
Total equivalent units
900,000
820,000
4. REFINED EQUIVALENT UNITS OF PRODUCTION FORMULA:
Units Completed and
Equivalent Units of
Equivalent Units of
Transferred Out-Production—
+ Ending Work in Process-- =
Materials
Materials
Materials
Units Completed and
Transferred Out—
Equivalent Units of
Ending Work in Process—
Equivalent Units of
Production—
Conversion Costs
+
Conversion Costs
=
Conversion Costs
E. PRODUCTION COST REPORT
1. Definition—a Cost of Production report is:
a) The key document used by management to understand the activities in
a department.
b) It shows:
1) Production quantity and
2) Cost data related to that department.
c) It is prepared for each department in a process cost system. Therefore,
Kellogg Company will have three production cost reports:
1) Mixing,
2) Baking, and
3) Freezing and Packaging
2. Explain the four steps necessary to prepare a production cost report.
PRODUCTION COST REPORT (STEPS):
a) Compute the physical unit flow
b) Compute the equivalent units of production.
c) Compute unit production costs and assign costs to units transferred and
in process.
d) Prepare a cost reconciliation schedule.
III.
COMPREHENSIVE EXAMPLE OF PROCESS COSTING
A. Data for the Mixing Department at Kellogg Company for the month of June. The
data will be used to complete a production cost report for the Mixing Department
1. STEP 1—COMPUTE THE PHYSICAL UNIT FLOW. Note that when
analyzing the physical units without regard to percentages of completion
that the following two sections must balance:
a) First, compute the Units to be accounted for (10,000) which are:
1) Units in beginning work in process—2,000 on handout.
2) Add: Units started into production—8,000 on handout.
b) Second, compute the Units accounted for (10,000) which are:
1) Units completed and transferred—9,000 on handout.
2) Add: Units in ending work in process—1,000 on handout.
2. When analyzing the physical units without regard to percentages of
completion that the following two sections must balance:
a) First, compute the Units to be accounted for (900,000) which are:
1) Units in beginning work in process—100,000 Mixing Dept.
2) Add: Units started into production—800,000 Mixing Dept.
b) Second, compute the Units accounted for (900,000) which are:
1) Units completed and transferred—700,000 Mixing Dept.
2) Add: Units in ending work in process—200,000 Mixing Dept.
3. STEP 2—COMPUTER EQUIVALENT UNITS OF PRODUCTION:
Equivalent Units
Materials
9,000
Conversion Costs
9,000
Units transferred out (9,000 x 100%)
Work in process:
1,000 x 100%
1,000
1,000 x 80%
800
Total equivalent units
10,000
9,800
NOTE: Materials are added at the beginning of the process and conversion costs are
incurred uniformly throughout the process.
a) For the Mixing Department shown above.
b) Remember that beginning work in process is ignored in this
computation.
4. STEP 3—COMPUTE UNIT PRODUCTION COSTS:
a) Refer to the COST INFORMATION on top of handout and then
compute unit costs:
Total Materials
Cost
=
UNIT Materials
COST
=
$8.00
÷
10,000
Equivalent Units of
Conversion Costs
9,800
UNIT Materials
COST
+
UNIT Conversion Costs
=
$8.00
+
$5.00
=
$80,000
Total Conversion
Costs
$49,000
÷
÷
÷
Equivalent Units of
Materials
= UNIT Conversion Costs
=
$5.00
TOTAL
MANUFACTURING
COST PER UNIT
$13.00
b) The computation of cost per unit of the Eggo® Waffles is as follows:
Total Materials
Cost
$450,000
Total Conversion
Costs
$205,000
÷
÷
÷
÷
Equivalent Units of
Materials
900,000
Equivalent Units of
Conversion Costs
820,000
UNIT Materials
COST
+
UNIT Conversion
Costs
$0.50
+
$0.25
=
UNIT Materials
COST
=
$0.50
UNIT Conversion
Costs
=
$0.25
TOTAL
= MANUFACTURING
COST PER UNIT
=
$0.75
=
5. STEP 4—PREPARE A COST RECONCILIATION SCHEDULE.
Note that when preparing a cost reconciliation schedule the following
two sections must balance:
a) First, compute the Costs to be accounted for ($129,000) which are:
1) Costs in beginning work in process—$25,000 on handout.
2) Add: Costs started into production—$104,000 on handout.
b) Second, compute the Cost accounted for ($129,000) which are:
1) Units completed and transferred—9,000 x $13 = $117,000 on
handout.
2) Add: Units in ending work in process—computed as follows:
a. Materials—1,000 x $8 = $8,000
b. Conversion costs—800 x $5 = $4,000
c. Total ending work in process--$12,000.
6. PREPARING THE PRODUCTION COST REPORT:
a) Note: the first section contains:
1) Step 1—Physical Units and
2) Step 2—Equivalent Units
b) Note: the second section contains Step 3:
1) Computing unit costs and
2) Costs to be accounted for.
c) Note the last section contains Step 4—Costs accounted for.
7. Production cost report. Note there are two self-checks in the report:
a) (1) Total physical units accounted for must equal the total units to be
accounted for.
b) (2) Total costs accounted for must equal the total costs to be
accounted for.