Prepared by
Debby Bloom-Hill
CMA, CFM
CHAPTER 3
Process Costing
Difference Between Job-Order and
Process Costing Systems
 Job-Order Costing
 Each unique product or batch is considered a
job for which cost information is needed
 Necessary to trace manufacturing costs to
specific jobs
 When completed, cost of job is removed from
Work in Process and included in Finished
Goods
Slide 3-3
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Difference Between Job-Order and
Process Costing Systems
 Process Costing
 Large quantities produced of homogeneous
products
 Average cost = total costs divided by total
number of items produced
 When completed, number of units completed
times average cost determines cost to be
moved from WIP to Finished Goods
Slide 3-4
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Which of the following characteristics are associated
with a process costing system?
a. Heterogeneous products
b. Homogeneous products
Answer: b
 Heterogeneous products are unique
 Homogeneous products are identical
 Process costing is associated with identical
products
Slide 3-5
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Which of the following characteristics are
associated with a process costing system?
a. Continuous production
b. Discontinuous production
Answer: a
 Job order costing is associated with discontinuous
production
 Process costing is associated with continuous
production
Slide 3-6
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Which of the following characteristics are
associated with a process costing system?
a. Costs are traced to jobs
b. Costs are traced to processing departments
Answer: b
 Job order costing requires tracing costs to jobs
 Process costing is associated with tracing costs to
departments
Slide 3-7
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
An example of a business requiring a process
costing system would be a(n):
a.
b.
c.
d.
Custom cabinet shop
Antique furniture restorer
Soap manufacturer
Automobile repair shop
Answer: c
A soap manufacturer produces many identical units
Slide 3-8
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Job-Order Costing System
Slide 3-9
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Process Costing System
Slide 3-10
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Product Flows through Departments
 Manufacturing operations typically pass through
two or more departments
 Costs are accumulated in each department
 Easy to identify when materials are added
 Harder to identify when labor and overhead are
added
 Often grouped together as conversion costs
 Assumed to be added evenly throughout the
process
Slide 3-11
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
The costs in a process costing system are
traced to:
a.
b.
c.
d.
Specific jobs
Specific customers
Specific company administrators
Specific production departments
Answer: d
Specific production departments
Slide 3-12
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Cost Flows through Accounts
 The product costs accumulated in process
costing are the same as in job-order costing
 Direct materials
 Direct labor
 Manufacturing overhead

A processing department might have transferred in
costs from another department
 Each processing department accumulates
product cost in a separate Work in Process
account
Slide 3-13
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Cost Flows through Accounts
 Direct Material
 Suppose that $142,000 of direct materials are used
 Journal entry:
Slide 3-14
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Cost Flows through Accounts
 Direct Labor
 Suppose that $62,200 of direct labor costs are
incurred
 Journal entry:
Slide 3-15
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Cost Flows through Accounts
 Manufacturing Overhead
 A company may use either actual overhead costs
or a predetermined overhead rate to assign
overhead to products
 Unless production and overhead costs are constant
from month to month, use of actual overhead may
result in substantial fluctuations in the unit cost
 For that reason most companies use a
predetermined overhead rate
Slide 3-16
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Cost Flows through Accounts
 Manufacturing Overhead
 Suppose manufacturing overhead is applied at a
rate of $3 per direct labor dollar
 Journal entry:
Slide 3-17
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Cost Flows through Accounts
 Transferred-in Cost
 When a department completes its work, the items
are transferred to the next department
 Related costs are transferred as well
 Suppose the Mixing Department completed units
with a cost of $360,000
Slide 3-18
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Flow of Costs Between
Processing Departments
Slide 3-19
Learning objective 1: Describe how products flow through departments
and how costs flow through accounts.
Calculating Unit Cost
 Equivalent Units
 Partially completed units are converted to a
comparable number of completed units, called
equivalent units
 Multiply the number of units by the percent complete to
calculate the equivalent units
 100 units that are 50% complete are equivalent to 50
complete units (100 x 50%)
 Equivalent units may be different for material and
conversion costs if materials and conversion costs
enter production at different times.
Slide 3-20
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Equivalent Units – Material and
Conversion Costs
Slide 3-21
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Calculating Equivalent Units
 Equivalent units are normally calculated for
materials and conversion costs
 The equivalent units produced is the sum of the
units finished and the units in ending work in
process
 Units finished are always 100% complete in terms
of materials and conversion costs
 Multiply the number of units in ending work in
process by the corresponding percent complete
to calculate the equivalent units
Slide 3-22
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
At Rainier Chemical, conversion costs (labor and
overhead) enter evenly throughout the production process.
At the end of the year, 200 units in work in process are 80
percent complete. With respect to conversion costs, how
many equivalent units are in work in process?
a.
b.
c.
d.
200
160
360
280
Answer: b
200 units * 80% complete = 160 equivalent units
Slide 3-23
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
 Beginning Work in Process 500 units
% complete = 65% materials, 45% conversion
 Units started: 2,300
 Units finished: 2,500
 Ending Work in Process 300 units
% complete = 85% materials, 50% conversion
1. Calculate equivalent units for materials
Units finished
2,500 X 100%
Ending Work in Process
300 X 85%
Equivalent Units - Materials
Slide 3-24
2,500
255
2,755
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.




Beginning Work in Process 500 units

% complete: 65% materials, 45% conversion

% complete: 85% materials, 50% conversion
Units started: 2,300
Units finished: 2,500
Ending Work in Process 300 units
2. Calculate equivalent units for conversion
Units finished
2,500 X 100%
Ending Work in Process
300 X 50%
Equivalent Units - Conversion Costs
Slide 3-25
2,500
150
2,650
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Calculating Unit Cost
 Cost Per Equivalent Unit
 The average unit cost in a process costing system is
referred to as cost per equivalent unit
 The numerator represents the total cost for which a
processing department must account in each period
 Divide by the units completed plus the equivalent
units in ending Work in Process
Slide 3-26
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Calculating Cost per
Equivalent Unit
 Consider cost per equivalent unit calculations for the
mixing department
 Beginning Work in Process inventory: 10,000 gallons
that are 80% complete
 Direct material costs = $18,000
 Direct labor =$7,800
 Overhead = $23,400
 70,000 gallons started, 60,000 gallons completed
 Direct material costs = $142,000
 Direct labor cost = $62,200
 Overhead cost = $186,600
Slide 3-27
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Cost per EU – Mixing Department
Slide 3-28
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
At Rainier Chemical, labor cost in Work in Process at the start of April
was $50,000 and $450,000 of labor was incurred during the month.
200 units are in WIP at the end of April and they are 80% complete
with respect to labor. 840 units were completed during the month.
What is the cost per equivalent unit for labor?
a. $225
b. $481
c. $536
d. $500
Answer: d
Total labor cost = $50,000 + $450,000 = $500,000
Equivalent units = 840 units + 200 units * 80% = 1,000 units
Cost per equivalent unit = $500,000 / 1,000 = $500
Slide 3-29
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Costs Transferred Out
 60,000 gallons completed by the Mixing Department
 Unit cost is $6 per gallon
 $360,000 (60,000 X $6) of cost transferred to the
Packaging Department
Slide 3-30
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Ending Work in Process
Slide 3-31
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Summary of Cost Activity –
Mixing Department
Slide 3-32
Learning objective 2: Discuss the concept of an equivalent unit
and calculate the cost of goods completed and the ending Work in
Process balance in a processing department.
Production Cost Report
 An end of the month report for a process
costing system
 Provides a reconciliation of units
 Provides a reconciliation of costs
 Provides the details of the cost per equivalent
unit calculations
 The reconciliations help ensure that mistakes
are not made in calculations
Slide 3-33
Learning objective 3: Describe a production cost report.
Production Cost Report
Slide 3-34
Learning objective 3: Describe a production cost report.
Production Cost Report
Slide 3-35
Learning objective 3: Describe a production cost report.
Production Cost Report
Slide 3-36
Learning objective 3: Describe a production cost report.
Production Cost Report
Reconciliation of Units
Slide 3-37
Learning objective 3: Describe a production cost report.
Production Cost Report
Reconciliation of Costs
Slide 3-38
Learning objective 3: Describe a production cost report.
Basic Steps in Process Costing
Step 1: Account for the physical number of
units. The number of units at the start
of the period plus the number of units
started during the period should equal
the number of units completed plus
the number of units in ending Work in
Process.
Slide 3-39
Learning objective 3: Describe a production cost report.
Basic Steps in Process Costing
Step 2: Calculate the cost per equivalent unit for material,
labor, and overhead. Remember that cost
(numerator in the calculation) includes both
beginning cost and cost incurred during the
period. The number of equivalent units
(denominator) includes the number of units
completed and the number of equivalent units in
ending Work in Process.
Cost per equivalent unit =
(cost in beginning WIP + costs added)
(units completed + EU of ending WIP)
Slide 3-40
Learning objective 3: Describe a production cost report.
Basic Steps in Process Costing
Step 3: Assign cost to items completed and items in
ending Work in Process. The cost of items
completed is simply the product of the total
cost per equivalent unit and the number of
units completed. The cost of items in Work
in Process is the sum of the products of
equivalent units in process and cost per
equivalent unit for material, labor, and
overhead.
Slide 3-41
Learning objective 3: Describe a production cost report.
Basic Steps in Process Costing
Step 4: Account for the amount of product
cost. The cost of beginning inventory
plus the cost incurred during the
period should equal the amount of
cost assigned to completed items
plus the amount of cost assigned to
items in ending Work in Process.
Slide 3-42
Learning objective 3: Describe a production cost report.
Dealing with Transferred-In Cost
 Packaging Department summary
 Beginning Work in Process 15,000 gallons 50%
through packaging operation
 Costs in WIP: materials $10,500, labor $4,500,
$9,000 overhead, $92,250 transferred in
 Units transferred in 60,000 gallons with $360,000
transferred in cost
 Costs added: Materials $49,500, labor $27,900,
$55,800 overhead
 Ending Work in Process 5,000 gallons 40%
through packaging operation
Slide 3-43
Learning objective 3: Describe a production cost report.
Production Cost Report –
Packaging Department
Slide 3-44
Learning objective 3: Describe a production cost report.
Production Cost Report –
Packaging Department
Slide 3-45
Learning objective 3: Describe a production cost report.
Production Cost Report –
Packaging Department
Slide 3-46
Learning objective 3: Describe a production cost report.
The packaging department at Rainier Chemical had no beginning Work
in Process at the start of April. During April, the department received
$300,000 of transferred-in cost. During April, the department completed
600 units and 200 were in Work in Process.
With respect to transferred-in cost, the 200 units in Work in Process are:
a. Equivalent to 200 completed units
b. Equivalent to 0 completed units
c. Equivalent to 100 completed units
d. Identical to the equivalent units for conversion costs
Answer: a
Since processing was completed in another department, units
transferred in are 100% complete for all categories
Slide 3-47
Learning objective 3: Describe a production cost report.
Process Costing and Incremental
Analysis
 Whenever we make a decision, we need to
perform incremental analysis
 We need to determine the change in revenue and
the change is cost, assuming a particular
alternative is selected
 If the net change is positive, the decision
alternative is “good” since it will have a positive
impact on firm profit
 If the net change is negative, the decision
alternative is “bad” in that it will have a negative
impact on firm profit
Slide 3-48
Learning objective 3: Describe a production cost report.
Process Costing and Incremental
Analysis
 When using process costing information to make
a decision, we have to be careful to recognize
that the cost per unit is the average of fixed and
variable costs
 It does not measure the change in cost associated
from producing an additional unit
 Generally, total fixed costs do not change when
one additional unit is produced
Slide 3-49
Learning objective 3: Describe a production cost report
Process Costing and Incremental
Analysis




A company has no beginning or ending Work in Process
Variable costs are materials and labor
Fixed cost is manufacturing overhead
Cost summary:
Slide 3-50
Learning objective 3: Describe a production cost report.
Process Costing and Incremental
Analysis
 Decreasing price to $2.90 will increase demand to
275,000 units
 $2.90 is less than equivalent cost per unit
 Incremental analysis: profit will increase
Slide 3-51
Learning objective 3: Describe a production cost report.
You Get What You Measure
Slide 3-52
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Slide 3-53