Discuss how costs are assigned to mass-produced products.

Week 6 (Part 2)

Reading

and Preparation

Learning Outcomes

Upon completion of this week’s activities, you will be able to:

1. Discuss how costs are assigned to mass-produced products.
2. Explain what are equivalent units, and how they relate to the production process.
3. Describe how the weighted average method is used in process costing.
4. Describe how the FIFO method is used in process costing.
5. Discuss alternative methods that are used for mass production.
6. Describe how process costing is performed for multiple production departments.
7. Explain how spoilage costs are handled in process costing.
8. Discuss how process costing information affect managers’ incentives and decisions.

Reading

Read the following to prepare for this week:

• Cost Management, Chapter 6

Videos

Watch the following video, which can be accessed either in the Weekly Media area or by clicking on the links below:

• Process Costing Part 1 – Managerial Accounting

Cost Management
Measuring, Monitoring, and Motivating Performance
Chapter 6
Process Costing (Part 2)
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 1
Chapter 6: Process Costing
Learning objectives
•
Q1: How are costs assigned to mass-produced products?
•
Q2: What are equivalent units & how do they relate to the
production process?
•
Q3: How is the weighted average method used in process
costing?
•
Q4: How is the FIFO method used in process costing?
•
Q5: What alternative methods are used for mass production?
•
Q6: How is process costing performed for multiple production
departments?
•
Q7: How are spoilage costs handled in process costing?
•
Q8: How does process costing information affect managers’
incentives and decisions?
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 2
Q3&4: Process Costing Example, with BI
Colors R Us, Inc. uses a process costing system for its sole processing
department. There were 6,200 units in beginning WIP inventory for
February and 57,500 units were started in February. The beginning WIP
units were 60% complete and the 5,000 units in ending WIP were 45%
complete. All materials are added at the start of processing. Compute the
EUP for DM and CC using both methods.
First, compute the # of units started & completed:
WIP Inventory – Units
6,200
57,500
58,700
BI units
6,200
S&C units
52,500
Completed units 58,700
5,000
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 3
Q3&4: Process Costing Example, with BI
WIP Inventory – Units
6,200
BI units
6,200
S&C units
52,500
57,500 58,700
Completed units 58,700
5,000
Now, compute the EUP for DM & CC (recall that BI & EI were 60% & 45%
complete, respectively, and all DM are added at the start of processing).
Units Summary
Beginning WIP
This Period’s Work
Complete Beg WIP
Start & Complete
Ending WIP
FIFO Equivalent Units
Physical
Units
6,200
6,200
52,500
5,000
63,700
WA Equivalent Units (with Beg WIP)
© John Wiley & Sons, 2011
Equivalent
Equivalent
Units (DM)
Units (CC)
6,200 100%
3,720 60%
0%
52,500 100%
5,000 100%
57,500
2,480 40%
52,500 100%
2,250 45%
57,230
63,700
60,950
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 4
Q3&4: Process Costing Example, with BI
Beginning WIP inventory was valued at $42,896 [DM costs of $12,850
plus CC of $30,046]. During February Colors incurred DM costs of
$178,250, and CC of $274,704. Compute the cost of the goods
transferred out the the costs assigned to ending WIP inventory for
February, using both methods.
WIP Inventory – $
BI 42,896
DM 178,250
CC 274,704
The EUP from the prior slide:
Equiv units
DM
CC
WA
FIFO
EUP
EUP
63,700 57,500
60,950 57,230
Under FIFO, the numerator includes only current costs:
DM cost/EUP = $178,250/57,500 EUP = $3.10/EUP
CC/EUP = $274,704/57,230 EUP =
4.80/EUP
Total manufacturing cost/EUP
$7.90/EUP
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 5
Q3&4: Process Costing Example, with BI
Beginning WIP inventory was valued at $42,896 [DM costs of $12,850
plus CC of $30,046]. During February Colors incurred DM costs of
$178,250, and CC of $274,704. Compute the cost of the goods
transferred out the the costs assigned to ending WIP inventory for
February, using both methods.
WIP Inventory – $
BI 42,896
DM 178,250
CC 274,704
The EUP from the prior slide:
Equiv units
DM
CC
WA
FIFO
EUP
EUP
63,700 57,500
60,950 57,230
Under WA, the numerator includes BI and current costs:
DM cost/EUP = $191,100/63,700 EUP = $3.00/EUP
CC/EUP = $307,750/60,950 EUP =
5.00/EUP
Total manufacturing cost/EUP
$8.00/EUP
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management,2e
Slide # 6
Q3&4: Process Costing Example, with BI
The last step is a process cost report that breaks the “total
costs to account for” into:
• the portion that is assigned to the completed units, and
• the portion that is assigned to the units in ending
WIP inventory
total costs to account
for = $495,850
WIP Inventory – Units
6,200
58,700
57,500
5,000
total units to account
for = 63,700
© John Wiley & Sons, 2011
WIP Inventory – $
42,896
$ assigned to
DM 178,250
completed units
CC 274,704
$ assigned
to EI units
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 7
Q3&4: WA Process Costing Example, with BI
Under the WA method, there is no
distinction between the 6,200 BI
units and the 52,500 S&C units.
Cost Assignment
Units Completed
Units
58,700
Ending WIP
Direct Materials
Conversion Costs
Total Ending WIP Cost
5,000
Total Units and Cost Accounted For
63,700
© John Wiley & Sons, 2011
$
15,000
11,250
26,250
–
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Cost
469,600
$
495,850
Slide # 8
Q3&4: FIFO Process Costing Example, with BI
Cost Assignment
Beginning WIP
Direct Materials
Conversion Costs
Units Completed
Units Started & Completed
Total Transferred Out
Units
6,200
Ending WIP
Direct Materials
Conversion Costs
Total Ending WIP Cost
5,000
Under the FIFO method, the cost
assigned to the 6,200 BI units is
computed separately from the cost
of the
52,500 S&C units.
Cost
$
52,500
58,700
15,500
10,800
26,300
–
Total Units and Cost Accounted For63,700
42,896
11,904
54,800
414,750
469,550
= 2,480 * $4.80
= 52,500 * $7.90
= 5,000 * $3.10
= 2,250 * $4.80
$ 495,850
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 9
Q6: Accounting for Transferred-in Costs
• “Transferred-in costs” (TI) is merely another cost
category like DM or CC
• All processing departments except the first will
account for TI costs
• When preparing a process cost report for a
department with TI costs:
• Compute EUP for TI costs; all TI costs are incurred at the
start of processing
• Compute cost/EUP for TI costs
• Assign TI costs to EI units
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 10
Q6: Process Costing Example, with TI Costs
Crusher Drugs manufactures a pain medication in a two-process cycle. In
Department 2, direct materials are added as follows: 20% are added at the
beginning of processing, and the rest at the 60% stage. There were 5,000
units in Dep’t 2’s beginning WIP inventory that were 40% complete, and
20,000 units were transferred in to Dep’t 2 in May. The Dep’t 2 ending WIP
inventory of 6,000 units was 55% complete. Compute the May EUP for all
cost categories for Department 2 using both methods.
First, compute the # of units started & completed:
Dep’t 2 WIP Inventory – Units
5,000
BI units
5,000
S&C units
14,000
20,000
19,000
Completed units 19,000
6,000
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 11
Q6: Process Costing Example, with TI Costs
Dep’t 2WIP Inventory – Units
5,000
BI units
5,000
S&C units
14,000
20,000 19,000
Completed units 19,000
6,000
Now, compute the EUP for DM & CC (recall that BI & EI were 40% &
55% complete, respectively; 20% of DM costs are incurred at the start of
processing, and the rest are incurred at the 60% stage).
Units Summary
Beginning WIP
This Period’s Work
Complete Beg WIP
Start & Complete
Ending WIP
FIFO Equivalent Units
Physical
Units
5,000
Equivalent
Units (DM)
1,000 20%
Equivalent
Units (CC)
2,000 40%
Equivalent
Units (TI)
5,000 100%
5,000
14,000
6,000
25,000
4,000 80%
14,000 100%
1,200 20%
19,200
3,000 60%
14,000 100%
3,300 55%
20,300
0%
14,000 100%
6,000 100%
20,000
20,200
22,300
25,000
WA Equivalent Units (with Beg WIP)
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 12
Q6: Process Costing Example, with TI Costs
You are given the cost information below. Compute the cost per EUP
under both methods.
Work in process, May 1
Costs added in May
Total
DM
$7,297.50
72,240.00
$79,537.50
CC
$3,860.50
31,262.00
$35,122.50
TI
$19,250.00
112,000.00
$131,250.00
Total
$30,408.00
215,502.00
$245,910.00
Under WA, the numerator includes BI and current costs:
DM cost/EUP = $79,537.50/20,200 EUP =$3.9375/EUP
CC/EUP = $35,122.50/22,300 EUP =
1.5750/EUP
TI cost/EUP = $131,250/25,000 EUP =
5.2500/EUP
Total manufacturing cost/EUP
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
$10.7625/EUP
Slide # 13
Q6: Process Costing Example, with TI Costs
You are given the cost information below. Compute the cost per EUP
under both methods.
Work in process, May 1
Costs added in May
Total
DM
$7,297.50
72,240.00
$79,537.50
CC
$3,860.50
31,262.00
$35,122.50
TI
$19,250.00
112,000.00
$131,250.00
Total
$30,408.00
215,502.00
$245,910.00
Under FIFO, the numerator includes only current costs:
DM cost/EUP = $72,240/19,200 EUP =
CC/EUP = $31,262/20,300 EUP =
TI cost/EUP = $112,000/20,000 EUP =
$3.7625/EUP
1.5400/EUP
5.6000/EUP
Total manufacturing cost/EUP
$10.9025/EUP
Next, complete the process cost report using both methods….
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 14
Q6: Process Costing Example, with TI Costs
Equivalent Unit Cost
Direct Materials
Conversion Costs
Transfer In Costs
Total Cost per Equivalent Unit
FIFO
4,000 * $ 3.7625
1.5400
3,000 *
5.6000
14,000 * $ 10.9025
Cost Assignment
Beginning WIP
Cost to Complete BI
Direct Materials
Conversion Costs
Total Cost BI
Units Started & Completed
Total Transferred Out
Units
5,000
FIFO Cost
$ 30,408
14,000
19,000
15,050
4,620
50,078
152,635
$ 202,713
Ending WIP
Direct Materials
Conversion Costs
Transfer In Costs
Total Ending WIP Cost
6,000
Total Units and Cost Accounted For25,000
© John Wiley & Sons, 2011
Units
WA Cost
19,000
$204,488
6,000
1,200 * $3.7625 = 4,515
3,300 * $1.5400 = 5,082
6,000 * $5.6000 = 33,600
–
WA
$ 3.9375
1.5750
5.2500
Given $
$ 10.7625 * 19,000
$
1,200 * $3.9375 = 4,725
3,300 * $1.5750 = 5,198
6,000 * $5.2500 = 31,500
43,197
$ 245,910
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
$ 41,423
25,000
$245,910
Slide # 15
Q5: What Alternative Methods are Used for Mass
Production?
• Adaptations to Traditional Process Costing
– Match equivalent units calculations more closely to actual
production processes
– Separate conversion costs into multiple pools
• Standard costs simplify the accounting
• Just-in-time production
• Hybrid costing, or operation costing
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 16
Q7: Accounting for Spoilage in Process Costing
• Costs of normal spoilage are absorbed by
the good units transferred out.
• Costs of abnormal spoilage are charged to a
Loss from abnormal spoilage account.
• Costs attach to spoilage depending on when
spoilage is detected.
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 17
Q7: Process Costing & Spoilage Example
Hollidaze makes molded plastic party decorations. In June, there were 800
units in beginning WIP inventory that were 40% complete and the 500 units in
ending WIP were 30% complete. The company completed 3,000 units in
June, but 200 of these were defective and were discarded. The defective
units are located upon inspection before transfer to finished goods. It was
determined that 50 of these defective units should be considered normal
spoilage. The remaining spoilage occurred because of a rare machine
malfunction and should be considered abnormal spoilage. All direct materials
are added at the beginning of processing.
Compute the June EUP for DM and CC using both methods.
First, compute the # of units started & completed:
WIP Inventory – Units
800
BI units
S&C units
3,000
2,700
Completed units
500
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
800
2,200
3,000
this
includes
200
defective
units
Slide # 18
Q7: Process Costing & Spoilage Example
WIP Inventory – Units
800
2,700 3,000
500
Now, compute the EUP for DM &
BI units
800 CC (recall that BI & EI were 40%
& 30% complete, respectively;
S&C units
2,200
DM costs are incurred at the start
Completed units 3,000
of processing).
Physical
Units
800
Units Summary
Beginning WIP
This Period’s Work
Complete Beg WIP
Good Units Start & Complete
Ending WIP
Spoiled Units:
Normal Spoilage
Abnormal Spoilage
FIFO Equivalent Units
Less Spoilage:
Total Good Units
WA Equivalent Units (with Beg WIP)
© John Wiley & Sons, 2011
Equivalent
Equivalent
Units (DM)
Units (CC)
800 100%
320 40%
800
2,000
500
0%
2,000 100%
500 100%
480 60%
2,000 100%
150 30%
50
150
3,500
(200)
3,300
50 100%
150 100%
2,700
50 100%
150 100%
2,830
3,500
3,150
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 19
Q7: Process Costing & Spoilage Example
You are given the cost information below. Compute the cost per EUP
under both methods.
Work in process, June
Costs added in June
Total
DM
$2,735
$8,640
$11,375
CC
Total
$1,302 $4,037
$5,943 $14,583
$7,245 $18,620
Under WA, the numerator includes BI and current costs:
DM cost/EUP = $11,375/3,500 EUP =
CC/EUP = $7,245/3,150 EUP =
$3.25/EUP
2.30/EUP
Total manufacturing cost/EUP
$5.55/EUP
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 20
Q7: Process Costing & Spoilage Example
You are given the cost information below. Compute the cost per EUP
under both methods.
Work in process, June
Costs added in June
Total
DM
$2,735
$8,640
$11,375
CC
Total
$1,302 $4,037
$5,943 $14,583
$7,245 $18,620
Under FIFO, the numerator includes only current costs:
DM cost/EUP = $8,640/2,700 EUP =
CC/EUP = $5,943/2,830 EUP =
$3.20/EUP
2.10/EUP
Total manufacturing cost/EUP
$5.30/EUP
Next, complete the process cost report using both methods….
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 21
Q7: WA Process Costing & Spoilage Example
The WA journal entry to record the costs transferred out is:
Units
WA Cost
15,81.50
832.50
16,650.00
Cost Assignment
FG inventory
Beginning WIP
fromBIabnormal spoilage
Cost toLoss
Complete
WIP inventory
Direct Materials
Conversion Costs
Total Cost BI
Normal Spoilage
Note the total good
Good Units Started & Completed
units accounted for is
Total Transferred Out
the total units to
Abnormal Spoilage
account for less the
spoiled units.
Ending WIP
2,800
2,800
833
500
Direct Materials
Conversion Costs
Total Ending WIP Cost
Total Units and Cost Accounted For
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
278
$ 15,540
$ 15,818
$
3,300
1,625
345
1,970
$ 18,620
Q7: FIFO Process Costing & Spoilage Example
Cost AssignmentThe FIFO journal entryUnits
FIFO
Cost
to record the
costs
Beginning WIP transferred out is:
800
$
4,037
FG inventory
15,910
Cost to Complete BI
Direct Materials Loss from abnormal
Conversion Costsspoilage
1,008
795
Total Cost BI
5,045
WIP inventory
16,705
Normal Spoilage
265
Good Units Started & Completed
2,000
10,600
Total Transferred Out
2,800
$ 15,910
Abnormal Spoilage
795
Ending WIP
Direct Materials
Conversion Costs
Total Ending WIP Cost
Total Units and Cost Accounted For
© John Wiley & Sons, 2011
500
3,300
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
$
1,600
315
1,915
$
18,620
Slide # 23
Q8: Process Costing Uses for Decision Making
• Used to determine valuation for inventory and cost of
goods sold at the end of each period
• Required for financial statements and income tax
returns
• Helps managers evaluate if the production processes
are operating as expected
• Compare actual results to budget, standards, or
prior periods
• Identify areas for process improvements
• Analyze benefits of quality improvements
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management 2e
Slide # 24
Q8: Process Costing Limitations & Impacts on
Managers’ Decision Making
• Process cost information is generally not useful for
many short-term decisions because unavoidable
fixed costs are allocated to the products.
• Need to determine incremental or marginal costs
• Separating conversion costs into fixed and
variable pools would help
• Requires use of estimates:
• The point of the production process when DM
costs or CC are incurred.
• Stage of completion for all units in beginning and
ending WIP inventories
© John Wiley & Sons, 2011
Chapter 6: Process Costing
Eldenburg & Wolcott’s Cost Management, 2e
Slide # 25