Hilton • Maher • Selto

Process-Costing Systems

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.

8-3

Process Costing System Design

Process Costing is a costing system that

assigns costs equally to homogeneous units
within a particular time period.

This is an appropriate system to use

when:
•Units do not differ from each other.
•Unit cycle time is relatively short.
•The production process is continuous.
8-4

Process Costing at Monterrey

Bay Abalone
Cultivation process
Human and activities
physical
resources Grow-out process
activities

Market-size abalone

Finished Goods Inventory

8-5

Process Costing: The Basics

Costs will be accumulated by process. They will

not be traced to individual units of product.

Direct Materials Conversion Costs

Raw material directly Labor and overhead

traceable to the directly traceable to the
process. process.
8-6

Process Costing: The Basics

Direct DM Units DM Cost

Materials (DM) ÷ =
$ Produced per Unit

+
Conversion CC Units CC Cost
Costs (CC) ÷ =
$ Produced per Unit

Total Cost
per Unit
8-7

Process Costing: The Basics

 Determine total Direct Material costs

 Compute DM Cost per Unit
 Determine total Conversion Costs
 Compute CC Cost per Unit
 Add Steps 2 and 4 to get Total Cost
per Unit
 COGS = Step 5 × Units Sold
 Ending Inventory = Step 5 × Units Not
Sold
8-8

Example 1: All Units Fully

Completed (No WIP)
Toothpick, Inc. is a new company that makes
toothpicks from damaged antique furniture. The
product sells at a premium and is in high demand.
During June, they purchased 8,000 pounds of
wood scraps costing $67,000. They spent $6,500
on labor. Toothpick, Inc. incurred other process
overhead (insurance, rent, benefits, etc.) of $6,000.
They produced and sold 250,000 toothpicks during
June. There were no units in beginning or ending
WIP inventory.
Compute the cost per toothpick produced.
8-9

Example 1: All Units Fully

Completed (No WIP)
Direct
$67,000 ÷ 250,000 = $0.268
Materials (DM)

+
Conversion
Costs (CC) $12,500 ÷ 250,000 = $0.050

Total Cost Per Unit ?

$0.318
8-10

Some Units Not Fully

Complete (Ending WIP)
In many cases,
With a continuous
there will be
process, it would be
some units at the
unrealistic to expect
end of the month
every unit to be complete
still in the
at the end of each month
process.

We must compute EQUIVALENT UNITS of

Production for the items still in Ending WIP.
8-11

Some Units Not Fully

Complete (Ending WIP)
We have to compute EQUIVALENT UNITS in
Ending WIP for both Direct Materials and for
Conversion Costs.

# of Partially Equivalent Units

× % Completion =
Completed Units in Ending WIP

For example, two half full glasses are

equivalent to 1 full glass.
8-12

Some Units Not Fully

Complete (Ending WIP)
Total EQUIVALENT UNITS = EU in Ending WIP +
Units Completed and Transferred to Finished
Goods.

# of Partially Equivalent Units

× % Completion =
Completed Units in Ending WIP

Units
Equivalent Units Completed & Total Equivalent
+ =
in Ending WIP Transferred Units
Out
8-13

Some Units Not Fully

Complete (Ending WIP)
 Summarize the flow of physical units.
 Compute the number of equivalent
units.
 Summarize the total costs to account
for (for both DM and CC)
 Compute costs per equivalent unit.
 Assign costs to COGS and to ending
WIP.
8-14

Example 2: Some Units Not

Fully Complete (Ending WIP)
For July, Toothpick purchased 9,000 pounds of wood
scraps for $72,000. They spent $7,500 on labor and
had other process overhead of $7,404.
Toothpick started 300,000 units in July, completing
and selling 260,000 units. Ending WIP had 40,000
toothpicks. Beginning WIP was zero.
The ending WIP was 100% complete with respect to
material, but only 40% of the conversion work has
been done.
Compute the cost per toothpick produced. Also,
compute the Ending WIP Inventory and COGS.
8-15

Example 2: Some Units Not

Fully Complete (Ending WIP)

Step 1: Compute the flow of physical goods

Beginning Transfers Transfers Ending
+ - =
Balance In Out Balance
0 + 300,000 - 260,000 . = 40,000
.

100% complete for materials

100% complete for conversion
100% complete for materials
40% complete for conversion
8-16

Example 2: Some Units Not

Fully Complete (Ending WIP)

Step 2: Compute Equivalent Units:

# of Partially Equivalent Units
× % Completion =
Completed Units . in Ending. WIP

Equivalent Units for Materials:

? × ? = ?
Equivalent Units for Conversion:
? × ? = ?
8-17

Example 2: Some Units Not

Fully Complete (Ending WIP)

Step 2: Compute Equivalent Units:

# of Partially Equivalent Units
× % Completion =
Completed Units in Ending WIP

Equivalent Units for Materials:

40,000 × 100% = 40,000
Equivalent Units for Conversion:
40,000 × 40% = 16,000
8-18

Example 2: Some Units Not

Fully Complete (Ending WIP)
Step 2: Compute Equivalent Units:
Units
Total
Equivalent Units Completed &
+ = Equivalent
in Ending WIP Transferred
Units
Out
Equivalent Units for Materials:
40,000 + 260,000 = 300,000
Equivalent Units for Conversion:
16,000 + 260,000 = 276,000
8-19

Example 2: Some Units Not

Fully Complete (Ending WIP)

Materials Conversion
Step 3: Summarize
the Total Costs to
Account For $72,000 $14,904

Step 4: Compute
Cost per Equivalent
Unit ÷ 300,000 ÷ 276,000
Per Unit Cost $0.240 $0.054
8-20

Example 2: Some Units Not

Fully Complete (Ending WIP)
Step 5: Assign Costs to Units Completed and In-
Process
Cost Per
.
Units Unit Total
Goods Completed 260,000 $0.294 $76,440
Ending WIP:
Materials 40,000 $0.240 9,600
Conversion 16,000 $0.054 864
Total $86,904

Ending WIP = $9,600 + $864 = $10,464

8-21

Beginning & Ending WIP

When there is Beginning WIP, the

determination of equivalent units
becomes somewhat more complicated.

Primary question to be answered:

Which units were completed first
during the period?
(How you answer this question will
affect the Total EU for the period.)
8-22

Beginning & Ending WIP

Weighted Average vs. FIFO

Weighted-
Average FIFO
All units and costs Costs are accounted
are considered for by layer. Cost per
together to determine EU for this period is
average cost per EU, computed separately
regardless of from the Cost per EU
whether the costs for last period.
were incurred last
period or currently.
8-23

Beginning & Ending WIP

Weighted Average vs. FIFO

Weighted-
Average Weighted-
All units and costs Average is
are considered
together to determine the most
average cost per EU, commonly
regardless of
whether the costs used
were incurred last
period or currently.
method.
8-24

Example: Weighted-Average

For August, Toothpick purchased 9,500 pounds of

wood scraps for $75,000. They spent $8,000 on labor
and had other process overhead of $7,000.
Toothpick started 320,000 units in July, completing
335,000 units. Ending WIP had 25,000 toothpicks.
Beginning WIP was 40,000 units.
The ending WIP was 100% complete for material, and
70% complete for conversion. Beginning WIP was
100% for material and 40% complete for conversion.
Compute the cost per toothpick produced. Also,
compute the Ending WIP Inventory and COGS.
8-25

Example: Weighted-Average

Step 1: Compute the flow of physical goods

Beginning Transfers Transfers Ending
+ - =
Balance In Out Balance
.
40,000 + 320,000 - 335,000 = 25,000 .

100% complete for materials

40% complete for conversion

100% complete for materials

70% complete for conversion
8-26

Example: Weighted-Average

Step 2: Compute Equivalent Units:

Equivalent Units
# of Partially
× % Completion = in Beginning
Completed Units
WIP
Equivalent Units for Materials:
40,000 × 100% = 40,000
Equivalent Units for Conversion:
40,000 × 40% = 16,000
8-27

Example: Weighted-Average

Step 2: Compute Equivalent Units:

# of Partially Equivalent Units
× % Completion =
Completed Units in Ending WIP

Equivalent Units for Materials:

25,000 × 100% = 25,000
Equivalent Units for Conversion:
25,000 × 70% = 17,500
8-28

Example: Weighted-Average

Step 2: Total Equivalent Units

EU in Total
Units Completed
Ending + = Equivalent
& Transferred Out
WIP Units
EU for Materials
25,000 + 335,000 = 360,000
EU for Conversion
17,500 + 335,000 = 352,500
8-29

Example: Weighted-Average

Materials Conversion
Step 3:
Beg. WIP Costs $9,600 $864
Current Costs 75,000 15,000
Total $84,600 $15,864
Step 4: ÷ 360,000 ÷ 352,500
Per Unit Cost $0.235 $0.045
8-30

Example: Weighted-Average

Step 5: Assign Costs

Cost Per
Units Unit Total
Goods Completed 335,000 $0.280 $93,800
Ending WIP:
Materials 25,000 $0.235 $5,875
Conversion 17,500 $0.045 $789 *
Total $100,464
* rounded
Ending WIP = $5,875 + $789 = $6,664