3.6.

Process Costing
System

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Process costing is a method of costing
used mainly in manufacturing
company where units are continuously
mass-produced through one or more
processes.
Process Costing System is used in
situations where the company
produces many units of a single
product for long periods.

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 It is widely used by custom manufacturers
such as
 Textile factory,
 Cement factory
 Sugar factory
 Soft Drinks factory
 Plastic factory
Soup factory, Steel factory
Process costing systems accumulate costs in
a particular operation or department for an
entire period (month, quarter, or year) and
then divide this total cost by the number of
units
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The basic formula for process costing
is:

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Since one unit of product is
indistinguishable from any other unit
of product, each unit produced during
the period is assigned the same
average cost.
3.5. Process Costing Features
The basic characteristics of process costing are:
• Homogeneous units pass through a series of
similar processes.

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• Each unit in each process receives a similar dose
of manufacturing costs.
• Manufacturing costs are accumulated by a
process for a given period of time.
• There is a work-in-process account for each
process.
• Continuous production
• Standardized production methods

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• Manufacturing cost flows and the associated
journal entries are generally similar to job
order costing.
• The departmental production report is the
key document for tracking manufacturing
activity and costs.
• Unit costs are computed by dividing the
departmental costs of the period by the
output of the period.

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Five Key steps in process costing
1. Summarize the flow of physical units of output.
Means from where the units are coming in and
where the units are went out
2. Compute output in terms of equivalent units.
 This is concerned with measuring output in terms
of the physical quantities of each of the inputs
that have been consumed when producing the
units.
Equivalent units is the number of complete units
that could have been obtained from the materials
and effort that went into the partially complete
units.
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Process-costing systems separate costs into cost
categories according to when costs are
introduced into the process – Direct materials
and conversion costs are necessary to assign
costs to production.
 Direct materials are added at the beginning of
the production process.
 Conversion costs are added evenly during
production.

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Equivalent unit means converting the incomplete
production units into their equivalent completed
units.
Equivalent completed units =
{Actual number of units in the process of
manufacture} x {Percentage of
work completed}

As the formula states, equivalent units is defined

as the product of the number of partially
completed units and the percentage completion
of those units
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3. Summarize total costs to account for
4. Compute cost per equivalent unit.
• Equivalent unit cost is calculated by dividing
direct materials and conversion costs added
by the quantity of equivalent units of work
done.
5. Assign total costs to units completed and to
units in ending work in process.

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Illustration in Process Costing
The accounting in process costing can be
analyzed by three different cases, starting with
the simplest case and introducing complexities
in subsequent cases:
Case 1: Process costing with zero beginning and
ending work in process
Case 2: Process costing with zero beginning
work in process but some ending work in
process
Case 3: Process costing with some beginning and
some ending work in process
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Case 1: Process costing with no beginning or
ending WIP inventory
Example: Global Defense Inc., manufactures
thousands of components for missiles and military
equipment.
It produces DG – 19, military equipment which
passes through two departments – the assembly
department and the testing department.
Conversion costs are all manufacturing costs other
than direct materials costs.

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 Physical units for Jan. 2008 Total costs for Jan. 2008.
Work in process beginning inventory (Jan 1) 0 units Direct material costs added during January $ 32,000
Started during January 400 units Conversion costs added during January 24,000
Completed and transferred out during Jan 400 units Total assembly dept costs added during Jan $ 56,000
Work in process ending inventory (Jan 31) 0 units

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Required: What are the equivalent units for direct
material and conversion costs and their respective
equivalent unit costs for January?
Solution:
Step1 & step2: Summarizing output in physical
units and computing equivalent units

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 Step 1 Step 2
Flow of production Physical unit Equivalent unit
Direct material Conversion cost
Work-in-processbeg. (Jan.1) 0
Started duringthecurrent period 400
To account for 400
Completed & transferred out duringcurrent period 400 400 400
Work in processending 0 0 0
Accounted for 400
Equivalent unitsof work donein current period 400 400

Step3: Summarizes total cost to account for

Particulars Total production cost Direct material Conversion cost
Costsadded duringJanuary 2008 $56,000 $32,000 $24,000
Total coststo account for $56,000 $32,000 $24,000
Step4: Cost per equivalent unit
Total coststo account for $56,000 $32,000 $24,000
Divided by equivalent units 400 400
Cost per unit of equivalent unit $80 $60
Step5: Assignment of costs
Completed & transferred out (400 units) $56,000 (400units* $80) + (400 units* $60)
Total cost accounted for $56,000 $32,000 $24,000

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Illustration 2:
Case 2: Process costing with no beginning inventory
of Work in process, but some ending of work in
process.
Continuing illustration 1:
In Feb 2008, Global Defense Inc., places another
400 units of DG – 19 into production. Data for the
assembly dept. for Feb 2008 are:

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 Physical units for Feb.2008
WIP Beg. (Feb. 1) 0 units
Started during Feb. 2008 400 units
Completed and transferred out 175 units
WIP Ending (Feb. 28) 225 units
(partially assembled units are 100% complete with respect to Direct material and 60%
completed with respect to Conversion costs )

Total costs for Feb. 2008

Direct material cost added during Feb. $32,000
Conversion costs added during Feb. $18,600
Total costs added during Feb. $50,600

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Required: What are the equivalent units for Direct
material and conversion costs and their respective
equivalent unit costs for February 2008?

Step1 and step2:- Summarizing output in physical

units and computing equivalent units.

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 Step 1 Step 2
Flow of production Physical unit Equivalent unit
Direct material Conversion cost
Work-in-processbeg. (Feb.1) 0
Started duringthecurrent period 400
To account for 400
Completed & transferred out duringcurrent period 175 175 175
Work in processending (225 units) 225 225(225 × 100%) 135(225 × 60%)
Accounted for 400
Equivalent unitsof work donein current period 400 310
Step3: Summarizes costs to account for
Particulars Total production cost Direct material Conversion cost
Costsadded duringFebruary 2008 $50,600 $32,000 $18,600
Step4: Cost per equivalent unit
Costsadded in current period 50,600 32,000 18,600
Divided by equivalent units 400 310
Cost per unit of equivalent unit* $80 $60
Step5: Assignment of costs
Completed & transferred out (175 units) $24,500 (175units* $80) + (175 units* $60)
Work in processending $26,100 (225units* $80) + (135 units* $60)
Total cost accounted for $50,600 $32,000 $18,600
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 Illustration 3:
Case 3: Process costing with both beginning and
ending work in process inventory
At the beginning of March 2008, Global defense
Inc., had 225 partially assembled DG – 19 units in
the assembly dept. during March 2008 Global
defense placed another 275 units into production.
Data for the assembly dept. for March 2008 are:

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Physical units for March 2008 Total costs for March 2008
Work in process beginning inventory (March 2008) 225 units Work in process beginning inventory
Direct materials (100% complete) Direct materials $ 18000
Conversion costs (60% complete) Conversion costs 8100 $ 26,100
Started during March 2008 275 units Direct material costs added during March 2008 19,800
Completed and transferred out during March 2008 400 units Conversion costs added during March 2008 16,380
Work in process ending inventory (March 31) 100 units Total costs to account for $ 62,280
Direct materials (100% complete)
Conversion costs (50% complete)

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Required: Prepare key steps in process costing using
weighted average and FIFO methods.
Weighted Average process costing Method
Calculates cost per equivalent unit of all work done
to date (regardless of the accounting period in which
it was done) and assigns this cost to equivalent units
completed and transferred out and to equivalent
units in ending work-in-process inventory.
Weighted average cost = Total costs to
account for
Total equivalent units of
work done to date
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Case-3: process costing with both beginning and
ending work in process inventory:-
Step1 and step2:- Summarizing output in physical
units and computing equivalent units

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 Step 1 Step 2
Flow of production Physical unit Equivalent unit
Direct material Conversion cost
Work-in-processbeg. (March.1) 225
Started duringthecurrent period 275
To account for 500
Completed & transferred out duringcurrent period 400 400 400
Work in processending 100 100 50
Accounted for 500
Equivalent unitsof work donein current period 500 450
Step3: Summarizes total costs to account for
Particulars Total production cost Direct material Conversion cost
Work in processbeginning $26,100 $18,000 $8,100
Costsadded duringMarch2008 $36,180 $19,800 $16,380
Total coststo account for 62,280 37,800 24,480
Step4: Cost per equivalent unit
Total coststo account for $37,800 $24,480
Divided by equivalent units 500 450
W.A. Cost per unit of equivalent unit $75.60 $54.40
Step5: Assignment of costs
Completed & transferred out (400 units) $52,000 (400units* $75.6) + (400 units* $54.4)
Work in processending $10,280 (100units* $75.6) + (50 units* $54.4)
Total cost accounted for $62,280 $37,800 $24,480
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Journal entries:
1. Work in process (assembly) $19,800
A/P $19,800
(To record Direct material purchased and
used in production in March)
2. Work in process(assembly) $16,380
A/P $16,380
(To record conversion costs of assembly
department for March)

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3. Work in process ( testing) $52,000
WIP (assembly) $52,000
(To record COG completed & transferred from
assembly to testing department during March)
(400*$75.60 + 400*$54.40) – $52,000
Process costing FIFO method:
The FIFO method of costing is based on the
assumption that the beginning work-in-progress
units are the first to be completed. Equivalent
production of beginning WIP can be calculated as
follows:
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FIFO process-costing method:
(1) assigns the cost of the previous accounting
period’s equivalent units in beginning work-in-
process inventory to the first units completed
and transferred out of the process, and
(2) assigns the cost of equivalent units worked on
during the current period first to complete
beginning inventory, next to start and complete
new units, and finally to units in ending work-in
process inventory.
(3) Kept beginning Work in process separate from
work done in the current period.
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 Step 1 Step 2
Flow of production Physical unit Equivalent unit
Direct material Conversion C ost
Work-in-process beg. March
( .1) 225 Work done before current
period
Started during the current period 275
To account for 500
Completed & transferred out during current period
(400units)
From beginning work in process 225 0(225*(100- 90
(225*(100–
100)) 60%))
Started and completed 175 175(175*100% 175(175*100%)
)
Work in process ending 100 100
(100*100% 50(100*50%)
)
Accounted for 500
Equivalent units of work done in current period 275 315
Step3:
Summarizes total costs to account for
Particulars Tot
al production cost Direct material Conversion cost
Work in process beginning $26,100 $18,000 $8,100
Costs added duringMarch2008 $36,180 $19,800 $16,380
Total costs to account for 62,280 37,800 24,480
Step4 : Cost per equivalent unit
Costs addedni current period $19,800 $16,380
Divided by equivalent units 275 315
Cost per unit of equivalent unit $72 $52
Step5: Assignment of costs
Completed & transferred out (400 units)
Work in process, beginning (225units) $26,100 &18,000 $8,100
Costadded to beginning WIP in current 4,680 (0 unit * $72) + (90 units * $52)
period
Total from beginning WIP inventory $30,780
tarted and completed (175units) 21,700 (175units * $72) + (175units * $52)
Total
costs of units completed and 52,480
transferred out
Work in process ending $9,800 (100units * 7
$2) + (50 units * $52)
Total cost accounted for $62,280 $37,800 $24,480
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 End of Chapter

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