Most companies use either the weighted average or first-in-first-out (FIFO) method to assign costs to inventory in a process costing environment. The weighted average methodA method of process costing that includes costs in beginning inventory and current period costs to establish an average cost per unit. includes costs in beginning inventory and current period costs to establish an average cost per unit. The first-in-first-out (FIFO)A method of accounting for product costs that assumes that the first units completed within a processing department are the first units transferred out; beginning inventory costs are maintained separately from current period costs. method keeps beginning inventory costs separate from current period costs and assumes that beginning inventory units are completed and transferred out before the units started during the current period are completed and transferred out. We focus on the weighted average approach here and leave the discussion of the FIFO method to more advanced cost accounting textbooks. Show Answer: Costs are assigned to completed units transferred out and units in ending WIP inventory using a four-step process. We list the four steps in the following and then explain them in detail. Review these steps carefully. Step 1. Summarize the physical flow of units and compute the equivalent units for direct materials, direct labor, and overhead. Step 2. Summarize the costs to be accounted for (separated into direct materials, direct labor, and overhead). Step 3. Calculate the cost per equivalent unit. Step 4. Use the cost per equivalent unit to assign costs to (1) completed units transferred out and (2) units in ending WIP inventory. The Four Key Steps of Assigning CostsRecall that Desk Products, Inc., has two departments—Assembly and Finishing. Although this chapter focuses on the Assembly department, the Finishing department would also use the four steps to determine product costs for completed units transferred out and ending WIP inventory. presents information for the Assembly department at Desk Products for the month of May. Review this information carefully as it will be used to illustrate the four key steps. Table 4.2 Production Information for Desk Products’ Assembly Department Assembly Department—Month of May
Question: Costs for the Assembly department totaled $386,000 for the month of May ($386,000 = $161,000 in beginning WIP inventory + $225,000 incurred during May). How much of the $386,000 should be assigned to (1) completed units transferred out to the Finishing department and (2) units remaining in the Assembly department ending WIP inventory? Answer: Let’s use the four key steps as follows to answer this question. Step 1. Summarize the physical flow of units and compute the equivalent units for direct materials, direct labor, and overhead. This step uses the basic cost flow equation presented in to identify the physical flow of units (the basic cost flow equation applies to costs and to units): Beginning balance+Transfers in=Transfers out + Ending balance(BB)+(TI)Units to be accounted for=(TO)+(EB)Units accounted forQuestion: What are the two categories used to summarize the physical flow of units? Answer: The first category, units to be accounted for, includes the beginning balance (BB) and transfers in (TI). The second category, units accounted for, includes the ending balance (EB) and transfers out (TO). As you can see from the previous equation, units to be accounted for must equal units accounted for. Here is how it looks for the Assembly department for the month of May: This step shows that 3,000 units were in WIP inventory on May 1 and 6,000 units were started during May. Thus 9,000 units must be accounted for. These 9,000 units will end up in one of two places, either completed and transferred out (to the Finishing department) or not completed and therefore in ending WIP inventory. The previous schedule shows that 4,000 units were completed and transferred out (3,000 from beginning WIP inventory and 1,000 from the units started and completed during the month), and 5,000 units remain in ending WIP inventory. Question: Based on the previous information for Desk Products, Inc., we now know that 4,000 units were completed and transferred out, and 5,000 units were in ending WIP inventory at the end of May. How do we convert this information into equivalent units? Answer: The units accounted for (4,000 transferred out and 5,000 in ending WIP inventory) must be converted into equivalent units for direct materials, direct labor, and overhead, as shown in . The 4,000 units transferred out are 100 percent complete for direct materials, direct labor, and overhead (otherwise, they would not be transferred out), which results in equivalent units matching the physical units. However, the 5,000 units in ending WIP inventory are at varying levels of completion for direct materials, direct labor, and overhead, and must be converted into equivalent units using the following formula (as described earlier in the chapter): Equivalent units = Number of physical units × Percentage of completionLater in step 3, we will use equivalent unit information for the Assembly department to calculate the cost per equivalent unit. Figure 4.4 Flow of Units and Equivalent Unit Calculations for Desk Products’ Assembly Department  a This column represents actual physical units accounted for before converting to equivalent units. b Equivalent units = Number of physical units × Percentage of completion. Units completed and transferred out are 100 percent complete. Thus equivalent units are the same as the physical units. (Information is from .) c Equivalent units = Number of physical units × Percentage of completion. For direct materials, 3,000 equivalent units = 5,000 physical units × 60 percent complete; for direct labor and overhead, 1,500 equivalent units = 5,000 physical units × 30 percent complete. (Information is from .) Step 2. Summarize the costs to be accounted for (separated into direct materials, direct labor, and overhead). Question: How do we summarize the costs that are used to calculate the cost per equivalent unit? Answer: The total costs to be accounted for include the costs in beginning WIP inventory and the costs incurred during the period. shows these costs for the Assembly department. Notice that the costs are separated into direct materials, direct labor, and overhead. shows that costs totaling $386,000 must be assigned to (1) completed units transferred out and (2) units in ending WIP inventory. Step 3. Calculate the cost per equivalent unit. Question: We now have the costs () and equivalent units () needed to determine the cost per equivalent unit for direct materials, direct labor, and overhead. How do we use this information to calculate the cost per equivalent unit? Answer: The formula to calculate the cost per equivalent unit using the weighted average method is as follows: Key EquationCost per equivalent unit=Costs in beginning WIP + Current period costsEquivalent units completed and transferred out + Equivalent units in ending WIPIn summary, the same formula is as follows: Cost per equivalent unit=Total costs to be accounted for*Total equivalent units accounted for***From the bottom of . **From the bottom of . presents the cost per equivalent unit calculation for Desk Products’ Assembly department. The cost per equivalent unit is calculated for direct materials, direct labor, and overhead. Simply divide total costs to be accounted for by total equivalent units accounted for. It is important to note that the information shown in allows managers to carefully assess the unit cost information in the Assembly department for direct materials, direct labor, and overhead. We discuss this further later in the chapter. Step 4. Use the cost per equivalent unit to assign costs to (1) completed units transferred out and (2) units in ending WIP inventory. Question: Recall our primary goal of assigning costs to completed units transferred out and to units in ending WIP inventory. How do we accomplish this goal? Answer: Costs are assigned by multiplying the cost per equivalent unit (shown in ) by the number of equivalent units (shown in ) for direct materials, direct labor, and overhead. shows how this is done. shows that total costs of $248,000 are assigned to units completed and transferred out and that $138,000 in costs are assigned to ending WIP inventory. On completion of step 4, it is important to reconcile the total costs to be accounted for shown at the bottom of with the total costs accounted for shown at the bottom of . The two balances must match (note that small discrepancies may exist due to rounding the cost per equivalent unit). This reconciliation relates back to the basic cost flow equation as follows: Beginning balance+Transfers in=Transfers out + Ending balance(BB)+(TI)Costs to be accounted for($386,000*)=(TO)+(EB)Costs accounted for($386,000**)**From . ***From . Although the examples in this chapter have been created in a way that minimizes rounding errors, always round the cost per equivalent unit calculations in step 3 to the nearest thousandth (e.g., if the cost per equivalent unit is $2.3739, round this to $2.374 rather than to $2). Although rounding differences still may occur, this will minimize the size of rounding errors when attempting to reconcile costs to be accounted for (step 2) with costs accounted for (step 4). How many workOne work-in-process inventory account is used—job cost sheets track costs assigned to each job.
Which costing system job order or process typically uses more workJob order costing typically requires more record keeping than process costing because businesses that use job order costing record materials and other resources for each item of a job. However, in process costing systems, each process or production department has an inventory account, and they aggregate costs.
Which type of cost system maintains a separate workIn a process cost system, each department accumulates its costs to compute the value of work in process inventory, so there will be a work in process inventory for each manufacturing or production department as well as an inventory cost for finished goods inventory.
What type of account is workThe work-in-process inventory account is an asset account that is used to track the cost of the partially finished goods. The work-in-process inventory account includes the value of the WIP inventory available at the start of the accounting period.
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