Process Cost Systems

18 Process Cost Systems

Describe and illustrate the use of cost of production reports for decision making. 4 1 Describe process cost systems. Journalize entries for transactions using a process cost system. Prepare a cost of production report. 2 3 Learning Objective 1 Learning Objective 1 Process Cost Systems 3-1 3-1 After studying this chapter, you should be able to: Describe the nature of the adjusting process. Describe the nature of the adjusting process. 18-2

Compare just-in-time processing with traditional manufacturing processing. 5 Process Cost Systems (continued) 18-3

1 Describe process cost systems. 18-4

1 Process Cost System A process manufacturer produces products that are indistinguishable from each other using a continuous production process. The process system used by process manufacturers is called the process cost system.

1 Comparing Job Order and Process Cost Systems Both systems: • Record and summarize product costs. • Classify product costs as direct materials, direct labor, and factory overhead. • Allocate factory overhead costs to products. • Use perpetual inventory system for material, work in process, and finished goods. • Provide useful product cost information for decision making.

1 Differences Between Job Order and Process Cost Systems

Exhibit 1 1 Job Order and Process Cost Systems Compared (continued)

1 Process cost systems are used to manufacture homogeneous products. Examples are: • Tennis balls • Motor oil • Candy bars • Soft drinks

1 In contrast, job cost systems are used to manufacture unique products or provide unique services. Examples are: • Custom-built homes • Landscape design services • Custom cabinets • Airplanes

1 Example Exercise 18-1 Job Order vs. Process Costing Which of the following industries would normally use job order costing systems and which would normally use process costing systems? Home construction Computer chips Beverages Cookies Military aircraft Video game design and production 18-12

Follow My Example 18-1 For Practice: PE 18-1A, PE 18-1B 1 Example Exercise 18-1 (continued) Job Order Process Job Order Process Process Job Order Home construction Beverages Military aircraft Computer chips Cookies Video game design and production 18-13

Exhibit 2 1 Physical Flows for a Process Manufacturer

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight WIP – Packaging Materials WIP – Mixing (a) Direct and indirect materials Debit Materials and credit Accounts Payable when direct and indirect materials are purchased. (a) The cost of materials are purchased and recorded in materials. (continued)

Exhibit 3 DM (b) Direct Materials 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (a) Direct and indirect materials DM DM DM (b) The cost of direct materials used by the Mixing and Packaging department are recorded in the work in process account for each department. (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (a) Direct and indirect materials DL DL DM DM DM (c) The cost of direct labor used by the Mixing and Packaging departments is recorded in process accounts for each department. DL (c) Direct Labor—Mixing (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (a) Direct and indirect materials DL DL DM DM DM (d) The cost of factory overhead incurred for indirect materials and other factory overhead, such as depreciation, is recorded in the factory overhead accounts for each department. (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (a) Direct and indirect materials DL DL DM DM DM IM Factory OH – Mixing Factory OH – Packaging (d) Factory overhead incurred (d) Factory overhead incurred IM (d) Indirect materials (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (a) Direct and indirect materials DL DL DM DM DM IM (e) The factory overhead incurred in the Mixing and Packaging departments is applied to the work in process accounts for each department. Factory OH – Mixing Factory OH – Packaging (d) Factory overhead incurred (d) Factory overhead incurred (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (a) Direct and indirect materials DL DL DM DM DM FOA FOA IM Factory OH – Mixing Factory OH – Packaging (d) Factory overhead incurred (d) Factory overhead incurred FOA FOA FOA (e) Factory overhead applied—Mixing FOA (e) Factory overhead applied—Packaging (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (a) Direct and indirect materials DL DL DM DM DM FOA FOA IM (f) The cost of units completed in the Mixing Department is transferred to the Packaging Department. Factory OH – Mixing Factory OH – Packaging (d) Factory overhead incurred (d) Factory overhead incurred FOA FOA (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (f) Costs trans-ferred out (a) Direct and indirect materials DL DL DM DM DM FOA FOA IM CTI Factory OH – Mixing Factory OH – Packaging (d) Factory overhead incurred (d) Factory overhead incurred FOA FOA CTI (f) Costs transferred in (to packaging) (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (f) Costs trans-ferred out (a) Direct and indirect materials DL DL DM DM DM FOA FOA IM CTI (g) The cost of units completed in the Packaging Department is transferred to Finished Goods. Factory OH – Mixing Factory OH – Packaging (d) Factory overhead incurred (d) Factory overhead incurred FOA FOA (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (f)Costs trans-ferred out (i)Costs trans-ferred out (a) Direct and indirect materials DL DL DM DM DM FOA FOA IM CTI Factory OH – Mixing Factory OH – Packaging (d) Factory overhead incurred (d) Factory overhead incurred Finished Goods FOA FOA CTI CTI (i)Cost transferred in from WIP—Packaging (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (continued) WIP – Packaging Materials WIP – Mixing (f) Costs trans-ferred out (i) Costs trans-ferred out (a) Direct and indirect materials DL DL DM DM DM FOA FOA IM CTI Factory OH – Mixing Factory OH – Packaging (h) The cost of units sold is transferred to Cost of Goods Sold. (d) Factory overhead incurred (d) Factory overhead incurred Finished Goods FOA FOA CTI (continued)

Exhibit 3 1 Cost Flows for a Process Manufacturer—Frozen Delight (concluded) WIP – Packaging Materials WIP – Mixing (f) Costs trans-ferred out (i) Costs trans-ferred out (a) Direct and indirect materials DL DL DM DM DM FOA FOA IM CTI Factory OH – Mixing Factory OH – Packaging (d) Factory overhead incurred (d) Factory overhead incurred Finished Goods FOA FOA CTI CGS Cost of Goods Sold (j) Cost transferred to Cost of Goods Sold CGS CGS

2 Prepare a cost of production report. 18-28

2 Production Report—Mixing Department Inventory in process, July 1, 5,000 gallons: Direct materials cost, 5,000 gallons $ 5,000 Conversion costs, 5,000 gallons, 70% completed 1,225 Total inventory in process, July 1 $ 6,225 Direct materials cost for July, 60,000 gallons $66,000 Direct labor for July 10,500 Factory overhead applied for July 7,275 83,775 Total production costs to account for $90,000 Goods transferred to Packaging in July (including units in process on July 1), 62,000 gallons ? Inventory in process, July 31, 3,000 gallons, 25% complete as to conversion costs ?

2 Step 1: Determine the Units to Be Assigned Costs Total units (gallons) charged to production: In process July 1 5,000 gallons Received from materials storage 60,000 gallons Total units accounted for by the Mixing Department 65,000 gallons

Exhibit 4 2 July Units to Be Costed—Mixing Department

2 Total Units to Be Assigned Costs • Inventory in process, July 1, completed in July 5,000 gal. • Started and completed in July 57,000 gal.* • Transferred out to the Packaging Department in July 62,000 gal. • Inventory in process, July 31 3,000 gal. • Total gallons to be assigned costs 65,000 gal. *62,000 – 5,000

2 Example Exercise 20-1 Example Exercise 18-2 Units to be Assigned Costs Rocky Springs Beverage Company has two departments, Blending and Bottling. The Bottling Department received 57,000 liters from the Blending Department. During the period, the Bottling Department completed 58,000 liters, including 4,000 liters of work in process at the beginning of the period. The ending work in process was 3,000 liters. How many liters were started and completed during the period? 18-33

Follow My Example 18-2 For Practice: PE 18-2A, PE 18-2B 2 Example Exercise 18-2 (continued) 54,000 liters started and completed (58,000 completed – 4,000 beginning work in process), or (57,000 started – 3,000 WIP) 18-34

2 Step 2: Compute Equivalent Units of Production Whole units are the number of units in production during a period, whether completed or not. Equivalent units of production are the portion of whole units that are complete with respect to either materials or conversion (direct labor and factory overhead) costs.

Important: Note the word “Added” 2 Frozen Delight’s Equivalent Units Computation for Materials in July Percent Equivalent Total Materials Units for Whole Added Direct Units in July Materials Inventory in process, July 1 5,000 0% 0 Started and completed in July (62,000 – 5,000) 57,000 100% 57,000 Transferred out to Packaging Dept. 62,000 — 57,000 Inventory in process, July 31 3,000 100% 3,000 Total gallons to be assigned cost 65,000 60,000

Exhibit 5 2 Direct Materials Equivalent Units

2 Example Exercise 20-1 Example Exercise 18-3 Equivalent Units of Materials Cost The Bottling Department of Rocky Springs Beverage Company had 4,000 liters in beginning work in process inventory (30% complete). During the period, 58,000 liters were completed. The ending work in process inventory was 3,000 liters (60% complete). What are the total equivalent units for direct materials if materials are added at the beginning of the process? 18-38

Follow My Example 18-3 For Practice: PE 18-3A, PE 18-3B 2 Example Exercise 18-3 (continued) Percent Equivalent Total Materials Units for Whole Added Direct Unitsin PeriodMaterials Inventory in process, beginning of period 4,000 0% 0 Started and completed during the period 54,000* 100% 54,000 Transferred out of Bottling (completed) 58,000 54,000 Inventory in process, end of period 3,000 100% 3,000 Total units to be assigned costs 61,000 57,000 *(58,000 – 4,000) 18-39

2 Equivalent Units for Conversion Costs To compute equivalent units for conversion costs, it is necessary to know how direct labor and factory overhead enter the manufacturing process.

2 Percent Total Conversion Equivalent Whole Completed Units for Units in July Conversion Inventory in process, July 1 (70% complete) 5,000 30% 1,500 Started and completed in July (62,000 – 5,000) 57,000 100% 57,000 Transferred out to Packaging Department in July 62,000 — 58,500 Inventory in process, July 31 (25% complete) 3,000 25% 750 Total gallons to be assigned cost 65,000 59,250

Exhibit 6 2 Conversion Equivalent Units

2 Example Exercise 20-1 Example Exercise 18-4 Equivalent Units of Conversion Costs The Bottling Department of Rocky Springs Beverage Company had 4,000 liters in beginning work in process inventory (30% complete). During the period, 58,000 liters were completed. The ending work in process inventory was 3,000 liters (60% complete). What are the total equivalent units for conversion costs? 18-43

Follow My Example 18-4 For Practice: PE 18-4A, PE 18-4B 2 Example Exercise 18-4 (continued) Percent Equivalent Conversion Units for Whole Completed Conver- Unitsin Periodsion Inventory in process, beginning of period 4,000 70% 2,800 Started and completed during the period 54,000* 100% 54,000 Transferred out of Bottling (completed) 58,000 56,800 Inventory in process, end of period 3,000 60% 1,800 Total units to be assigned costs 61,000 58,600 *(58,000 – 4,000) 18-44

Total Conversion Costs for the Period Total Equivalent Units of Conversion Costs Conversion Cost per Equivalent Unit = 2 Cost per Equivalent Unit Total Direct Materials Cost for the Period Total Equivalent Units of Direct Materials Direct Materials Cost per Equivalent Unit =

2 Step 3: Determine the Cost per Equivalent Unit Equivalent Units from Step 2 Direct MaterialsConversion Inventory in process, July 1 0 1,500 Started and completed in July (62,000 – 5,000)57,00057,000 Transferred out to Packaging Dept. in July 57,000 58,500 Inventory in process, July 31 3,000 750 Total gallons to be assigned costs 60,000 59,250

Conversion Cost per Equivalent Unit $0.30 per gallon $17,775 conversion costs = 59,250 gallons 2 Direct Materials Cost per Equivalent Unit $1.10 per gallon $66,000 direct materials costs = 60,000 direct materials equivalent units

2 Example Exercise 20-1 Example Exercise 18-5 Cost per Equivalent Unit The cost of direct materials transferred into the Bottling Department of Rocky Springs Beverage Company is $22,800. The conversion cost for the period in the Bottling Department is $8,790. The total equivalent units for direct materials and conversion are 57,000 and 58,600 liters, respectively. Determine the direct materials and conversion cost per equivalent unit. 18-48

Follow My Example 18-5 For Practice: PE 18-5A, PE 18-5B 2 Example Exercise 18-5 (continued) $22,800 57,000 liters Equivalent units of materials: = $0.40 per liter $8,790 58,600 liters Equivalent units of conversion: = $0.15 per liter 18-49

2 Step 4: Allocate Costs to Units Transferred Out and Partially Completed Units Direct Conver- Materials sion Total Costs Costs Costs Inventory in process, July 1, balance $6,225 Equivalent units for completing the July 1 in-process inventory 0 1,500 Equivalent unit cost × $1.10× $0.30 Cost of completed July 1 in- process inventory 0 $450 450 Cost of July 1 in-process inventory transferred to Packaging Department$6,675

Process Cost Systems