WEEK 4

REVIEW OF PROCESS COSTING

Study objectives:
1. Understand who uses process cost systems.
2. Explain the similarities and differences between job order cost and process cost
systems.
3. Explain the flow of costs in a process cost system.
4. Make the journal entries to assign manufacturing costs in a process cost system.
5. Compute equivalent units.
6. Explain the four steps necessary to prepare a production cost report.
7. Prepare a production cost report.
8. Compute equivalent units using the FIFO method.

Process Manufacturing and Accounting

Process cost systems are used to apply costs to similar products that are mass
produced in a continuous fashion, such as the production of ice cream, steel or soft
drinks. In comparison, costs in a job order cost system are assigned to a specific job,
such as the construction of a customized home, the making of a motion picture, or the
manufacturing of a specialized machine.

Major differences with Job Order Costing

a) both use the same three manufacturing cost elements of direct materials, direct
labor, and manufacturing overhead;
b) both accumulate costs of raw materials by debiting Raw Materials Inventory,
factory labor by debiting Factory Labor, and manufacturing overhead costs by
debiting Manufacturing Overhead; and
c) both flow costs to the same accounts of Work in Process, Finished Goods
Inventory, and Cost of Goods Sold.

Major differences with Job Order Costing

Feature Job Order Cost System Process Cost System
Work in process
One of each job One for each process
accounts
Documents used Job cost sheets Production cost report
Determination of total
Each job Each period
manufacturing costs
Total manufacturing costs ÷
Cost of each job ÷ Units
Unit-cost computations Equivalent units produced
produced for the job
during the period

Process Cost Flow

Suppose that a furniture company has the following processes involved in building its
products: machining and assembly. In the Machining Department, the raw materials are
shaped, honed, and drilled. In the Assembly Department, the parts are assembled and
packaged.

Materials, labor, and manufacturing overhead can be added in both the Machining and
Assembly Departments. When the Machining Department finishes its work, the partially
completed units are transferred to the Assembly Department. In the Assembly
Department, the goods are finished and are then transferred to the finished goods
inventory. Upon sale, the goods are removed from the finished goods inventory.

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Assignment of Manufacturing Costs

All raw materials issued for production are a materials cost to the producing department.
Materials requisition slips may be used in a process cost system, but fewer requisitions
are generally required than in a job order cost system, because the materials are used
for processes rather than for specific jobs. The entry to record the materials used is:

Time tickets may be used in determining the cost of labor assignable to the production
departments. The labor cost chargeable to a process can be obtained from the payroll
register or departmental payroll summaries. All labor costs incurred within a producing
department are a cost of processing the raw materials. The entry to assign the labor
costs is:

The basis for allocating the overhead costs to the production departments in an objective
and equitable manner is the activity that “drives” or causes the costs. A primary driver of
overhead costs in continuous manufacturing operations is machine time used, not direct
labor. Thus, machine hours are widely used in allocating manufacturing overhead costs.
The entry to allocate overhead is:

At the end of the period, the following transfer entries are needed:

Equivalent Units

A major step in process cost accounting is the calculation of equivalent units. Equivalent
units of production measure the work done during the period, expressed in fully
completed units. This concept is used to determine the cost per unit of completed
product.

The formula to compute equivalent units of production under the weighted average
method is as follows:

The method of computing equivalent units here is referred to as the weighted average
method. It considers the degree if completion (weighting) of the units completed and
transferred out and the ending work in process. A lesser used method, called the FIFO
method, is discussed in Appendix 1.

To illustrate the computation of equivalent units using the weighted average method,

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assume that materials are entered at the beginning of the process and the following
information is provided for the Processing Department of Skopje Company:

The two equivalent unit computations are as follows:

Production Cost Report

A production cost report is the key document used by management to understand the
activities in a department because it shows the production quantity and cost data related
to that department. In order to be ready to complete a production cost report, the
company must perform four steps:
a. Compute the physical unit flow.
b. Compute the equivalent units of production.
c. Compute unit production costs.
d. Prepare a cost reconciliation schedule.

The computation of physical units involves:

a. Adding the units started (or transferred) into production during the period to the
units in process at the beginning of the period to determine the total units to be
accounted for; and
b. Accounting for these units by determining the output for the period--which
consists of units transferred out during the period and units in process at the
end of the period.

In the example above, the total units to be accounted for and the units accounted
for are both equal to 7,000 units for Skopje Company.

In computing unit costs, production costs are expressed in terms of equivalent units of
production. When equivalent units are different for materials and conversion costs, the
formulas for computing unit costs are as follows:

The cost reconciliation schedule shows that the total costs accounted for equal the
total costs to be accounted for as follows:

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Assume the Processing Department of the Skopje Company has the following additional
cost information:

The Skopje Company’s Processing Department Production Cost Report at the end of the
period is as follows:

Operations Costing

Companies often use a combination of a process cost and a job order cost system,
called operations costing. Operations costing is similar to process costing in that
standardized methods are used to manufacture the product. At the same time, the
product may have some customized, individual features that require the use of a job
order cost system.

Equivalent Units using the FIFO Method

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To illustrate the computation of equivalent units using the FIFO method, assume that
materials are entered at the beginning of the process and the following information is
provided for the Processing Department of the Skopje Company:

The equivalent units for material costs of the Processing Department under the FIFO
method are computed as follows:

The equivalent units for conversion costs of the Processing Department under the FIFO
method are computed as follows:

Production Cost Report using the FIFO Method

Assume the Processing Department of the Skopje Company has the following additional
cost information:

The Skopje Company’s Processing Department Production Cost Report at the end of the
period using the FIFO method is as follows:

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ACCTG 211: Strategic Cost Management
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 ACTIVITY 1
(Write your answers using sheet/s of yellow pad paper to be submitted next Monday, October 5,
at the beginning of the class.)
EXERCISE 1
All Wood Corporation manufactures dining chairs and tables. The following information
is available:
Dining Chairs Tables Total Cost
Machine setups 200 600 ₱36,000
Inspections 250 470 ₱54,000
Labor hours 2,600 2,400

All Wood is considering switching from one overhead rate based on labor hours to
activity-based costing.

Instructions
Perform the following analyses for these two components of overhead:
a. Compute total machine setups and inspection costs assigned to each product, using
a single overhead rate.
b. Compute total machine setups and inspection costs assigned to each product, using
activity-based costing.

EXERCISE 2
1. Write down a summary about process costing.

Sources:
Cabrera & Cabrera / Management Accounting Concepts and Application, 2017 Edition
Hilton / Managerial Accounting, 9th Edition
IMA / Standards of Ethical Conduct for Management Accountants,
https://www.accountingverse.com/managerial-accounting/introduction/code-of-ethics.html
Kieso & Waygandt / Managerial Accounting, 4th Edition
Roque, Rogelio S. / Reviewer in Management Advisory Services, 2016 Edition

End of Week 4

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