Systems design process costing
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Systems Design: Process Costing. Both systems assign material, labor and overhead costs to products and they provide a mechanism for computing unit product costs.

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Systems design process costing

Systems Design: Process Costing


Similarities between job order and process costing

Both systems assign material, labor and overhead costs to products and they provide a mechanism for computing unit product costs.

Both systems use the same manufacturing accounts, including Manufacturing Overhead, Raw Materials, Work in Process, and Finished Goods.

The flow of costs through the manufacturing accounts is basically the same in both systems.

Similarities Between Job-Order and Process Costing


Differences between job order and process costing

Process costing is used when a single product is produced on a continuing basis or for a long period of time. Job-order costing is used when many different jobs having different production requirements are worked on each period.

Process costing systems accumulate costs by department. Job-order costing systems accumulated costs by individual jobs.

Process costing systems compute unit costs by department. Job-order costing systems compute unit costs by job on the job cost sheet.

Differences Between Job-Order and Process Costing


Systems design process costing

Quick Check 

Process costing is used for products that are:

a. Different and produced continuously.

b. Similar and produced continuously.

c. Individual units produced to customer specifications.

d. Purchased from vendors.


Systems design process costing

Quick Check 

Process costing is used for products that are:

a. Different and produced continuously.

b. Similar and produced continuously.

c. Individual units produced to customer specifications.

d. Purchased from vendors.


Processing departments

Processing Departments

Any unit in an organization where materials, labor or overhead are added to the product.

The activities performed in a processingdepartment are performed uniformly on allunits of production. Furthermore, the output ofa processing department must be homogeneous. Products in a process costing environment

typically flow in a sequence from one departmentto another.


Learning objective 1

Learning Objective 1

Record the flow of materials, labor, and overhead through a process costing system.


Comparing job order and process costing

FinishedGoods

Work inProcess

Cost of GoodsSold

Comparing Job-Order and Process Costing

Direct Materials

Direct Labor

Manufacturing Overhead


Comparing job order and process costing1

Comparing Job-Order and Process Costing

Costs are traced andapplied to individualjobs in a job-ordercost system.

Direct Materials

FinishedGoods

Jobs

Direct Labor

Manufacturing Overhead

Cost of GoodsSold


Comparing job order and process costing2

Comparing Job-Order and Process Costing

Costs are traced and applied to departments in a process cost system.

Direct Materials

Processing

Department

FinishedGoods

Direct Labor

Manufacturing Overhead

Cost of GoodsSold


T account and journal entry views of process cost flows

T-Account and Journal Entry Views of Process Cost Flows

For purposes of this example, assume there are two processing departments – Departments A and B. We will use T-accounts and journal entries.


Process cost flows the flow of raw materials in t account form

  • Direct Materials

  • DirectMaterials

  • Direct Materials

Process Cost Flows: The Flow of Raw Materials (in T-account form)

Work in Process Department A

Raw Materials

Work in Process Department B


Process cost flows the flow of raw materials in journal entry form

Process Cost Flows: The Flow of Raw Materials (in journal entry form)


Process cost flows the flow of labor costs in t account form

  • Direct Labor

  • Direct Labor

  • Direct Labor

Process Cost Flows: The Flow of Labor Costs (in T-account form)

Salaries and Wages Payable

Work in Process Department A

  • Direct Materials

Work in Process Department B

  • Direct Materials


Process costing the flow of labor costs in journal entry form

Process Costing: The Flow of Labor Costs (in journal entry form)


Process cost flows the flow of manufacturing overhead costs in t account form

Process Cost Flows: The Flow of Manufacturing Overhead Costs (in T-account form)

Work in Process Department A

  • Direct Materials

Manufacturing Overhead

  • Direct Labor

  • Actual Overhead

  • OverheadApplied to Work inProcess

  • AppliedOverhead

Work in Process Department B

  • Direct Materials

  • Direct Labor

  • AppliedOverhead


Systems design process costing

Process Cost Flows: The Flow of Manufacturing Overhead Costs (in journal entry form)


Process cost flows transfers from wip dept a to wip dept b in t account form

Transferred to Dept. B

  • Transferred from Dept. A

Process Cost Flows: Transfers from WIP-Dept. A to WIP-Dept. B (in T-account form)

Work in Process Department B

Work in ProcessDepartment A

  • Direct Materials

  • Direct Materials

  • Direct Labor

  • Direct Labor

  • AppliedOverhead

  • AppliedOverhead

DepartmentA

DepartmentB


Systems design process costing

Process Cost Flows: Transfers from WIP-Dept. A to WIP-Dept. B (in journal entry form)


Process cost flows transfers from wip dept b to finished goods in t account form

  • Cost of GoodsManufactured

Process Cost Flows: Transfers from WIP-Dept. B to Finished Goods (in T-account form)

Work in Process Department B

Finished Goods

  • Direct Materials

  • Cost of Goods Manufactured

  • Direct Labor

  • AppliedOverhead

  • Transferred from Dept. A


Systems design process costing

Process Cost Flows: Transfers from WIP-Dept. B to Finished Goods (in journal entry form)


Process cost flows transfers from finished goods to cogs in t account form

Process Cost Flows: Transfers from Finished Goods to COGS (in T-account form)

Work in Process Department B

Finished Goods

  • Direct Materials

  • Cost of Goods Manufactured

  • Cost of GoodsManufactured

  • Cost of GoodsSold

  • Direct Labor

  • AppliedOverhead

  • Transferred from Dept. A

Cost of Goods Sold

  • Cost of GoodsSold


Systems design process costing

Process Cost Flows: Transfers from Finished Goods to COGS (in journal entry form)


Equivalent units of production

Equivalent Units of Production

Equivalent units are the product of the number of partially completed units and the percentage completion of those units.

We need to calculate equivalent units because a department usually has some partially completed units in its beginning and ending inventory. These partially completed units complicate the determination of a department’s output for a given period and the unit cost that should be assigned to that output.


Equivalent units the basic idea

+

=

1

Equivalent Units – The Basic Idea

Two half completed products are equivalent to one complete product.

So, 10,000 units 70% completeare equivalent to 7,000 complete units.


Quick check

Quick Check 

For the current period, Jones started 15,000 units and completed 10,000 units, leaving 5,000 units in process 30 percent complete. How many equivalent units of production did Jones have for the period?

a. 10,000

b. 11,500

c. 13,500

d. 15,000


Quick check1

Quick Check 

For the current period, Jones started 15,000 units and completed 10,000 units, leaving 5,000 units in process 30 percent complete. How many equivalent units of production did Jones have for the period?

a. 10,000

b. 11,500

c. 13,500

d. 15,000

10,000 units + (5,000 units × 0.30) = 11,500 equivalent units


Calculating equivalent units

Calculating Equivalent Units

Equivalent units can be calculatedtwo ways:

The First-In, First-Out Method – FIFO is covered in the appendix to this chapter.

The Weighted-Average Method – This method will be covered in the main portion of the chapter.


Learning objective 2

Learning Objective 2

Compute the equivalent units of production using the weighted-average method.


Equivalent units of production weighted average method

Equivalent Units of ProductionWeighted-Average Method

The weighted-average method . . .

Makes no distinction between work done in prior or current periods.

Blends together units and costs from prior and current periods.

Determines equivalent units of production for a department by adding together the number of units transferred out plus the equivalent units in ending Work in Process Inventory.


Treatment of direct labor

Treatment of Direct Labor

DirectMaterials

Direct labor costsmay be smallin comparison toother product

costs in processcost systems.

ManufacturingOverhead

Dollar Amount

DirectLabor

Type of Product Cost


Treatment of direct labor1

Treatment of Direct Labor

DirectMaterials

Direct labor and manufacturing overhead may be combined into one classification of product cost called conversion costs.

Conversion

DirectLabor

Dollar Amount

DirectLabor

ManufacturingOverhead

Type of Product Cost


Weighted average an example

Weighted-Average – An Example

Smith Company reported the following activity in the Assembly Department for the month of June:


Weighted average an example1

Weighted-Average – An Example

The first step in calculating the equivalent units is to identify the units completed and transferred out of Assembly Department in June (5,400 units)


Weighted average an example2

Weighted-Average – An Example

The second step is to identify the equivalent unitsof production in ending work in processwith respect to materialsfor the month (540 units) and adding this to the 5,400 units from step one.


Weighted average an example3

Weighted-Average – An Example

The third step is to identify the equivalent unitsof production in ending work in processwith respect to conversion for the month (270 units) and adding this to the 5,400 units from step one.


Weighted average an example4

Weighted-Average – An Example

Equivalent units of production always equals:

Units completed and transferred

+ Equivalent units remaining in work in process


Weighted average an example5

Weighted-Average – An Example

Materials

6,000 Units Started

EndingWork in Process900 Units60% Complete

BeginningWork in Process300 Units40% Complete

5,100 Units Startedand Completed

5,400 Units Completed

5,400 Units Completed

900 × 60%

540 Equivalent Units

5,940 Equivalent units of production


Weighted average an example6

Weighted-Average – An Example

Conversion

6,000 Units Started

EndingWork in Process900 Units30%Complete

BeginningWork in Process300 Units20%Complete

5,100 Units Startedand Completed

5,400 Units Completed

900 × 30%

270 Equivalent Units

5,670 Equivalent units of production


Learning objective 3

Learning Objective 3

Compute the cost per equivalent unit using the weighted-average method.


Compute and apply costs

Compute and Apply Costs

Beginning Work in Process Inventory: 400 units

Materials: 40% complete $6,119

Conversion: 20% complete $3,920

Production started during June 6,000 units

Production completed during June 5,400 units

Costs added to production in June

Materials cost $ 118,621

Conversion cost $ 81,130

Ending Work in Process Inventory: 900 units

Materials: 60% complete

Conversion: 30% complete


Compute and apply costs1

Cost of beginningWork in ProcessInventory

Cost perequivalent unit

+

Cost added during the period

=

Equivalent units of production

Compute and Apply Costs

The formula for computing the cost per equivalent unit is:


Compute and apply costs2

Compute and Apply Costs

Here is a schedule with the cost and equivalent unit information.


Compute and apply costs3

Compute and Apply Costs

Here is a schedule with the cost and equivalent unit information.

$124,740 ÷ 5,940 units = $21.00

$85,050 ÷ 5,670 units = $15.00

Cost per equivalent unit = $21.00 + $15.00 = $36.00


Learning objective 4

Learning Objective 4

Assign costs to units using the weighted-average method.


Applying costs

Applying Costs


Applying costs1

Applying Costs


Applying costs2

Applying Costs


Computing the cost of units transferred out

Computing the Cost of Units Transferred Out


Computing the cost of units transferred out1

Computing the Cost of Units Transferred Out


Computing the cost of units transferred out2

Computing the Cost of Units Transferred Out


Learning objective 5

Learning Objective 5

Prepare a cost reconciliation report.


Reconciling costs

Reconciling Costs


Reconciling costs1

Reconciling Costs


Operation costing

Operation Costing

Operation cost is a hybrid of job-order and process costing because it possesses attributes of both approaches

Operation costing is commonly used when batches of many different products pass through the same processing department.


Fifo method

FIFO Method

Appendix 4A


Fifo vs weighted average method

FIFO vs. Weighted-Average Method

The FIFO method (generally considered more accurate than the weighted-average method) differs from the weighted-average method in two ways:

  • The computation of equivalent units.

  • The way in which the costs of beginning inventory are treated.


Learning objective 6

Learning Objective 6

Compute the equivalent units of production using the FIFO method.


Equivalent units fifo method

Equivalent Units – FIFO Method

Let’s revisit the Smith Company example. Here is information concerning the Assembly Department for the month of June.


Equivalent units fifo method1

Equivalent Units – FIFO Method

Step 1: Determine equivalent units needed to completebeginning Work in Process Inventory.


Equivalent units fifo method2

Equivalent Units – FIFO Method

Step 2: Determine units started and completed during the period.


Equivalent units fifo method3

Equivalent Units – FIFO Method

Step 3: Add the equivalent units in ending Work in Process Inventory.


Fifo example

FIFO Example

Materials

6,000 Units Started

EndingWork in Process900 Units60% Complete

BeginningWork in Process300 Units40% Complete

5,100 Units Startedand Completed

300 × 60%

180 Equivalent Units

5,100 Units Completed

900 × 60%

540 Equivalent Units

5,820 Equivalent units of production


Fifo example1

FIFO Example

Conversion

6,000 Units Started

EndingWork in Process900 Units30% Complete

BeginningWork in Process300 Units20% Complete

5,100 Units Startedand Completed

300 × 80%

240 Equivalent Units

5,100 Units Completed

900 × 30%

270 Equivalent Units

5,610 Equivalent units of production


Equivalent units weighted average vs fifo

Equivalent Units: Weighted-Average vs. FIFO

As shown below, the equivalent units in beginning inventory are subtracted from the equivalent units of production per the weighted-average method to obtain the equivalent units of production under the FIFO method.


Learning objective 7

Learning Objective 7

Compute the cost per equivalent unit using the FIFO method.


Cost per equivalent unit fifo

Cost per Equivalent Unit - FIFO

Let’s revisit the Smith Company Assembly Department for the month of June to prepare our production report.

Beginning work in process: 400 units

Materials: 40% complete $6,119

Conversion: 20% complete $3,920

Production started during June6,000 units

Production completed during June5,400 units

Costs added to production in June

Materials cost $ 118,621

Conversion cost $ 81,130

Ending work in process 900 units

Materials: 60% complete

Conversion: 30% complete


Cost per equivalent unit fifo1

Cost perequivalent unit

Cost added during the period

=

Equivalent units of production

Cost per Equivalent Unit - FIFO

The formula for computing the cost per equivalent unit under FIFO method is:


Cost per equivalent unit fifo2

Cost per Equivalent Unit - FIFO

$118,600 ÷ 5,820

$81,130 ÷ 5,610

Total cost per equivalent unit = $20.3816 + $14.4617 = $34.8433


Learning objective 8

Learning Objective 8

Assign costs to units using the FIFO method.


Applying costs fifo

Applying Costs - FIFO

Step 1: Record the equivalent units of production in ending Work in Process Inventory.

900 units × 60%

900 units × 30%


Applying costs fifo1

Applying Costs - FIFO

Step 2: Record the cost per equivalent unit.


Applying costs fifo2

Applying Costs - FIFO

Step 3: Compute the cost of ending Work in Process Inventory.

540 × $20.3816

270 × 14.4617


Cost of units transferred out

Cost of Units Transferred Out

Step 1: Record the cost in beginning Work in Process Inventory.


Cost of units transferred out1

Cost of Units Transferred Out

Step 2: Compute the cost to complete the units in beginningWork in Process Inventory.


Cost of units transferred out2

Cost of Units Transferred Out

Step 3: Compute the cost of units started and completed this period.


Cost of units transferred out3

Cost of Units Transferred Out

Step 4: Compute the total cost of units transferred out.


Learning objective 9

Learning Objective 9

Prepare a cost reconciliation report using the FIFO method.


Reconciling costs2

Reconciling Costs


Reconciling costs3

Reconciling Costs


A comparison of costing methods

A Comparison of Costing Methods

In a lean production environment, FIFO and weighted-average methods yield similar unit costs.

When considering cost control, FIFO is superior to weighted-average because it does not mix costs of the current period with costs of the prior period.


Service department allocations

Service Department Allocations

Appendix 4B


Operating departments

Operating Departments

Anoperating department carries out the central purpose of the organization

The Geography Department at the University of Washington.

The Surgery Department at Mount Sinai Hospital.

A Production Department at Mitsubishi.


Service departments

Service Departments

Service departments do not directly engage in operating activities.

The Accounting Department at Macy’s.

The Human Resources Department at Walgreens.


Interdepartmental services

Interdepartmental Services

ServiceDepartment

OperatingDepartment

Costs of the service department become overhead costs to the operating department


Allocation approaches

DirectMethod

Step-DownMethod

ReciprocalMethod

Allocation Approaches


Reciprocal services

Reciprocal Services

ServiceDepartment 1

ServiceDepartment 2

When service departments provide services to each other we call them reciprocal services.


Learning objective 10

Learning Objective 10

Allocate service department costs to operating departments using the direct method.


Direct method

Interactionsbetween service

departments areignored and all

costs areallocated directlyto operatingdepartments.

Direct Method

Service Department

(Cafeteria)

Operating Department

(Machining)

Service Department

(Custodial)

Operating Department

(Assembly)


Direct method an example

Direct Method – An Example


Direct method an example1

Direct Method – An Example

How much of the Cafeteria and Custodial costs should be allocated to each operating department using the direct method of cost allocation?


Direct method an example2

20

20 + 30

$360,000 ×

= $144,000

Direct Method – An Example

Allocation base: Number of employees


Direct method an example3

30

20 + 30

$360,000 ×

= $216,000

Direct Method – An Example

Allocation base: Number of employees


Direct method an example4

25,000

25,000 + 50,000

$90,000 ×

= $30,000

Direct Method – An Example

Allocation base: Square feet occupied


Direct method an example5

50,000

25,000 + 50,000

$90,000 ×

= $60,000

Direct Method – An Example

Allocation base: Square feet occupied


Learning objective 11

Learning Objective 11

To allocate service department costs to operating departments using the step-down method.


Step down method

Once a servicedepartment’s costsare allocated, other servicedepartment costsare not allocatedback to it.

Step-Down Method

Service Department

(Cafeteria)

Operating Department

(Machining)

Service Department

(Custodial)

Operating Department

(Assembly)


Systems design process costing

Step-Down Method

There are three key points to understand regarding the step-down method:

In both the direct and step-down methods, any

amount of the allocation base attributable to the

service department whose cost is being allocated is

always ignored.

 Any amount of the allocation base that is attributable to a service department whose cost has already been allocated is ignored.

Each service department assigns its own costs to operating departments plus the costs that have been allocated to it from other service departments.


Systems design process costing

Step-Down Method – An Example

We will use the same data used in the direct method example.


Systems design process costing

Step-Down Method – An Example

Allocate Cafeteria costs first sinceit provides more service than Custodial.


Systems design process costing

10

10 + 20 + 30

$360,000 ×

= $60,000

Allocation base: Number of employees

Step-Down Method – An Example


Systems design process costing

20

10 + 20 + 30

$360,000 ×

= $120,000

Allocation base: Number of employees

Step-Down Method – An Example


Systems design process costing

30

10 + 20 + 30

$360,000 ×

= $180,000

Allocation base: Number of employees

Step-Down Method – An Example


Systems design process costing

New total = $90,000 original Custodial cost plus $60,000 allocated from the Cafeteria.

Step-Down Method – An Example


Systems design process costing

25,000

25,000 + 50,000

$150,000 ×

= $50,000

Allocation base: Square feet occupied

Step-Down Method – An Example


Systems design process costing

50,000

25,000 + 50,000

$150,000 ×

= $100,000

Allocation base: Square feet occupied

Step-Down Method – An Example


Reciprocal method

Interdepartmentalservices are givenfull recognitionrather than partialrecognition as withthe step method.

Reciprocal Method

Service Department

(Cafeteria)

Operating Department

(Machining)

Service Department

(Custodial)

Operating Department

(Assembly)

Because of its mathematical complexity, the reciprocal method is rarely used.


Quick check data for direct and step down methods

Quick Check Datafor Direct and Step-Down Methods

The direct method of allocation is used.

  • Allocation bases:

    • Business school administration costs (ADMIN):Number of employees

    • Business Administration computer services (BACS):Number of personal computers


Quick check2

Quick Check 

How much cost will be allocated from Administration to Accounting?

a. $ 36,000

b. $144,000

c. $180,000

d. $ 27,000


Quick check3

20

20 + 80

$180,000 ×

= $36,000

Quick Check 

How much cost will be allocated from Administration to Accounting?

a. $ 36,000

b. $144,000

c. $180,000

d. $ 27,000


Quick check4

Quick Check 

How much total cost will be allocated from ADMIN and BACS combined to the Accounting Department?

a. $ 52,500

b. $135,000

c. $270,000

d. $ 49,500


Quick check5

18

18 + 102

$90,000 ×

= $13,500

Quick Check 

How much total cost will be allocated from ADMIN and BACS combined to the Accounting Department?

a. $ 52,500

b. $135,000

c. $270,000

d. $ 49,500


Quick check data

Quick Check Data

The step method of allocation is used.

  • Allocation bases:

    • Business school administration costs (ADMIN):Number of employees

    • Business administration computer services (BACS):Number of personal computers


Quick check6

Quick Check 

How much total cost will be allocated from ADMIN and BACS combined to the Accounting Department?

a. $35,250

b. $49,072

c. $18,000

d. $26,333


Quick check7

Quick Check 

How much total cost will be allocated from ADMIN and BACS combined to the Accounting Department?

a. $35,250

b. $49,072

c. $18,000

d. $26,333


End of chapter 4

End of Chapter 4


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