Cost 1 Chapter 3 Part 2

CHAPTER THREE
PROCESS COSTING SYSTEM – PART TWO

Introduction
Process cost accounting is used to assign costs to products or services. It is used in industries that
produce essentially homogenous/like units which are often mass produced on continuous or repetitive
basis. Examples are: chemical processing, oil refining, pharmaceuticals, plastics, brick and tile
manufacturing, semiconductor chips, beverages, and breakfast cereals. Since every unit is essentially
the same, each unit receives the same manufacturing input as every other unit. A process costing system
accumulates manufacturing costs for a period of time and computes an average manufacturing cost
for the units produced during the period of time.
3.1. Characteristics & procedures of process costing Method
Process costing; one of the two cost accumulation procedures, is best used in industries processing
chemicals, petroleum, textile, steel and etc. it is used when products are manufactured under conditions
of continuous processing or under mass production methods. That is why process costing procedures are
often termed as « Continuous or mass production » Cost accounting procedures.
 The characteristics of process costing are:
1. The cost of production report is used to collect, summarize and compute total and unit costs
2. Production is accumulated & reported by departments
3. Costs are posted to departmental work in process account
4. Production in process at the end of a period is restated in terms of completed units
5. Total cost charged by a department is divided by total production units of the department to
determine the unit cost for a specific period.
6. Cost of completed units of a department is transferred to the next processing department in
order to arrive at the total costs of the finished products during a period. At the same time
costs are assigned to units still in process.
 Procedures of process costing
1. Accumulate Materials, labor and factory overhead costs by departments.
2. Determine unit costs for each department
3. Transfer costs from one department to the next and to Finished Goods
4. Assign costs to the inventory of work still in process.
Similarities between job order and process costing include:
 The same basic purpose: to assign material, labor, and overhead cost to products.
Cost and Management Accounting I Chapter 3 part 2 by Genanew A. Page 1

 The same overhead assignment method: predetermined rates time actual activity and disposal
of under/over applied OH.
 The same basic manufacturing accounts: Manufacturing overhead, Raw materials, Work in
process, Finished Goods.
 The flow of costs through the manufacturing accounts is basically the same in both systems.
Note: Process costing is concerned, however, with the assignment of these costs to the appropriate
departmental WIP inventory accounts.
So product costing is an averaging process (whether job or process costing). But the main difference
between job and process costing is the extent of averaging used to compute unit costs of products or
services. A process cost system requires much less effort and expense in accumulating costs than a
job order cost because of the work involved in analyzing each cost and recording it on a job cost
sheet.
Difference between job order and process costing
Job Order Costing Process Costing

 Many unique, heterogeneous, high  For production of small, identical (homogenous),
cost jobs/products low cost products
 Jobs built to customer order. Low  Mass produced in automated continuous production
production volume process for inventory
 High product flexibility  Low product flexibility(standardized)
 Costs are accumulated by job  Costs are accumulated by department or process for
 Unit costs = Cost of each job ÷ units a period. Costs cannot be directly traced to each unit
produced for the job of product.
 Job cost sheet is the key document.  Unit costs = Total Mfg cost ÷ units produced in the
department during the period.
 Department production report is key document.
3.1.1. Costing by departments

A department production report (cost of production report) is a cost sheet used for process costing
for each department that summarizes the total cost charged to a department and the allocation
between the ending work-in-process inventory and the units completed and transferred to the next

department or finished goods inventory. The production report is an internal report which provides
cost information for financial statements and also helps managers control their departments.
The nature of a manufacturing operation in firms using process or job order costing procedures is
usually takes production tasks from different departments. For that matter, what ever the cost
procedure method is applied, each department is responsible to perform a specific operation or
process towards the completions of production. When units are transferred from one department to
the other the associated cost incurred in each department will also be transferred along with the
physical flow products. Finally the cost of completed units is determined by dividing the total cost of
a period by the total units produced during the same period. Departmental total and unit costs are
determined by the use of the cost of production report.
 Product Flow Methods
A product can flow through a factory in many ways. Three product flow formats associated with
process costing are depicted below.
a) Sequential product flow
WIP, Blending dep’t WIP, Testing dep’t WIP, Terminal F.G.
Materials Labor Labor
Labor FOH FOH
FOH
In this type of product flow each item manufactured goes through the same set of operation.
Materials are placed into production in the Blending department and labor and FOH are added as well.
When the work is finished in the Blending department it moves to the Testing department. The second
process & any succeeding processes may add more materials or simply work on the partially
completed input from the preceding department adding only labor & FOH.
b) Parallel product flow
WIP Cutting Dep. WIP-planning & sanding WIP-Assembly WIP- Painting
Materials Labor
Labor FOH Materials Materials
FOH Labor Labor
FOH FOH
WIP-Melting Dept. WIP-casting Finished Goods
Materials
Labor Labor

In this method certain portion of the work are done simultaneously in different departments, and
then brought together in a final process or processes for completion and transfer to completed
goods inventory.
c) Selective product flow
WIP-Butchering dept. WIP_ Packing dept. Finished Goods
Materials
Labor Materials
FOH Labor
FOH
WIP-Smoking dept.
Labor
FOH
WIP- Grinding dept.

Labor
FOH
Here the product moves to different departments within the plant depending up on the desired final
product.
3.2. Journal Entries Using Process Costing (Perpetual system assumed)
Similar to those for job order costing, entries accumulate DM, DL, and FOH in process costing.
However, instead of tracing costs to specific jobs or batches, we accumulate costs for departments or
processes resulting in more than one WIP inventory account.
Accounting for Material journal entries: To record purchase of raw materials
Raw material ------------------- xx
Accounts payable --------- xx
The possible journal entry to be maintained when materials are charged for production is as follows
WIP-Blending department ………………xxx
Materials ……………………………………xxx

In process costing, Labor costs are identified by and charged to department, and thus eliminating
the detailed clerical work of accumulating labor costs by jobs. Summary of labor charges are made to
departments through an entry which distributes the direct manufacturing payroll.
WIP-Blending department ………………xxx
WIP-Testing department ………………..xxx
WIP-Terminal department ……………...xxx
Payroll ……………………………………xxx
In process costing, labor costs are traced to departments-not to individual jobs. Direct labor can be
determined from employee time sheets and wage rates for the period. If an employee works in Dep’t A,
his gross salary is charged to Dpt. A.
Accounting for Factory overhead (FOH) journal entries:
If we use actual FOH for other manufacturing cost incurred during production, we would able to
determine the accurate /perfect/ cost of production of a certain product. This method is best suitable if
production is held at constant rate, but if the reverse is happen (production varies) the predetermined
FOH is used. Prior to charging of the balance of FOH to production, we should record the balance of
each expense (cost) categories entitled under it. This can be done as follows:
FOH control --------------------------------------xxx
Accounts payable ----------------------------------xx
Accumulated Depreciation- Machinery ------xx
Prepaid insurance ---------------------------------xx
Materials --------------------------------------------xx
Payroll -----------------------------------------------xx.
 The entry to record actual FOH in the company is:
If we use actual costing, actual OH rate rather than an estimated OH rate to cost the product, we make
the following journal entry to distribute actual OH:
WIP-Dept. A ------------------------------------- xx
Manufacturing OH Control ----------- xx
If normal costing is used FOH costs are charged to WIP inventory of each department at a POR and we
will make the following journal entry to apply FOH to each department:
WIP-Dpt.A ----------------------------------- xx
WIP-Dpt.B ---------------------------------- xx
Manufacturing OH Applied ---------- xx

 Transfer of costs between Departments:
Once processing has been completed in a department, the units are transferred to the next department for
further processing.
WIP-Dpt.B ------------------------ xx
WIP-Dpt.A ----------------- xx
Other related journal entries:
Finished Goods -------------------- xx
WIP-Dpt.B -------------------- xx
To record sale on account
Accounts receivable ------------------- xx
Sales ------------------------------ xx
To record cost of goods sold
COGS ----------------------------- xx
Finished Goods ----------- xx
 The Cost of Production Report
The departmental cost of production report shows all costs chargeable to a department. It would
help being a source for year end (Month end) journal entries, & presenting and disposing of costs
accumulated during the month.
The cost of production report of one department shows:
1. The total and unit costs of goods transferred (received) from the preceding
department(s)
2. Materials, labor & factory overhead added by the department
3. Unit costs for each cost categories added by the department
4. Total & unit costs accumulated to the end operation in the department
5. The cost of beginning & ending WIP inventories and
6. Cost transferred to the succeeding department or FG store room
It is customary to divide the cost section of the report in to two parts: one showing costs for which
the department is accountable (including departmental and cumulative total & unit costs) and the
other showing the disposition of these costs.
A quantity schedule showing the total number of units for which a department is accountable and
the disposition made of these units is also part of each department’s cost of production report.
Information in this schedule, adjusted for equivalent production, is used to determine the unit costs

added by a department, for costing of the ending work in process inventory and computing the total cost
to be transferred to the next department.
A cost of production report determines periodic total & unit costs. As controlling demands detailed
presentation of cost data, showing total figures by it self mean very little for it. Therefore in most cases
the total cost is broken down by cost elements for each department (responsible for the costs
incurred). And this detailed data is needed to account the various completion steps of the work in
process inventories.
Either in the cost of production report itself or in the supporting schedules:
 Each item of material used by the department is listed,
 Every labor operation is showed separately,
 Factory overhead components are noted individually and Unit costs are derived for each
item.
The central product costing problem in process costing is how each department should compute:
 The cost of goods transferred out, and
 The cost of goods remaining in the department
Process Costing- Three Cases
Three types of situations are discussed in this section to illustrate process costing techniques excluding
spoilage and lost units.
i. Zero beginning and zero ending WIP inventory
ii. Zero beginning and some ending WIP inventory
iii. Both some beginning and ending WIP inventory
Case 1: Zero Beginning and Zero Ending WIP Inventory
This condition exists if all items started are completed on the date of reporting.
Example 1
On January 1, 2012, there was no beginning inventory of SG-40 units in the assembly department.
During the month of January, Pacific Electronics started, completely assembled, and transferred out to
the testing department 400 units.
Data for the assembly department for January 2012 are as follows:
Physical Units for January 2012:
Work in process, beginning inventory (January 1) 0 units
Started during January 400 units
Completed and transferred out during January 400 units

Work in process, ending inventory (January 31) 0 units
Physical units refer to the number of output units, whether complete or incomplete. In January 2012,
all 400 physical units started were completed.
Total Costs for January 2012: Assume the following data.
Direct material costs added during January $32,000
Conversion costs added during January 24,000
Total assembly department costs added during January $56,000
Required: How much is cost per unit?
Pacific Electronics records direct material costs and conversion costs in the assembly department as
these costs are incurred. By averaging, assembly cost of SG-40 is $56,000/ 400 units = $140 per
unit, itemized as follows:
Direct material cost per unit ($32,000 /400 units) $80
Conversion cost per unit ($24,000 /400 units) 60
Assembly department cost per unit $140
This approach applies when a company produces homogenous product or service but has no incomplete
units (i.e., all units are 100% complete) when each accounting period ends. This situation is common in
service rendering firms who have no inventories. But in most production processes, Work in Process
(WIP) Inventory exists, which consists of partially completed units. Process costing assigns costs to both
fully and partially completed units by mathematically converting partially completed units to equivalent
whole units.
Process costing systems separate cost into cost categories according to when costs are introduced into
the process. Often only two cost classifications, DMs and CC, are necessary to assign costs to products.
Why only two? This is because all DMs are added to the process at one time and all conversion costs
are generally added to the process evenly through time.
Case II: Zero Beginning and Some Ending WIP Inventory
Because the production process is continuous, most companies have partially completed units (i.e., WIP
Inventory) at the end and/or beginning of the period. Ending WIP inventory consists of units started
during the period, but incomplete at the end of the period. This requires application of the concept of
equivalent units. Physical inspection of the units in ending inventory is needed to determine the
proportion of ending WIP Inventory that was completed during the current period.

 Five Key Steps in Process Costing
Step 1. Summarize the Physical Flow of Goods
The first step in preparing a production report is to prepare a quantity schedule, which shows the
physical flow of units through the department. Where did they come from? Where did they go? This
schedule allows managers to see at glance how many units moved through the department during the
period.
Step 2. Express Performance in Terms of Equivalent Units (EU)
EUs are the number of complete whole units one could obtain from the materials and efforts contained
in partially completed units. EU calculations are used at the end of a month, to prepare monthly
production reports. They are also used at the end of the year to determine ending inventory values.
Step 3. Summarize Total Costs to Account For
Costs come into the department from units in beginning inventory, from material, labor, and overhead
costs that are added during the period, and from any units that might have been transferred in from a
prior department.
Step 4. Compute Equivalent Unit Costs (EU)
Costs per EU of production are computed for each category of costs by dividing the costs to be
accounted for by the total EUs of production.
Step 5. Cost Assignment
Once the cost per EU has been calculated (step 4), a department’s costs are accounted for by assigning
them to: Goods transferred out to the next department (or to finished goods), and Goods still in process
(WIP). The EUs associated with the units transferred out and are still in process are multiplied by the
cost per EU to determine the amount of cost transferred out and in ending WIP inventory.
Example: 2
The quantity schedule of the cost of production report of ABC Company shows that cutting department
has 50,000 units put in process during the month of October, 2013. Of which 45,000 are completed and
transferred to the next department. 4,000 units are still in process and 1,000 units are lost during
production. Materials, labor and FOH added by the department are amounted $24,500, 29,140 and
28,200 respectively. In addition, ending WIP for the department is added with full materials needed for
completion of production, but labor & FOH charged are half of the total required amount.
Required: Prepare a cost of production report for ABC Company
Solution

ABC Company
Cutting department
Cost of production report
For the month ended, October 2013
Quantity Schedule
Units started in process …………………………………………….50, 000
Units transferred to next department …………………..45,000
Units still in process (all materials-1/2 Labor & FOH)…. 4,000
Units lost in process ……………………………………. 1,000 50,000
Cost charged to the department
Total Cost Equivalent Unit Cost
Costs added by the department:
Materials $24,500 $0.50
Labor 29,140 0.62
FOH 28,200 0.60
Total cost to be accounted for $81,840 $1.72
Cost accounted for as follows
Transferred to next department (45,000 x $1.72) $77,400
Work in process ending inventory:
Materials (4,000x$0.5) $2,000
Labor (4,000x1/2 x0.62) 1,240
FOH (4,000 x ½ x0.60) 1,200 4,440
Total cost accounted for $81,840
Additional Computations
Equivalent unit of production:
 Materials = 45,000+4,000= 49,000 unit
 Labor & FOH = 45,000 +1/2 x4, 000 = 47,000 Units
Unit cost: Materials =
Labor = and FOH =

Equivalent Units of Production
In many manufacturing processes all materials are issued at the start of production but all
conversion costs are generally added to the process uniformly through time. Therefore, the 4,000
units still in process for cutting department of company ABC have all the materials need for their
completion but of labor & FOH are charged Only 50%. And we can infer that, the total amount of
labor and FOH charged into units still in process can be converted (stated) into the amount of
completed output units that could be made with that quantity of input.
For example, if 50 units of a product in ending work in process inventory are 70% completed with
respect to conversion costs, there are 35 (70% * 50 units) equivalent units of production for
conversion costs. This restatement of uncompleted works in terms of completed units is called
computation of equivalent units of production. That is, if all the conversion costs input in 50 units’
inventory were used to make complete output units, the company would able to make 35 units of output.
Therefore, in light with the above example we can say that (in terms of equivalent units of production)
the balances of labor & FOH added to WIP inventory of the cutting department are sufficient to
complete 2,000 units. Equivalent units are computed separately for each cost categories of Materials,
Labor & FOH.
Unit costs: Departmental cost of production report indicates the cost of units as they leave each
department. These individual unit costs are accumulated into a completed unit cost for the period.
Unit costs are determined for each cost components based on the respective computed equivalent
production units.
Disposition of Department costs
In the department cost report the section titled “cost charged to the department” shows the total cost
charged to the production under the custody of the department. The section titled “Cost accounted for
as follows” shows the disposition of this cost into transferred goods & work in process. The WIP
figure must be broken down into its component parts of materials, labor & FOH.
Lost units: continuous processing leads to the possibility of waste, shrinkage and other factors which
cause lost or spoilage of production units.
Units lost in the first department: lost units reduced the number of units over which total cost can
be spread, causing an increase in unit costs. The 1,000 units lost in cutting department increases the
unit costs of units transferred and still in processes in respect to materials, labor and FOH. Had
these units not been lost the equivalent production figure would be 50,000 for materials 48,000 units
for labor & FOH.

 Cost of Production Report for Second Department
Assume that the 45, 000 units transferred from the cutting department to the next department were
made to the Assembly department where labor and FOH were added before the units were
transferred to the third (Finishing) department. Costs incurred by the assembly department resulted in
additional departmental as well as cumulative unit costs. The cost of production report of the
Assembly department differs from that of the cutting department in several respects. As many
additional calculations are to be made, for which, space has been provided on the report. The additional
information deals with:
1. Units received from the preceding department
2. an adjustment of the preceding department’s unit cost because of lost units, and
3. Cost received from the preceding department to be included in the cost of the ending work
in process inventory.
The Journal entry that has to be made by Assembly department when processes are received from
the Cutting department is as follows
WIP – assembly Department …………………………………..77,400
WIP - Cutting Department………………………………….…...77,400
Example 3
Assume that the quantity Schedule for the Assembly department of ABC Co. shows that the 45,000
units received from the cutting department were accounted as follows: 40,000 units sent to the
Finishing department, 3,000 units still in process and 2,000 units lost during production. An analysis
of the WIP ending inventory indicates that units in process are one third (1/3) completed as to
labor & FOH. Labor & FOH charged to the department are $37,310 & $32,800 respectively.
Required: Prepare the cost of production report for Assembly department
Solution
ABC Company
Assembly Department
For the month ended: November 2013
Quantity Schedule
Units received from preceding department ……………………..…… 45,000
Units transferred to the next department …………………40,000
Units still in process (1/3 labor & FOH) …………………. 3,000

Units lost in process ………………………………………. 2,000 45,000
Costs Charged to the department
Total cost units cost
Costs from the preceding department:
Transferred in during the month (45,000 units) $77,400 $1.72
Cost added by the department:
Labor ……………………………………………………… $37,310 $0.91
FOH ………………………………………………………. 32,800 0.80
Total cost added ………………………………………………$70,110 $1.71
Adjustment for lost units ………………………………… - 0.08
Cost accounted for as follows
- Transferred to next department (40,000 x $3.51) ………… $140,400
- Adjusted cost from the preceding department
(3,000 x ($1.72+$0.08) …………………………………….…… $5,400
- Labor (3,000 x 1/3 x $0.91) ………………………………..…… 910
- FOH (3,000x 1/3 x $0.8) ……………………………….…….. -- 800 7,110
Total cost accounted for ………………………………………… $147,510
Additional computations
Equivalent units of production:
Labor & FOH
Unit cost:
Labor = and FOH =
Adjustment for lost units
Method No.1:
Method No. 2: 2,000 units x $1.72 = $3,440,
Units lost in department subsequent to the first – The cutting department’s unit cost was $1.72 when
45,000 units were transferred to the assembly department. However, because 2,000 of 45,000 units were

lost during processing in the assembly department the $1.72 unit cost figure will no longer be applied &
must be adjusted accordingly. The total cost of the units transferred remains $77,400. But 43,000 units
must now absorb this total cost, causing an increase of $0.08 in the cost per unit due to the loss of 2,000
units in the cutting department.
The lost units cost can be computed by one of the following two methods.
Method 1 here we determine a new unit cost for work done in the preceding department and subtracts
the preceding department‘s old unit cost from the adjusted unit cost figure. The difference between the
two figures is the additional cost due to lost units.
Method 2 The lost units’ share on the total cost will be determined and will be allocated to the
remaining good units. Total cost previously absorbed by the units lost, is $3,440, (2,000 unit x $1.72)
must be absorbed by the remaining good units. The lost unit cost adjustment must be entered in the cost
of production report on the adjustment for lost units’ line.
Timing of lost units: lost units may occur at the beginning, during or at the end of a process. For
purpose of practicality and simplicity, it is ordinary assumed that units lost at the beginning or during
process were never put in process. Therefore, the cost of units lost is spread over the units
completed and units still in process.
When units are lost or are identified as lost at the end of a process, the cost of lost units is charged
to completed units only. For example, if the 2,000 units lost from assembly department were
occurred at the end of process, the cost of production report would look like the following:
ABC Company
Assembly Department
For the month ended: November 2013
Quantity Schedule
Units received from preceding department ………………………….. 45,000
Units transferred to the next department ……………………….. 40,000
Units still in process (1/3 labor & FOH) ………………………… 3,000
Units lost in process ………………………………………………2,000 45,000
Costs Charged to the department
Total cost units cost
Costs from the preceding department:

Cost added by the department:
Labor …………………………………………………… $37,310 $0.87
FOH …………………………………………………… 32,800 0.76
Total cost added ………………………………………… $70,110 $1.63
Cost Accounted for As follows
Transferred to next department
(40,000 x $3.5175(3.35+0.1675))* …………………………………… $140,720
Adjusted cost from the preceding department
(3,000 x ($1.72) ………………………………….………… $5,160
Labor (3,000 x 1/3 x $0.87) ………………………………… 870
FOH (3,000x 1/3 x $0.76) ………………………………….. 760 6,790
Total cost accounted for ………………………………… …. $147,510
Additional computation
Equivalent units of production
Labor & FOH =
Unit cost: labor =
FOH =
Lost unit cost = 2,000 x $3.35 = $6,700
= to be added to $ 3.35 to make the transfer cost = $3.5175
* 40,000 units X $3.5175 = $140,700. To avoid a decimal discrepancy, the cost transferred is computed:
$147,510 - $6,790 = $140,720.
3.3 Accounting for normal and abnormal losses and gains, joint and by-products
Units lost through evaporation, shrinkage, substandard yields, spoiled work, or inefficient
equipment. In many instances the nature of operation makes certain losses normal or unavoidable,

because they are considered within normal tolerance limits of human & machine errors. The cost
of these normally lost units does not appear as a separate item of cost, but is spread over the
remaining good units.
A different situation is created by abnormal or avoidable spoilage or losses that are not expected to
arise under normal efficient operating conditions. The cost of such abnormal spoilage or losses is
charged either to FOH, or directly to the current period expense account and reported as a
separate item in the cost of goods sold statement.
FOH control ------------------------ 6,700
WIP – assembly dept. ------------------- 6,700
The cost of production report would show the abnormal spoilage or loss as follows:
- Transferred to the next department (40,000 units x $3.35) $134,020*
- Transferred to FOH [(40,000 x $0.1675) or (2,000 x$3.35) 6,700
* 40,000 units X $3.35 = $134,000. To avoid decimal Discrepancy, the cost transferred is computed:
$147,510 - $6,790 ending inventory - $6,700 = $134,020.
If the lost units were only partially complete, equivalent units of production calculation should
consider their stage of completion when lost or spoiled, and the costing of the abnormal loss should
be weighted accordingly. If one part of loss is normal and another part abnormal, each portion
must be treated in accordance with the above discussion.
 Cost of Production Report for Third (Finishing) Department
The total & unit cost of the cost of production report of the finishing (third) department were
derived by using procedures discussed for the cost of production report of the assembly
department. The work completed is transferred to the finished goods store room; thus the title
«Transferred to finished goods store room» is used in place of the title “Transferred to next
department». The journal entry to be maintained by finishing department for costs transferred from
assembly department is as follow.
WIP- Finishing department …………………….140, 400
WIP – Assembly department ……………………. 140,400
Example 4: Among the 40,000 units transferred from the assembly department 35,000 units are
transferred to Finished Goods storeroom; 4,000 units still in process and 1,000 units are lost during
production. Ending WIP-balance is ¼th completed as to labor & FOH. Besides the labor & FOH
balances charged to the process in this department are $32,400 & 19,800 respectively.
Required: prepare a cost production report for finishing department

ABC Company
Finishing department
For the month ended November, 2013
Quantity schedule
- Units received from preceding department …………………………..40, 000
- Units transferred to FG storeroom ……………………. ….35, 000
- Units still in process (1/4-labor & FOH) …………………. 4,000
- Units lost in process ……………………………………… 1, 000 40,000
Costs charged to the department Total cost Unit cost
Cost from preceding department:
Transferred in during the month
(40,000 units) $140,400 $3.51
Costs added by the department
Labor 32,400 $0.90
FOH 19,800 0.55
Total cost added $52,200 $1.45
Adjustment for lost units __ 0.09
Costs accounted for as follows
- Transferred to FG storeroom (35,000x$5.05) $176,750
- WIP-ending inventory:
Adjusted cost from preceding department
(4,000 x ($3.51 +0.09)) …………………… 14,400
Labor (4,000x1/4 x$0.90) ……………….. 900
FOH (4,000 x ¼ x $0.55) ……………… 550 15,850
Total cost accounted for …..... _ $192,600
Additional computations
Equivalent units of production
Labor & FOH = 35,000 + (1/4 x 4,000) = 36,000 units
Unit cost:

Labor = and FOH =
Adjustment for Lost units:
Method 1:
Method 2: 1,000 units x $3.51= $3,510
The entry to transfer the finished units into the FG Storeroom is:
FG ……………………………….……………. 176,750
WIP – Finishing Department …………………..… 176,750
 Additions of Materials in Subsequent Departments
In numerous industries, all materials needed for the product are put in process in the first
department. However, additional materials might be required in subsequent departments in order
to complete the units. The addition of such materials has two possible effects on units and costs in
process.
The additional materials increase the unit cost, since these materials become a part of the product
manufactured, but do not increase the number of final units. For example, in an automobile
assembly plant additional parts, these materials are needed to give the product certain specified
quantities, characteristics, or completeness.
The added materials increase the number of units and also cause a change in unit cost. In
processing chemical, water is often added to a mixture, causing an increase in the number of units
and a spreading of costs over a greater number of units.
 Increase in Units Cost Due to Addition of Materials
In the simplest case, added materials such as parts of an automobile do not increase the number of
units but increase total cost and unit costs. A materials unit cost must be computed for the
department, and a materials cost must be included in the work in process inventory.
Example፡ Assume the additional materials costing $ 17,020 are placed in process and charged to the
Terminal department. Assume further that the materials in work in process are sufficient to complete
2,000 of the 4,000 units; that is, units are 50% complete as to materials cost. The effect of the
additional materials cost is shown in the cost report be below.
ABC COMPANY
Finishing Department
Cost of production Report

For the month of November, 2013
Quantity Schedule;
Units received from preceding department 40,000
Units transferred to finished goods store room 35,000
Units still in process (½ materials, ¼ labor and factory overhead) 4,000
Units lost in process 1,000 = 40,000
Cost charged to the Department:
Cost from preceding department Total cost unit cost
Cost added by department:
Materials $17,020 $0.46
Labor 32,400 0.90
Factory overhead 19,800 0.55
Adjustment for lost units - 0.09
Cost accounted for as follows:
Transferred to finished goods storeroom (35,000x$5.51) $192,850
Adjusted cost from preceding department (4,000x$3.60) $14,400
Materials (4,000 x 1/2 x $0.46) 920
Labor (4,000 x ¼ x $ 0.90) 900
Factory overhead (4000 x ¼ x $0.55) 550 = 16,770
Additional computations:
Materials = 35,000 + 4000 2 = 37,000 units
Labor and factory overhead = 35,000 + 4000 4 = 36,000 units
Unit costs:
Materials = $ 17,020 37,000 = $0.46 per unit
Labor = $32,400 36,000 = $0.90 per unit

Factory overhead = $19,800 36,000 = $0.55 per unit
Adjustment for lost units:
Method No. 1 = $140,400 39,000 = $3.60; $3.60 - $3.51 = $0.09 per unit
Method No. 2 = 1,000 units x$3.51=$3,510, $3,510 39,000=$0.09 per unit
The only differences in the two cost reports (the report for the third department(Terminal) and the
above report) are the $17,020 materials cost charged to the department and $0.46 materials unit cost
($17,020 / 37,000). The additional materials cost is also reflected in the total cost to be accounted for
and in the ending work in process inventory.
 Increase in Units and Change in Unit Cost Due To Addition of Materials
When additional materials result in additional units different computations are necessary. The
greater numbers of units cause a decrease in unit cost which necessitates an adjustment of the
preceding department’s unit cost; since the increased number of units will absorb the same total
cost transferred from preceding department.
Example: Assume Finishing department costs for labor and factory overhead of $32,400 and $19,800
respectively, an additional materials cost of $17,020 and an increase of 8,000 units as the result of
added materials.
Required: - Prepare the cost of production report for Terminal Department
ABC COMPANY
Cost of Production Report
For the Month of October, 2013
Quantity Schedule:
Units received from preceding department 40,000
Additional units put into process 8,000 48,000
Units transferred to finished goods storeroom 44,000
Units still in process (1/2 materials, ¼ labor and factory overhead) 4,000 48,000
Cost charged to the department:
Cost from preceding department Total cost unit cost
Materials $17,020 $0.370

Labor 32,400 0.720
Adjusted unit cost of units transferred in during the month ___ 2.925
Cost Accounted for as Follows:
Transferred to finished goods Storeroom (44,000 x $4.455) $196,020
Work in process – ending inventory:
Adjusted cost from preceding department (4,000x$2.925) $11,700
Materials (4,000 x 1/2 x $0.370) 740
Labor (4,000 x ¼ x $0.720 720
Factory overhead (4,000 x ¼ x $0.440) 440 13,600
Total cost Accounted for $209,620
Additional Computations:
Materials = 44,000 + 4000 2 = 46,000 units
Labor and factory overhead = 44,000 + 4,000 4 = 45,000 units
Unit costs:
Materials = $17,020 46,000 = $0.370 per unit
Labor = $32,400 45,000 = $0.720 per unit
Factory overhead = $19,800 45,000 = $0.440 per unit
Adjustment for additional units = $140,400 48,000 = $2.925 per unit
The additional 8,000 units are entered in the department’s quantity schedule as “Additional Units
put into process”. The quantity schedule reports that 44,000 units were complete and transferred to
the finished goods store room and that 4,000 units are still in process, 50% complete as to materials
and 25% complete as to labor and factory overhead. Therefore, equivalent production is 46,000 units
for materials and 45,000 units for labor and factory overhead. Dividing departmental materials, labor
and factory overhead costs for the period by these production figures results in a new unit cost for all
cost components.

Total cost charged to the Finishing department as cost transferred in from preceding department
must now be allocated over a greater number of units, thereby, reducing the unit cost of work done
in the preceding department.
Initially the $140,400 cost transferred to the Terminal department was absorbed by 40,000 units,
resulting in a unit cost of $3.51. Because of the 8,000 increase in units, the $140,400 cost must now
be spread over 48,000 units resulting in a unit cost for the preceding department of $2.925. This
adjusted cost is inserted in the production report as “Adjusted cost of units transferred in during the
month” and is added to departmental unit costs to arrive at the unit cost accumulated to the end of
operations in the Finishing department. When additional materials increase the number of units being
processed, it is still possible to have lost units. However, should increase and lost units occur, no
separate calculation is required for the lost units; only net units added are used.
PROCESS COSTING: AVERAGE AND FIFO COSTING
Beginning Work in Process Inventories
The cost of production reports illustrated in previous cost of production reports listed ending work in
process inventories. These inventories become beginning inventories of the next period. Two of the
possible methods of accounting for these beginning inventory costs are:
1. Average Costing -Beginning inventory costs are added to the costs of the new period
2. First-In First-Out (FIFO) Costing -Beginning inventory costs are kept separate from the new
costs necessary to complete the work in process inventory
Average Costing
The average costing method of accounting for beginning work in process inventory costs involves
merging these costs with the cost of the new period. To accomplish this relatively simple task,
representative average unit costs must be determined.
The October cost reports of the three departments’ reviewed in the preceding discussion are used to
illustrate the treatment of beginning work in process inventory and to show the relationship of costs
from one period to the next. Ending inventories in October departmental cost reports become beginning
work in process inventories for November and are summarized as follows:
Cutting Assembly Finishing
Units …………………… 4,000 3,000 4,000
Cost from preceding
Department …………… - $5,400 $14,400
Materials in process…… $2,000 - -

Labor in process ………… 1,240 910 900
Factory overhead in
Process…………………… 1,200 800 550
Example of Cutting Department: The October 1, work in process inventory of the cutting Department
shows a $2,000 materials cost, a $1,240 labor cost, a $1,200 factory overhead cost, and 4,000 units in
process. During December, additional charges to the department are material, $19,840; labor,
$24,180; and factory overhead, $22,580. The additional materials put into process are for the
production of 40,000 units. Therefore, units to be accounted for total 44,000 (4,000 + 40,000). Of the
total units put into process, 39,000 are completed with 38,000 units transferred to the Assembly
Department and 1,000 units a waiting for transfer. At month end 3,000 units are in process, 100
percent complete as to materials, but only 66.66 (2/3) percent complete as to labor and overhead.
During the month, 2,000 units were lost.
In the cutting Department as well as in the subsequent departments in this illustration, it is assumed that
the loss applies to all good units and that the loss is within normal tolerance limits. Therefore, the
effect of the losing units is an increase in the unit cost of the remaining good units.
The unit cost of work done in the cutting Department is $1.72 consisting of $0.52 for materials, $0.62
for labor, and $0.58 for factory overhead. The $0.52 unit cost for materials is computed by adding
the materials cost in the beginning work in process inventory to the materials cost for the month
($2,000+$19,840) and dividing the $21,840 total by the equivalent production figure of 42,000 units.
These units include the 38,000 units completed and transferred, the 1,000 units completed but still on
hand and the 3,000 units in process, which are completed as to materials. The cost of materials already
in process is added to the materials cost for the month before dividing by the equivalent production
figure. This method results in an average unit cost for work done in the current and preceding periods.
The same procedure is followed in computing unit costs for labor and factory overhead. The $0.62 unit
cost for labor is a result of dividing equivalent production of 41,000 units [39,000+ (2/3 X 3,000)] into
the sum of the beginning inventory labor cost of $1,240 and the departmental labor cost of $24,180 for
the month. The factory overhead unit cost is $0.58 [($1,200+$22,580)/41,000].
The cost remaining in the Assembly Department, $5,680, is assigned to the ending work in process
inventory. The WIP inventory consists of $1,720 (1,000 units x $1.72) for units completed and on
hand and of the following costs assigned to units still in process $1,560 (3,000 units x $0.52) for
materials; $1,240 (2,000 units x $0.62) labor; and $1,160 (2,000 units x $0.58) for factory overhead. The

1,000 units completed but on hand are listed as work in process in the cutting department as this
department is still responsible for these units.
ABC Company
Cutting Department
Cost of production Report Average costing
For the month of November, 2013
Quantity schedule:
Units in process at beginning (all materials,
½ labor and factory overhead) 4,000
Units started in process 40,000 44,000
Units transferred to next department 38,000
Units completed and on hand 1,000
Units still in process (all materials, 2/3 labor
and factory overhead) 3,000
Units lost in process 2,000 44,000
Cost charged to the department:
Cost added by department: Total cost unit cost
Work in process-beginning inventory:
Materials $2,000
Labor 1,240
Factory overhead 1,200
Cost added during the period:
Materials 19,840 $0.52
Labor 24,180 0.62
Transferred to next department (38,000x$1.72) $65,360
Work in process-ending inventory:
Completed and on hand (1,000x$1.72) $1,720
Materials (3,000x$0.52) 1,560
Labor (3,000 x 2/3 x $0.62) 1,240

Factory overhead (3,000 x 2/3 x $0.58) 1,160 5,680
Total cost Accounted for $71,040
Additional computations:
Materials =38,000 + 1,000 + 3,000 = 42,000 units
Labor and factory overhead = 38,000 + 1,000+ (2/3 x 3000) = 41,000 units
Unit costs:
Materials = $2,000 + $19,840 = $ 21,840, $21,840 42,000 = $0.52 per unit
Labor = $1,240 +$24,180= $25,420, $25,420 41,000 = $0.62 per unit
Factory overhead = $1,200 + $22,580 = $23,780, $23,780 41,000 = $0.58 per unit
Of total cost charged to the department, $65,360 is transferred to the Assembly Department when the
following entry is recorder:
Work in process-Assembly Department ……………. 65, 360
Work In process- cutting Department……………… 65,360
Assembly Department: Accounting for the beginning work in process inventory cost in a department
other than the first requires additional analysis. When the prior period’s ending work in process
inventory was computed, part of the cost of this inventory came from costs added by the preceding
department. Because costs assigned to the beginning work in process inventory are added to costs
incurred during the period and the total is divided by equivalent production, the beginning work in
process inventory of departments other than the first must be split into following two parts:
1. cost transferred from preceding departments
2. Cost added by the department itself.
The portion of the beginning work in process inventory cost from preceding department is entered in the
section of the cost report entitled “Cost from preceding department.” It is added to the costs of
transfers received from the preceding department during the current period. An average unit cost for
done in preceding departments is then computed. The other portion of the beginning inventory cost,
which was added by the Assembly Department, is entered as a departmental cost to be added to other
departmental costs incurred during the current period. Average unit costs are then computed.
Example of Assembling department: The analysis of the beginning work in process inventory of this
department list 3,000 units in process with cost of $5,400 from the preceding department, a labor cost
of $910, and $800 for factory overhead with their per unit cost. The following costs pertain to
November: cost from the preceding department is labor, $34,050; factory overhead, $30,018. Units

completed and transferred to the Finishing Department totaled 36,000; 4,000 units are in process, 50
percent complete as to labor and factory overhead, 1,000 units were lost in process.
Required: prepare cost of production report for assembling department.
ABC Company
Assembly Department
Cost of Production Report Average Costing
For the Month of November, 2013
Quantity Schedule:
Units in process at beginning (1/2 labor and Factory overhead) 3,000
Units received from preceding department 38,000 41,000
Units still in process (½ labor and Factory overhead) 4,000
Cost from preceding department: Total cost unit cost
Work in process-beginning inventory (3,000 units) $5,400 $1.800
Transferred in during this period (38,000 units) 65,360 1.720
Total (41,000 units) $70,760 $1.726
Work in process-beginning inventory:
Labor $910
Factory overhead 800
Labor 34,050 $0.920
Adjustment for lost units 0.043
Cost Accounted for As follows:
Transferred to next department (36,000x$3.500) $126,000

(4,000x ($1.726+$0.043) $7,076
Labor (4,000 x ½ x $ 0.920) 1,840
Factory overhead (4,000x ½ x $ 0.811) 1,622 10,538
Unit cost from preceding department =$70,760= $1.726 per unit
41,000
Labor and factory overhead: 36,000 + 4000 2= 38,000 units
Unit costs:
Labor =$910 + $34,050=$34,960; $34,960 38,000 =$0.920 per unit
Factory overhead= $800 + $30,018 = $30,818; $30,818 38,000=$0.811 per unit
Method No. 1: $70,760= $1.769; $1.769 - $1.726=$0.043 per unit
40,000
Method No.2: 1,000units x $1.726=$1,726; $1,726 40,000= $0.043 per unit
The following entry transfers the cost of the 36,000 units to the next department:
Work in process-Finishing Department ……………… $126,000
Work in process- Assembly Department……………… $126,000
Finishing Department: The accounting treatment for the Finishing Department is similar to that of the
Assembly department except that the Finishing department is the last department in ABC Co. and it
transfers all of its products to the Finished Goods storeroom.
To complete this discussion of operation for November, the cost of production report of the Finishing
department is prepared on the basis of the following data: costs added by the department during the
month are labor, $33,140 and factory overhead, $19,430. The units are accounted for as follows:
completed and transferred to finished goods, 36,000 units; 3,000 units are still in process, 1/3 labor
and factory overhead, 1,000 units are lost in process with all cost receive from previous department
and period.

ABC COMPANY
Cost of Production Report – Average costing
For the Month of December 2013
Quantity Schedule:
Units in process at beginning (¼ labor and Factory overhead) 4,000
Units still in process (1/3 labor and factory overhead) 3,000
Cost from preceding department: Total cost unit cost
Work in process-beginning inventory (4,000 units) $14,400 $3.60
Transferred in during this period (36,000 units) 126,000 3.50
Total (40,000 units) $140,400 $3.51
Cost added by the Department:
Work in process beginning inventory:
Labor $900
Factory overhead 550
Labor 33,140 $0.92
Adjustment for lost units _ 0.09
Transferred to finished goods store room (36,000x$5.06) $182,160
(3,000x ($3.51+0.09) $10,800
Labor (3000x 1/3 x$0.92) 920
Factory overhead (3,000x1/3x$0.54) 540 12,260

Unit cost from preceding department = $140,400 40,000= $3.51 per unit
Labor and factory overhead=36,000+3000 3= 37,000 units
Unit costs:
Labor=$900+$33,140=$34,040; $34,040 37,000= $0.92 per unit
Factory overhead=$550+$19,430=$19,980; $19,980 37,000= $0.54 per unit
Method No.1: $140,400 39,000 =$3.60; $3.60-$3.51= $0.09 per unit
Method No.2: 1000x$3.51=$3,510; $3,510 39,000= $0.09 per unit
The following entry transfers the cost of the 36,000 finished units to finished goods.
Finished Good ………………………………182,160
Work in process- Finishing Department ……182,160
3.5. Valuation of costing based on FIFO methods
The FIFO method may be used to account for beginning work in process inventory costs in process
costing. Under this method, the beginning works in process inventory costs are separated from cost
incurred in the current period and are not average with the additional new costs. This procedure
gives one unit cost for units completed from the beginning work in process inventory and another
for units started and finished in the same period. The cost of completed units for beginning WIP is
computed first and followed by the computation of the cost of units started and finished within the
period.
To illustrate the FIFO method, the November cost of production reports for ABC Company are
presented, using the same data and assumptions as were used in the average costing illustration. A
comparison of these reports with those illustrated for the average costing method indicates that the
two methods do not result in significantly different unit costs, since in general, manufacturing
operations in process cost type industries are more or less uniform from period to period.
Cutting Department: When the November cost of production report of the Cutting Department using
the FIFO method is compared to the average costing report, the following difference are apparent;
1. Under FIFO costing, the beginning work in process inventory cost of $4,440 is kept separate
and is not broken down into its component parts.

2. Under FIFO costing, the degree of completion of the beginning work in process inventory
must be stated in order to compute completed unit costs.
Example: consider the example given above on weighted average costing and prepare cost of
production report for cutting department by using FIFO costing system.
ABC Company
Cutting Department
Cost of Production Report – FIFO Costing
Quantity Schedule:
Units in process at beginning (all materials, ½Labor and
factory overhead) 4,000
Units started in process 40,000 44,000
Units completed and on hand 1,000
Units still in process (all materials, 2/3 labor and
Factory overhead) 3,000
Cost charged to the Department: Total cost unit cost
Work in process-beginning inventory $4,440
Cost added by the department:-
Materials $19,840 $0.522
Labor 24,180 0.620
Total cost added $66,600 1.721
Total cost to be accounted for $71,040
Transferred to next department:
From beginning inventory:
Inventory cost $4,440
Labor added (4,000x1/2x$0.620) 1,240
Factory overhead added (4,000x1/2x$0.579) 1,158 6,838b

From current production:
Units started and finished (34,000x$1.721) 58,517* $65,355
Completed and on hand (1,000 x $1.721) $1,721
Materials (3,000 x $0.522) 1,566
Labor (3,000 x2/3 x $0.620) 1,240
Factory overhead (3,000 x 2/3 x $0.579) 1,158 5,685c
Total cost accounted for $71,040a
*34,000 units x $1.721 per unit=$58,514 to avoid a decimal discrepancy, the cost transferred from
current production is computed as follows.
$71,040-($6,838+$5,685) = $58,517
Additional computation: Labor and factory
Equivalent production Materials over head
Transferred out 38,000 38,000
Less: beginning inventory (all units) 4,000 4,000
Started and finished this period 34,000 34,000
Add: beginning inventory (Worked in this period) 0 2,000
Add: ending inventory:
Completed and on hand 1,000 1,000
Still in process (worked in this period) 3,000 2,000
38,000 units 39,000 units
Unit cost: Materials = $19,840= $0.522 per unit
38,000
Labor = $24,180= $0.620 per unit
39,000
Factory overhead = $22,580 = $0.579 per unit
39,000
The following entry transfer the total cost of the 38,000 units sent to the next department.
Work in process –Assembly Department………65,355
Work in process- Cutting Department……………65,355

Assembly Department:
ABC COMPANY
Assembly Department
Quantity Schedule:
Units in process at beginning (1/3 labor and factory overhead) 3,000
Units still in process (1/2 labor and factory overhead) 4,000
Cost charged to the Department: Total cost Unit cost
Labor $34,050 $0.920
Adjustment for lost units 0.046
Transferred to next department:
Labor added (3,000x2/3x$0.920) 1,840
Factory overhead added (3,000x2/3x$0.811) 1,622 $10,572
Units started and finished (33,000x$3.497) 115,435* $126,007
(4,000x ($1.72+$0.046) $7,064

Labor (4,000x1/2x$0.920) 1,840
Factory overhead (4,000 x 1/2 x $0.811) 1,622 10,526
*33,000 units x $3.497 = $115,401. To avoid a decimal discrepancy, the cost transferred from current
production is computed as follows.
$136,533 – ($10,572 + $10,526) = $115,435
Additional computation
Labor and factory
Equivalent production overhead

Transferred out 36,000
Less: beginning inventory (all units) 3,000
Stared and finished in this period 33,000
Add: beginning inventory-(Work this period) 2,000
Add: ending inventory 2,000
37,000 units
Units cost:
Labor = $34,050 = $0.920 per unit, Factory overhead = $30,018 = $0.811 per unit
37,000 37,000
Method No.1 = $65,355 = $1.766; $1.766 - $1.720= $0.046 per unit
38,000 – 1,000
Method No. 2. =1,000 units x $1.720=$1,720; 1,720 37,000 = $0.046 per unit
The following entry transfers the cost of the 36,000 units to the next department.
Work In process-Finishing Department…………126,007
Work In process- Assembly Department………………… 126,007
The remaining $10,526 cost to be accounted for is the ending work in process inventory which is
computed in the conventional manner.
Finishing Department: To complete the illustration of FIFO costing, the cost of production report of
the Finishing Department is prepared.

ABC Company
For the Month November, 2013
Quantity Schedule:
Units in process at beginning (1/4 labor & factory overhead) 4,000
Units still in process (1/3 labor & factory overhead) 3,000
Cost charged to the Department: Total cost Unit cost
Labor $33,140 $0.921
Adjustment for lost units _ 0.100
Transferred to next department
Labor added (4,000x3/4 x $0.921) 2,763
Factory overhead added (4000x3/4 x$0.540) 1,620 $20,233
Units started and finished (32,000 x $5.061) 161,933* $182,166
Work in process-ending inventory
Adjusted cost from proceeding
Department (3,000x ($3.50+$0.10) $10,800

Labor (3,000 x 1/3 x$0.92) 921
Factory overhead (3,000x1/3x$0.540) 540 12,261
*32,000 x $ 5.061 per unit = $161,952. To avoid a decimal discrepancy, the total cost transferred from
current production is computed as follows. $194,427 – ($20,233 + $12,261) = $161,933
Additional computation:
Labor and factory
Equivalent production overhead
Transferred out 36,000
Less: beginning inventory (all units) 4,000
Started and finished this period 32,000
Add: beginning inventory (work this period) 3,000
Add: ending inventory (work this period) 1,000
36,000 units
Unit costs:
Labor = $33,140= $0.921 per unit Factory overhead = $ 19,430 = $0.540 per unit
36,000 36,000
Method No. 1= $126,007= $3.60; $3.60-$ 3.50= $0.100 per unit
36,000 – 1000
Method No. 2= 1000x$3.50 = $3,500= $3,500= $0.100 per unit
35,000
* 32,000 units X $5.061 = $161,952. To avoid a decimal discrepancy, the cost transferred from current
production is computed as follows: $194,427 – ($20,233 + $12,261) = $161,933.
Based on this report, the entry to transfer the cost of the 36,000 finished units is
Finished Goods……………………………182,166
WIP- Finishing Department……………….. 182,166
Average Costing Vs. FIFO Costing
Both average costing and FIFO costing have certain advantages. It would be arbitrary to state that
one method is either simpler or more accurate than the other. The selection of either method
depends entirely upon management’s opinion regarding the most appropriate and practical lost

determination procedures. Each firm should select the method which offers reliable figures for
managerial guidance.
The basic difference between the two methods concerns the treatment of beginning work in process
inventory. The averaging method adds beginning work in process inventory cost to the cost from the
preceding department and to materials, labor, and factory overhead costs incurred during the
period. Unit costs are determined by dividing these costs by equivalent production figures. Units cost
are transferred to the next department as one cumulative figure.
The FIFO method retains the beginning work in process inventory cost as a separate figure costs
necessary to complete the beginning inventory units are added to this cost. The sum of these two cost
totals is transferred to the next department. Units started and finished during the period have their
own unit cost, which is usually different from the completed unit cost of units in process at the
beginning of the period. The FIFO method thus separately identifies for management the current
period unit cost originating in a department. Unfortunately, these costs are averaged out in the next
department, resulting in a loss of much of the value associated with the use of the FIFO method.
If the FIFO method is used, units lost during a period must be identified as to whether they came
from units in process at the beginning or from units started or received during the period. Also, in
computing equivalent production figures in FIFO costing, the degree of completion of both
beginning and ending work in process inventories must be considered.
The principal disadvantage of FIFO costing is that if several unit cost figures are used at the same
time, extensive detail is required within the cost of production report, which can lead to complex
procedures and even inaccuracy. Whether the extra detail yields more representative unit costs than
the average costing method is debatable, especially in a firm where production is continuous and more
or less uniform, and appreciable fluctuation in unit costs are not expected to develop. Under such
conditions, the average costing methods leads to more satisfactory cost computation.
 Difficulties Encountered in Process Cost Accounting Procedures
The following difficulties in using process costing may be encountered in actual practice
1. The determination of production quantities and their stages of completion present
problems. Every computation is influenced by these figures. Since the data generally come to
the cost department from operating personal often working under circumstances that make a
precise count difficult, a certain amount of doubtful counts and reliable estimates are bound to
exist. Yet, the data submitted form the basis for the determination of inventory costs.

2. Materials cost computations frequently require careful analysis. In the illustrations, material
cost is generally part of the first department’s cost. In certain industries, materials costs
are not even entered on production reports. When materials prices are influenced by
fluctuating market questions, the materials cost may be recorded in a separate report
designs to facilitate management decisions in relation to the materials market.
3. When units are lost shrinkage, spoilage, or evaporation, the time when the loss occurs
influences the final cost calculation. Different assumptions concerning the units to which the
loss pertains would result in different department unit costs which, in turn, affect inventory costs,
the cost of unit transferred, and the completed unit cost. Another consideration involves the
treatment of cost attributable to avoidable loss as an expense of the current period. An increase in
units resulting from materials added in departments subsequent to the first requires special
consideration as well
4. Industries using process cost procedures are generally of the multiple product type. Joint
processing cost must be allocated to the products resulting from the processes. Weighted unit
averages or other bases are used to prorate the joint costs to the several products. If units
manufactured are used as a basis for cost allocation considerable difficulties arise in determining
unit costs.
Management must decide whether economy and operational cost are compatible with increased
information, based on additional cost computations and procedures. Some companies use both job
order and process costing procedures for various purposes in different departments. The basis for
using either method should be reliable production and performance data for product costing which,
when combined with output, budget, or standard cost data, will provide the foundation for effective cost
control and analysis.
 Hybrid Costing Systems
Product-costing systems do not always fall neatly into either job-costing or process-costing categories.
Consider Ford Motor Company. Automobiles may be manufactured in a continuous flow (suited to
process costing), but individual units may be customized with a special combination of engine size,
transmission, music system, and so on (which requires job costing).
A hybrid-costing system blends characteristics from both job-costing and process costing systems.
Product-costing systems often must be designed to fit the particular characteristics of different
production systems. Many production systems are a hybrid: They have some features of custom-
order manufacturing and other features of mass-production manufacturing. Manufacturers of a

relatively wide variety of closely related standardized products (for example, televisions, dishwashers,
and washing machines) tend to use hybrid-costing systems.
 Overview of Operation-Costing Systems
An operation is a standardized method or technique that is performed repetitively, often on
different materials, resulting in different finished goods. Multiple operations are usually conducted
within a department. For instance, a suit maker may have a cutting operation and a hemming
operation within a single department. The term operation, however, is often used loosely (roughly).
It may be a synonym for a department or process. For example, some companies may call their
finishing department a finishing process or a finishing operation.
An operation-costing system is a hybrid-costing system applied to batches of similar, but not
identical, products. Each batch of products is often a variation of a single design, and it proceeds
through a sequence of operations. Within each operation, all product units are treated exactly alike,
using identical amounts of the operation’s resources. A key point in the operation system is that each
batch does not necessarily move through the same operations as other batches. Batches are also
called production runs.
In a company that makes suits, management may select a single basic design for every suit to be made,
but depending on specifications, each batch of suits varies somewhat from other batches. Batches may
vary with respect to the material used or the type of stitching. Semiconductors, textiles, and shoes
are also manufactured in batches and may have similar variations from batch to batch.
An operation-costing system uses work orders that specify the needed direct materials and step-by-
step operations. Product costs are compiled for each work order. Direct materials that are unique
to different work orders are specifically identified with the appropriate work order, as in job
costing. However, each unit is assumed to use an identical amount of conversion costs for a given
operation, as in process costing. A single average conversion cost per unit is calculated for each
operation, by dividing total conversion costs for that operation by the number of units that pass
through it. This average cost is then assigned to each unit passing through the operation. Units that
do not pass through an operation are not allocated to any costs of that operation.
 Illustration of an Operation-Costing System
The Baltimore Clothing Company, a clothing manufacturer, produces two lines of blazers for
department stores: those made of wool and those made of polyester. Wool blazers use better-quality
materials and undergo more operations than polyester blazers do. Operations information on work
order 423 for 50 wool blazers and work order 424 for 100 polyester blazers is as follows:

Cost data for these work orders, started and completed in November 2013, are as follows:
As in process costing, all product units in any work order are assumed to consume identical
amounts of conversion costs of a particular operation. Baltimore’s operation-costing system uses a
budgeted rate to calculate the conversion costs of each operation. The budgeted rate for Operation 1
(amounts assumed) is as follows:
Budgeted conversion costs of Operation 1 include labor, power, repairs, supplies, depreciation, and
other overhead of this operation. If some units have not been completed (so all units in Operation 1
have not received the same amounts of conversion costs), the conversion-cost rate is computed by
dividing budgeted conversion costs by equivalent units of conversion costs, as in process costing.

As goods are manufactured, conversion costs are allocated to the work orders processed in Operation
1 by multiplying the $11.60 conversion cost per unit by the number of units processed. Conversion
costs of Operation 1 for 50 wool blazers (work order 423) are $11.60 per blazer X 50 blazers = $580,
and for 100 polyester blazers (work order 424) are $11.60 per blazer X 100 blazers = $1,160. When
equivalent units are used to calculate the conversion-cost rate, costs are allocated to work orders by
multiplying conversion cost per equivalent unit by number of equivalent units in the work order. Direct
material costs of $6,000 for the 50 wool blazers (work order 423) and $3,000 for the 100 polyester
blazers (work order 424) are specifically identified with each order, as in job costing. Remember the
basic point in operation costing: Operation unit costs are assumed to be the same regardless of the work
order, but direct material costs vary across orders when the materials for each work order vary.
Journal Entries
Actual conversion costs for Operation 1 in November 2013—assumed to be $24,400, including
actual costs incurred for work order 423 and work order 424—are entered into a Conversion Costs
Control account:
1. Conversion Costs Control 24,400
Various accounts (such as Wages Payable
Control and Accumulated Depreciation) 24,400
Summary journal entries for assigning costs to polyester blazers (work order 424) follow. Entries for
wool blazers would be similar. Of the $3,000 of direct materials for work order 424, $2,975 is used in
Operation 1, and the remaining $25 of materials are used in another operation. The journal entry to
record direct materials used for the 100 polyester blazers in November 2013is as follows:
2. Work in Process, Operation 1 2,975
Materials Inventory Control 2,975
The journal entry to record the allocation of conversion costs to products uses the budgeted rate of
$11.60 per blazer times the 100 polyester blazers processed, or $1,160:
Conversion Costs Allocated 1,160
The journal entry to record the transfer of the 100 polyester blazers (at a cost of $2,975 + $1,160)
from Operation 1 to Operation 3 (polyester blazers do not go through Operation 2) is as follows:
Work in Process, Operation 1 4,135
After posting these entries, the Work in Process, Operation 1, and account appears as follows:


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CHAPTER THREE

PROCESS COSTING SYSTEM – PART TWO

Cost and Management Accounting I Chapter 3 part 2 by Genanew A. Page 1

Job Order Costing Process Costing

3.1.1. Costing by departments

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WIP- Grinding dept.

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Unit cost: Materials =

Labor = and FOH =

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Labor & FOH

Labor = and FOH =

Adjustment for lost units

Method No. 2: 2,000 units x $1.72 = $3,440,

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Labor & FOH =

Unit cost: labor =

Lost unit cost = 2,000 x $3.35 = $6,700

= to be added to $ 3.35 to make the transfer cost = $3.5175

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Adjustment for Lost units:

Method 2: 1,000 units x $3.51= $3,510

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Equivalent production overhead

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