© 2007 Pearson Education Canada Slide 7-1 Process-Costing Systems 7

© 2007 Pearson Education Canada Slide 7-2 Process Costing Accumulate costs by departments and allocate costs to products based on broad, average costs Process costing systems are usually simpler and less expensive than job-order costing systems

© 2007 Pearson Education Canada Slide 7-3 Equivalent Units Basic unit of measurement to convert work on "units started in previous period" and "units not completed" to equivalent whole units 100 units 40% complete = 40 units 100% complete

© 2007 Pearson Education Canada Slide 7-4 Five Steps in Process Costing 1. Track the flow of physical units 2. Determine number of equivalent whole units 3. Summarize relevant costs 4. Determine cost per equivalent unit 5. Allocate costs to units completed and to units in ending work in process

© 2007 Pearson Education Canada Slide 7-5 Job-Order versus Process Costing Direct materials Direct labour Factory overhead Direct materials Direct labour Factory overhead Job 100 Job 101 Job 102 Finished Goods Inventory Cost of Goods Sold Process A Finished Goods Inventory Cost of Goods Sold Process B Process C Process Costing Job-Order Costing

© 2007 Pearson Education Canada Slide 7-6 Process Costing Terminology Direct materials Materials applied to the production process at specific points in time Conversion costs Labour and overhead costs which are assumed to be applied uniformly throughout the production process Transferred-In costs Value of materials and conversion costs carried forward to subsequent departments To Finished Goods Inventory Direct Material Direct Material Transferred-In Costs Conversion Costs Forming Department Finishing Department

© 2007 Pearson Education Canada Slide 7-7 FIFO and Weighted Average Methods Weighted Average Underlying assumption of weighted average is that goods produced in different time periods are indistinguishable Combine the cost of all work done in the current period with work done in the preceding period on goods carried forward on work in process Divide total costs by total work done regardless of when the work was performed

© 2007 Pearson Education Canada Slide 7-8 FIFO ( First-in, First-out ) Underlying assumption of FIFO is that all goods in beginning work in process must now have left the department Equivalent units are determined considering work done this period only Only current costs are considered in determining the cost per equivalent unit Costs carried forward from the previous period (in beginning work in process) are assigned directly to completed goods

© 2007 Pearson Education Canada Slide 7-9 Backflush Costing As companies achieve JIT inventory control and Total Quality Management, less costs are carried in inventory Less attention is given to systems which sequentially track the flow of product costs from material inventory to work in process and finished goods Use backflush costing when Levels of inventory are minimal Production process / technology is relatively stable Standard costs are clear When finished goods inventory is minimal, it is possible to eliminate this account and transfer costs directly to cost of goods sold Materials Cost of Goods Sold Finished Goods Inventory Conversion Costs

© 2007 Pearson Education Canada Slide 7-10 Operation Costing Operation Costing is a hybrid costing system combining aspects of job-order and process costing Products are usually produced in batches While many of the products share common characteristics each batch has its own unique features Wool BlazersPolyester Blazers Direct materials$2,500$3,100 Conversion costs: Cutting cloth6001,200 Checking edges300 Sewing body5001,000 Checking seams600 Machine sewing800 Hand sewing700 Total costs$5,200$6,100