Big Band Corporation produces a semiconductor chip used in communications. The direct materials are added at the start of the production process, while conversion costs are added uniformly throughout the production process. Big Band had no inventory at the start of June. During the month, it incurred direct materials costs of $935,750 and conversion costs of $4,554,000. Big Band started 475,000 chips and completed 425,000 of them in June. Ending inventory was 50% complete as to conversion costs.
Compute (a) the equivalent units of work done in June, and (b) the total manufacturing cost per chip. Allocate the total costs between the completed chips and those in ending inventory
(a)
475,000 physical units
425,000 completed
50,000 [100% | 50%] incomplete [(Direct Materials) | (Conversion Costs)]
50,000 Equivalent Units in Direct Materials (incompleted)
25,000 Equivalent Units in Conversion Costs (incompleted)
475,000 Equivalent Units in Direct Materials (total)
450,000 Equivalent Units in Conversion Costs (total)
(b)
$935,750 Direct Materials Cost / 475,000 Equivalent Units
$4,554,000 Conversion Costs / 450,000 Equivalent Units
$1.97 / Equivalent Unit (Direct Materials)
$10.12 / Equivalent Unit (Conversion Costs)
Completed:
(1.97+10.12)*425,000=$5,138,250
Incomplete:
50,000*1.97+25,000*10.12=$351,500
Double Check:
$5,135,250+$351,500=$5,489,750
$935,750+$4,554,000=$5,489,750
Monday, February 3, 2020
Case 2: Process Costing with Zero Beginning Inventory and Some Ending Work-In-Process Inventory
Learning Objective 3: Describe the five steps in process costing and calculate equivalent units
It should be noted that the estimation for % conversion for units is simply that, an estimation. Different businesses estimate differently based on the care and accuracy of the estimators/managers and the physical limitations of the business.
This % however, no matter how estimated, grants us a concept of equivalent units. These can be used to help measure the costs of our completed and incomplete units for a period. Process Costing for this type of problem follows its own process:
Summarizing the Physical Units and Equivalent Units (Steps 1 and 2)
Step 1: Summarize the flow of physical units of output
Physical units are the number of units, be it complete or incomplete. The flow is the measurement of what goes into the system and where it goes out. For example, consider a batch of 400 Simple Meals. We would record 400 simple meals started this period. However, let's say only 175 got completed, the other 225 only being partially completed. The flow then considers the 175 transferred out, and the 225 goes into Work-In-Progress.
Step 2: Compute Output in terms of equivalent units
Let's say the 225 units that are only partially completed are measured to have 100% of their materials, but only 60% converted. This would mean we have 225 physical units in our WIP, but what would this mean in Equivalent Units?
To calculate equivalent units, you multiply the amount of physical units there are by the percentage of completion. In this case, you have 225 equivalent units in Direct Materials, but only 135 equivalent units in Conversion Costs.
Note: Equivalent Units are calculated separately per input (in this case, Direct Materials and Conversion Costs)
For now, focus on quantities of units, not dollar amounts
Calculating Product Costs (Steps 3, 4, and 5)
Step 3: Summarize the Total Costs to Account For
In this case, the only costs we summarize are the ones added this period. Let's say it costs $32,000 in Direct Materials and $18,600 in Conversion Costs
Step 4: Compute the Cost Per Equivalent Unit
This is why you calculate equivalent units separately for input, by the way.
Divide the Material Cost by Equivalent Units in Direct Materials, and Conversion Costs to their Equivalent Units, to get the Cost Per Equivalent Unit.
Step 5: Assign the Total Costs to the Units Completed and to the Units in Ending WIP
You now have the number of Equivalent Units Completed and in Progress (Steps 1 and 2), as well as the Cost Per Equivalent Units (Steps 3 and 4). Simply multiply them together to get your total costs within each inventory (Transferred out and WIP). These numbers should add up and match your recorded Total Production Costs
Journal Entries
In Process Costing, there are WIP Entries for each Process.
Why Accuracy in Conversion % is important
Inaccurate Conversion % would ultimately mean inaccurate costs being recorded, affecting the perceived performance of the manager/company.
If Conversion % is too high, this raises the apparent CoGS for the period. This is improves the performance indicators for some people in the company, meaning there's an unethical incentive to lie. The reverse is also true, where Supervisors could estimate low to help smooth over unnatural high points in productivity, which can then be used to cover up any future low points or spike future high points. Top Management should always emphasize obtaining the correct answer, regardless of how it affects reported performance.
What are the five steps in a process costing system, and how are equivalent units calculated?
It should be noted that the estimation for % conversion for units is simply that, an estimation. Different businesses estimate differently based on the care and accuracy of the estimators/managers and the physical limitations of the business.
This % however, no matter how estimated, grants us a concept of equivalent units. These can be used to help measure the costs of our completed and incomplete units for a period. Process Costing for this type of problem follows its own process:
- Summarize the flow of physical units of output
- Compute output in terms of equivalent units
- Summarize the total costs to account for
- Compute the cost per equivalent unit
- Assign the total costs to the units completed and to the units in ending work-in-process inventory
Summarizing the Physical Units and Equivalent Units (Steps 1 and 2)
Step 1: Summarize the flow of physical units of output
Physical units are the number of units, be it complete or incomplete. The flow is the measurement of what goes into the system and where it goes out. For example, consider a batch of 400 Simple Meals. We would record 400 simple meals started this period. However, let's say only 175 got completed, the other 225 only being partially completed. The flow then considers the 175 transferred out, and the 225 goes into Work-In-Progress.
Step 2: Compute Output in terms of equivalent units
Let's say the 225 units that are only partially completed are measured to have 100% of their materials, but only 60% converted. This would mean we have 225 physical units in our WIP, but what would this mean in Equivalent Units?
To calculate equivalent units, you multiply the amount of physical units there are by the percentage of completion. In this case, you have 225 equivalent units in Direct Materials, but only 135 equivalent units in Conversion Costs.
Note: Equivalent Units are calculated separately per input (in this case, Direct Materials and Conversion Costs)
For now, focus on quantities of units, not dollar amounts
Calculating Product Costs (Steps 3, 4, and 5)
Step 3: Summarize the Total Costs to Account For
In this case, the only costs we summarize are the ones added this period. Let's say it costs $32,000 in Direct Materials and $18,600 in Conversion Costs
Step 4: Compute the Cost Per Equivalent Unit
This is why you calculate equivalent units separately for input, by the way.
Divide the Material Cost by Equivalent Units in Direct Materials, and Conversion Costs to their Equivalent Units, to get the Cost Per Equivalent Unit.
Step 5: Assign the Total Costs to the Units Completed and to the Units in Ending WIP
You now have the number of Equivalent Units Completed and in Progress (Steps 1 and 2), as well as the Cost Per Equivalent Units (Steps 3 and 4). Simply multiply them together to get your total costs within each inventory (Transferred out and WIP). These numbers should add up and match your recorded Total Production Costs
Journal Entries
In Process Costing, there are WIP Entries for each Process.
Why Accuracy in Conversion % is important
Inaccurate Conversion % would ultimately mean inaccurate costs being recorded, affecting the perceived performance of the manager/company.
If Conversion % is too high, this raises the apparent CoGS for the period. This is improves the performance indicators for some people in the company, meaning there's an unethical incentive to lie. The reverse is also true, where Supervisors could estimate low to help smooth over unnatural high points in productivity, which can then be used to cover up any future low points or spike future high points. Top Management should always emphasize obtaining the correct answer, regardless of how it affects reported performance.
What are the five steps in a process costing system, and how are equivalent units calculated?
- Physical Units
- Equivalent Units
- Total Costs
- Total Costs/Equivalent Units
- Allocate Costs
Equivalent Units are calculated by measuring the amount of incomplete units in terms of both Direct Materials and Conversion Costs. So, at the end of the period if there's a WIP of 100 Units, 100% of Direct Materials are in there, but the Units are only 50% converted, that means you have 100 Equivalent Units in Direct Materials and 50 Equivalent Units in Conversion Costs. These Equivalent Units are then added to the Completed Units for the Time Period (which are treated (and defined) as 100% | 100% completed).
Case 1: Process Costing with No Beginning or Ending Work-in-Process Inventory
Learning Objective 2: Understand the basic concepts of process costing and compute average unit costs
How are average unit costs computed when no inventories are present?
When no inventories are present, this means that 100% of conversion was completed in this period for 100% of units produced in this period. In other words, average unit costs is a simple average of Direct+Indirect Costs of production (Direct Materials+Conversion Costs) and the # of units made.
How are average unit costs computed when no inventories are present?
When no inventories are present, this means that 100% of conversion was completed in this period for 100% of units produced in this period. In other words, average unit costs is a simple average of Direct+Indirect Costs of production (Direct Materials+Conversion Costs) and the # of units made.
Illustrating Process Costing
Learning Objective: Identify the situations in which process-costing systems are appropriate
Difference Between Job-costing and Process-costing systems
Process-Costing: Assigns cost by dividing total costs by the number of units, creating $/Unit. This is because in a mass manufacturing process, each unit receives the same or similar treatment (costs).
This process of treating each unit of production the same or similarly is actually the main difference between Job-costing and Process-costing. In a Job-costing system, each product produced does not receive the same or similar amount of products or work. Thus if you try to take an average of all the products and assign them to each job like Process-costing does, the measurement for each individual job is going to be inaccurate.
Some jobs mix both homogenous processes and unique jobs. These will be covered under "hybrid" costing systems in a later Learning Objective.
Direct-Cost vs Indirect-Costs (Direct Materials+Conversion Costs)
Although the chapter isn't actually clear what differentiates Direct-Costs and Indirect-Costs, the examples given are Direct Materials and Conversion Costs. A quick look online clarifies that Direct-Costs tend to be the variable costs in a system, where as Indirect-Costs tend to be fixed or period costs.
For example, let's say I have a Simple Meal plant where the main expenses are Corn which I buy from a nearby farm, a team of colonists who live on the plant, and the upkeep of the plant itself. The Corn I buy would be my Direct-Costs, the Direct Materials to produce Simple Meals, whereas the Colonists and the Plant would be Indirect-Costs, in this case the required Conversion to turn Corn into Simple Meals. It should be noted that if demand for Simple Meals changes, my demand for Corn changes as well (making Corn a variable cost), but the costs of the Colonists and Plant are Period and Fixed costs respectively, meeting the earlier clarification.
Process-costing systems separate costs into cost categories according to when costs are introduced into the process
Typically, Direct-Costs are applied right at the start of the process while Indirect-Costs are applied throughout the process based on completion.
Let's say we have an order for 100 Simple Meals. I order 1000 Corn for $1000, and let's say it will cost another $1000 to convert all of the Corn into 100 Simple Meals. The moment I receive my order for 1000 corn, the process records the costs of all "Simple Meals" in production at this point as costing $1000, applying the Direct-Cost upfront. Let's then say over the course of two days, I produce 50 Simple Meals. At this point of time, I'm only 50% done with Conversion (Indirect Costs). If I were to record the value of my "100" Simple Meals at this point, it would be the $1000 in Corn + half of the Conversion Costs for the order, in this case $500, for a total of $1,500 of Simple Meals at this point of time.
More complicated processes will have multiple different Direct and Indirect Costs throughout the process, however the rules still generally follow if you break these more complicated processes into steps. At the beginning of each step, if Direct Materials are added into the system, those costs are always recorded right away. Through the completion of the product, Indirect Costs for that step of Conversion or Completion are only added as a percentage of completion.
Under what conditions is a process-costing system used?
Process-costing systems are best used when dealing with large amounts of homogeneous products produced mostly or entirely the same throughout their production process. Process-costing will then record the cost of these products based on a function of Direct and Indirect Costs.
Difference Between Job-costing and Process-costing systems
Process-Costing: Assigns cost by dividing total costs by the number of units, creating $/Unit. This is because in a mass manufacturing process, each unit receives the same or similar treatment (costs).
This process of treating each unit of production the same or similarly is actually the main difference between Job-costing and Process-costing. In a Job-costing system, each product produced does not receive the same or similar amount of products or work. Thus if you try to take an average of all the products and assign them to each job like Process-costing does, the measurement for each individual job is going to be inaccurate.
Some jobs mix both homogenous processes and unique jobs. These will be covered under "hybrid" costing systems in a later Learning Objective.
Direct-Cost vs Indirect-Costs (Direct Materials+Conversion Costs)
Although the chapter isn't actually clear what differentiates Direct-Costs and Indirect-Costs, the examples given are Direct Materials and Conversion Costs. A quick look online clarifies that Direct-Costs tend to be the variable costs in a system, where as Indirect-Costs tend to be fixed or period costs.
For example, let's say I have a Simple Meal plant where the main expenses are Corn which I buy from a nearby farm, a team of colonists who live on the plant, and the upkeep of the plant itself. The Corn I buy would be my Direct-Costs, the Direct Materials to produce Simple Meals, whereas the Colonists and the Plant would be Indirect-Costs, in this case the required Conversion to turn Corn into Simple Meals. It should be noted that if demand for Simple Meals changes, my demand for Corn changes as well (making Corn a variable cost), but the costs of the Colonists and Plant are Period and Fixed costs respectively, meeting the earlier clarification.
Process-costing systems separate costs into cost categories according to when costs are introduced into the process
Typically, Direct-Costs are applied right at the start of the process while Indirect-Costs are applied throughout the process based on completion.
Let's say we have an order for 100 Simple Meals. I order 1000 Corn for $1000, and let's say it will cost another $1000 to convert all of the Corn into 100 Simple Meals. The moment I receive my order for 1000 corn, the process records the costs of all "Simple Meals" in production at this point as costing $1000, applying the Direct-Cost upfront. Let's then say over the course of two days, I produce 50 Simple Meals. At this point of time, I'm only 50% done with Conversion (Indirect Costs). If I were to record the value of my "100" Simple Meals at this point, it would be the $1000 in Corn + half of the Conversion Costs for the order, in this case $500, for a total of $1,500 of Simple Meals at this point of time.
More complicated processes will have multiple different Direct and Indirect Costs throughout the process, however the rules still generally follow if you break these more complicated processes into steps. At the beginning of each step, if Direct Materials are added into the system, those costs are always recorded right away. Through the completion of the product, Indirect Costs for that step of Conversion or Completion are only added as a percentage of completion.
Under what conditions is a process-costing system used?
Process-costing systems are best used when dealing with large amounts of homogeneous products produced mostly or entirely the same throughout their production process. Process-costing will then record the cost of these products based on a function of Direct and Indirect Costs.
Chapter 17: Process Costing
Let's say we develop a process for creating Simple Meals in Rimworld. Now, Simple Meals are easy to mass produce, it's far better to consider their production a perpetual process than a core project; if you want to measure and keep track of them, you should use Process Costing.
There are three questions that Process Costing wants to solve. First, how many Simple Meals do you have at the end of the month/season/year? Second, how far along are the meals in progress? Third, how much exactly does a Simple Meal cost over the course of the process?
In particular for that last problem, there are many ways to value inventory, and depending on the method used, it would affect the measurable wealth of your economy (if Rimworld required you to write your own wealth reports), which in turn could affect enemy spawns and Pawn happiness. This is especially relevant if the cost of any particular ingredient during the process suddenly fluctuates.
The example given by the book is a story of if prices drop. Of the methods mentioned, FIFO, LIFO, and Weighted-Average, let's assume that our colony reports in FIFO. Simple Meals are for the most part mass produced through Corn, limited largely through a low-skill Grower. Let's assume we recruit a high-skill, high-passion Grower, and the "cost" of producing Corn drops. Even though the "Cost" of producing Simple Meals now has effectively dropped, FIFO requires us to maintain the costs of all of our old inventory before the newest Grower was hired. If this was a competitive Market, and all of the other Factions had their own influx of High-Skilled Growers, our own Colony's Simple Meals would look extremely expensive since we must carry through the costs of our old Grower's more expensive Corn, even though the Simple Meals we are producing are cheaper than ever.
Learning Objectives:
- Identify the situations in which process-costing systems are appropriate
- Understand the basic concepts of process costing and compute average unit costs
- Describe the five steps in process costing and calculate equivalent units
- Use the weighted-average method and the FIFO method of process costing
- Apply process-costing methods to situations with transferred-in costs
- Understand the need for hybrid-costing systems such as operation costing
Management Accounting Lecture January 27
Chapter 17 Process Costing
Process Costing -> Cost per Unit
Why do you want to know the cost per unit?
Process Costing -> Cost per Unit
Why do you want to know the cost per unit?
- Price of product
- Profit
- Control the cost
- How efficient production is
- Helps calculate CoGS
- Ending Inventory on Balance Sheet
Cost Accumulation
- Job Order
- Easily identifiable products
- Custom units, expensive yachts
- Often require contracts before going into production
- Process Costing
- Mass production
- Toilet paper, toothpaste
Learning Objectives:
- Identify the situations in which process-costing systems are appropriate
- Understand the basic concepts of process costing and compute average unit costs
- Describe the five steps in process costing and calculate equivalent units
- Use the weighted-average method and the first-in, first-out (FIFO) method of process costing
- Apply process-costing methods to situations with transferred-in costs
- Understand the need for hybridcosting systems such as operation costing
Process Costing
Calculating unit costs by assigning total costs over identical/similar units of output.
ex. $1,000,000 operating cost over 100,000 identical untis = $10 Unit cost
Process-Costing Cost Categories
Process-Costing systems separate costs into 2 cost categories
- Direct Materials - Often accumulated at the beginning of production/work station
- The raw materials that will eventually become the final product
- Conversion costs - Often accumulated throughout process
- The work required to turn raw materials into a final product
- For simplicity, these are added evenly throughout the process
Process-Costing: Three Cases
- No beginning or ending work-in-process inventories
- No beginning WIP and some ending WIP
- Both beginning and ending WIP inventories
Case #1: No beginning or ending WIP inventories
Five-Step Process-Costing Allocation
- Summarize the flow of physical units of output
- Compute output in terms of equivalent units
- Sumarize total costs to account for
- Compute cost per equivalent unit
- Assign total costs to units completed and to units in ending work-in-process
Equivalent Units
For now, focus on the equivalent number of units (for example, 100 units 80% complete ~ 80 equivalent units).
In case 1, in order to calculate cost per unit, you simply need to divide the total costs by the number of units.
Case #2: No beginning WIP, but some ending WIP
Because Direct Materials are counted 100% at the beginning of the process, their value is recorded entirely. However, conversion costs are calculated based on completion of the unit. If the units are 60% done, 60% of the conversion costs are recorded. This % of conversion costs are used to calculate unit costs for the time period.
Weighted-Average Process-Costing Method
Weighted Average method or the FIFO method
Calculates cost per equivalent unit of all work done to date (regardless of accounting period in which it was done)
FIFO focuses on current costs and matching revenues and expenses to time periods
Case #3: Both Beginning and ending WIP inventory
Costs from last period (in the beginning Inventory) are carried forward and mixed in with current period's costs. These total costs are divided by the total units completed and in process this period (adding the beginning inventory and work done there).
First-In, First-Out (FIFO Process-Costing Method
Assigns cost of the beginning inventory (from last period) units to the equivalent number of units completed in this period.
Work done in different periods have their costs separated.
First-In, First-Out (FIFO Process-Costing Method
Assigns cost of the beginning inventory (from last period) units to the equivalent number of units completed in this period.
Work done in different periods have their costs separated.
Monday, January 27, 2020
Organization Structure and the Management Accountant
Learning Objective 6: Understand how management accounting fits into an organization's structure
Line and Staff Relationships
Line Management - Managing all the functions of the business that actually facilitate the business
Staff Management - Managing the support functions of the business that take care of people
The Chief Financial Officer and the Controller
CFO is in charge of:
Controllership
Tax
Treasury
Risk Management
Investor Relations
Strategic Planning
The Controller is in charge of Accounting
CFO oversees company as a whole, while Controller tends to answer directly to CFO
Management Accounting beyond the Numbers
Management Accountants need to work with more than just numbers. They also work in cross functional teams, be fact based and tough minded, lead and motivate others, communicate clearly and candidly, and they must have high integrity.
Where does Management Accounting fit into an organization's structure?
Management Accountants function as part of Staff Management, in service to the people that allow the business to run. Their roles can go as high as the CFO and Controller. Because Management Accountants need to work intimately with managers and other teams, it's important that they can fit in, be objective, inspiring, and have strong integrity.
Line and Staff Relationships
Line Management - Managing all the functions of the business that actually facilitate the business
Staff Management - Managing the support functions of the business that take care of people
The Chief Financial Officer and the Controller
CFO is in charge of:
Controllership
Tax
Treasury
Risk Management
Investor Relations
Strategic Planning
The Controller is in charge of Accounting
CFO oversees company as a whole, while Controller tends to answer directly to CFO
Management Accounting beyond the Numbers
Management Accountants need to work with more than just numbers. They also work in cross functional teams, be fact based and tough minded, lead and motivate others, communicate clearly and candidly, and they must have high integrity.
Where does Management Accounting fit into an organization's structure?
Management Accountants function as part of Staff Management, in service to the people that allow the business to run. Their roles can go as high as the CFO and Controller. Because Management Accountants need to work intimately with managers and other teams, it's important that they can fit in, be objective, inspiring, and have strong integrity.
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