Process Costing using the FIFO Method

A process cost system is used when a company produces a product that is homogeneous-that is, individual units are indistinguishable from each other.

Costs flow from one production department to the next and materials, labor and overhead are added until the final product is moved to finished goods inventory ready to be sold. The flowchart illustrates the flow of costs into Work in Process and Finished Goods in a process costing system.

Cost Flows in Process Cost System

Materials		Work in Process-Mixing Dept		Work in Process-Bottling Dept		Finished Goods
Beg Inventory + Purchases Direct Materials End Inventory		Beg Inventory Cost of Units + Direct Materials transferred out + Direct Labor + Factory Overhead applied End Inventory		Beg Inventory Cost of Units + Cost of units transferred out transferred in + Direct Labor + Factory Overhead applied End Inventory		Beg Inventory + Cost of units Cost of Goods transferred in Sold End Inventory

Factory Overhead
Actual Factory Overhead: + utilities expense Factory overhead + depreciation of machinery applied + supplies

Production costs are assigned to the units transferred out of WIP and to the units in ending WIP by multiplying the equivalent units by the per-unit cost. The following steps are involved:

1. Compute the equivalent units of production

2. Determine the cost per equivalent unit

3. Assign costs to ending WIP and cost of goods transferred out

Consider the T account showing the detail costs and units in the Mixing Dept using the FIFO costing method.

Work in Process-Mixing Dept
	$Amt	#units	%completed			$Amt	#units	%completed
Beg Inventory	$5,566	4,600	70%
+ Cost of units					Units transferred out	$87,837	63,600	100%
transferred in	$64,978	61,300
+ Direct Labor	$11,200
+ Factory Overhead	$6,720
applied
End Inventory:	$627	2,300	20%

Inventory in process, July 1, 4,600 units (70% complete)	$	5,566
Direct materials cost incurred in July, 61,300 units		64,978
Direct labor cost incurred in the period		11,200
Factory overhead applied in the period		6,720
Total production costs to account for	$	88,464

63,600 units were completed and transferred out

2,300 units remain in WIP, 20% complete

Total whole units to account for: Beginning WIP 4,600 Started & completed 59,000 Ending WIP 2,300 65,900

Beginning inventory 4,600 Units transferred in 61,300 65,900

	Equivalent units:	Cost of WIP:
Beginning WIP x 30%	1,380	$	1,880		$	1,880
Started & completed	59,000		80,391	+ $5,566 =		85,957
Ending WIP x 20%	460		627			627
	60,840	$	82,898		$	88,464

Cost per equivalent unit:

Current period costs / equivalent units

($88,464 - $5,566) / 60,840 = 1.36256

Note that the number of whole units used to calculate equivalent units (beginning WIP + started and completed units + ending WIP) agrees with the number of whole units in - Select your answer -completed units and units transferred incompleted units and beginning WIPbeginning WIP and units transferred inCorrect 1 of Item 1 . Another important point is that - Select your answer -current period materialcurrent period conversioncurrent periodallCorrect 2 of Item 1 costs incurred are used to calculate the cost per equivalent unit when the FIFO costing method is used.

Fill in the formula for calculating cost per unit using the FIFO method:

	- Select your answer -Current period material costsCurrent period conversion costsCurrent period production costsTotal production costs (including beginning WIP costs)Correct 3 of Item 1
Cost per unit formula =
	- Select your answer -Units started and completedEquivalent units of outputEquivalent units in ending WIPEquivalent units in ending WIP less equivalent units in beginning WIPCorrect 4 of Item 1

Because the FIFO method assumes that the first units put into production are the first units transferred out, the cost of beginning WIP is included in the cost of - Select your answer -ending WIPcompleted unitsCorrect 5 of Item 1 .

What if ending WIP is 30% complete and production costs are the same? Select if the below statements are True or False.

The value of ending WIP would increase and the cost of goods transferred out would decrease by the same amount.	- Select your answer -TrueFalseCorrect 6 of Item 1
The cost per equivalent unit would decrease because the same cost is spread over more units.	- Select your answer -TrueFalseCorrect 7 of Item 1
The value of ending WIP and the value of the cost of goods transferred out will stay the same.	- Select your answer -TrueFalseCorrect 8 of Item 1

This example assumes that materials and conversion costs are added to the process evenly. When materials and conversion costs are added at different times in a process, the equivalent units for materials may be different than the equivalent units for conversion costs. For example, if materials are added at the beginning of a process, the materials may be 100% complete but unfinished for labor and overhead.

Fill in the schedule to show how the calculation changes when materials are added at the beginning of the Mixing Dept in the above example. Round cost per unit to four decimal places.

		Equivalent Units
	Current Period Cost	Beginning WIP	Started & completed Units	Ending WIP	Total	Cost per unit
Materials	$64,978	0				$
Conversion costs	$17,920	1,380				$
	$82,898					$1.3545

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When FIFO is used, the key to remember is that the cost of beginning inventory is added to the cost of completed units rather than being added to the cost per equivalent unit calculation.

The steps are:

1. Compute the equivalent units of production

2. Determine the cost per equivalent unit

3. Assign costs to ending WIP and cost of goods transferred out

If materials and conversion costs are added at different times, the units are completed at different times in the process and the equivalent units should reflect that. If this is the case, the cost per equivalent unit is determined by separating the costs into material and conversion cost components and dividing the costs by the related equivalent units.

Current period materials cost / Equivalent units for materials = Material cost per equivalent unit

Current period conversion cost / Equivalent units for conversion costs = Conversion cost per equivalent unit

Ivy Manufacturing produces ketchup in a production process whereby units are indistinguishable from one another. The company uses process costing to calculate the cost of its products and also employs the FIFO method in its calculations.

The following information is available for August:

	Beginning work in process		Current period
Materials	$	5,690	$	28,942
Conversion costs		21,300		70,440
Total costs	$	26,990	$	99,382

Gallons of ketchup in process on August 1 (30% complete)*	12,200
Gallons of Ketchup completed and transferred out during August	48,000
Gallons of Ketchup in process on August 31 (25% complete)*	14,100
*All materials are added at the beginning of the process.

Fill in the calculation of cost per unit and the following proof using the first in, first out method. Round cost per unit to three decimal places.

Calculation of cost per unit
Cost element	Current period cost	Beginning WIP equiv. units (to be completed)	Started & completed equivalent units	Ending WIP equivalent Units	Current total equivalent units	Cost per unit
Materials	$28,942					$
Conversion costs	70,440					$
	$99,382					$

Calculate the cost of:

Completed units: - Select your answer -$90037$99382$113022$126389Correct 12 of Item 2

Ending WIP: - Select your answer -$8102$8102$13367$30461Correct 13 of Item 2