I have attached the corresponding lessons for assignment 8, it usually includes practice problems at the bottom that look similar to the assignment.

ASSIGNMENT 7 JOB ORDER COSTING Directions: After reading the scenario, complete the task below the scenario. Scenario: Just4U Company uses a job order cost system. The following data summarize the operations related to production for the month of January 20xx. a) Materials purchased on account: $150,000 b) Materials requisitioned and Factory labor used: JOB ORDER 601 602 603 604 605 General Factory Use MATERIALS $32,400 $21,300 $28,400 $26,308 $31,225 $5,300 c) Factory overhead costs incurred on account: $34,500 d) Depreciation of machinery and equipment: $5,100 e) The factory overhead rate is $50 per machine hour. Job Order 601 602 603 604 605 f) Jobs completed: Machine Hours Used 320 225 300 285 312 #601, #603, #605 g) Jobs shipped and billed: #601: $113,200, #605: $88,350 Task: 1-Prepare the proper t-accounts and show the balances of each account 2- DETERMINE GROSS PROFIT for the month LABOR $19,300 $15,200 $17,500 $16,395 $18,422 $32,400 ACCTG211: FINANCIAL AND MANAGERIAL ACCOUNTING FOR DECISION MAKING Lesson 10: Cost Behavior and CVP Lesson 10: Cost Behavior and CVP Introduction (1 of 11) Introduction Businesses are concerned with events that may impact their profitability. The study of cost behavior will enable management to make decisions in a proactive manner rather than a reactive one so that the company can remain profitable. The study of cost behavior involves an understanding of the relationships between different types of costs, the volume of sales, and the profits that are generated as these relationships change. This relationship is illustrated by the cost-volume-profit (CVP) analysis and identifies how changes in the variables can enhance or impede profitability for the company. Lesson Objectives After completing this lesson, students will be able to do the following: Identify variable, fixed, and mixed costs. Calculate the contribution margin and unit contribution margin. Determine required sales to break even or meet target profits. Determine the break-even point for multiple product sales. Identify the consequences of changes to the components of the CVP relationship. Lesson 10 Road Map (2 of 11) Lesson 10 Road Map Cost Behavior and CVP Readings: Complete readings for Lesson 10 Read online materials in Lesson 10. Cost Behavior and CVP Review key terms found in the text. Assignments: 1. Complete practice problems in this online lesson. Cost Behavior (3 of 11) Cost Behavior Cost behavior is the study of changes in costs that are related to activities. So what does that mean? Management needs to know what will happen if there are changes in the costs of production. We have identified costs as direct and indirect, materials costs, labor costs, and overhead costs. But in order to develop budgets and accurately predict profit, it is important that we understand whether the costs are tied to production or whether they exist regardless of production. In the study of costs, it is also important to know what action causes costs to change? Now what does that mean? Companies must identify the activity that best characterizes the costs. MMKTAX is planning its copy cost budget (the cost of printing paper copies of returns) for the next tax year. The firm must identify the item that "drives" the cost. Is it the number of people who have tax returns prepared? The question would be: Do all tax returns require copies? The answer would be yes, but if the tax returns are electronically filed, then the number of copies required is one (the client copy). However, if the tax returns are mailed to the IRS, then the number of copies is at least two because the client receives a copy and so does the IRS, and depending upon the state, the federal tax return may be required to be attached. So a better gauge of the activity that increases copy costs is the number of paper filed returns. If MMKTAX can convince its clients to electronically file their returns, then copy costs will be significantly reduced. MMKTAX can control its costs and maintain profitability by cutting copy costs. Consider a large company like Target and all the little costs that can affect its profitability. That phrase "paper or plastic" becomes meaningful in more than an ecofriendly way when the costs of paper and plastic are compared. And what if the determination is that customers must bring their own bags? Many stores are adopting that policy to save money (e.g., IKEA, ALDI), allowing the consumer to purchase reusable tote bags. This analysis is what it means to study costs and determine the relationship between costs and profits. All costs can be classified as variable or fixed and the equation reads as follows: Total Costs = Variable Costs + Fixed Costs Now let's see what that means when we consider all the things we already know about costs! Variable Cost (4 of 11) Variable Costs Variable cost is one of the classifications into which all costs will fall, but what is it? A variable cost changes in proportion to activity but remains constant per unit. (Oh, that made it really clear!) Remember the FROOTYLUUM example in Lesson 4 (page 6)? Well, FROOTYLUUM makes T-shirts. It takes one yard of fabric to make one T-shirt. The fabric costs $1 per yard. If FROOTYLUUM makes one T-shirt, the cost is $1. The unit cost is $1/shirt. If FROOTYLUUM makes 10 T-shirts, the cost is $10. The unit cost is $1/shirt. The change in the total cost of production is directly related to the number of shirts produced, but the cost per shirt remains constantthis is a variable cost. The total cost varies as production varies, but the unit cost does not change regardless of how many Tshirts are manufactured. Investor Words (2012) defines a variable cost as "a cost of labor, material or overhead that changes according to the change in the volume of production units. Combined with fixed costs, variable costs make up the total cost of production. While the total variable cost changes with increased production, the total fixed costs stays the same."1 Let's look at another example. Gas costs $4/gallon. My SUV gets 10 miles per gallon. So how much does it cost to drive each mile? $4.00/10 miles = 40 per mile So if I drive 100 miles @ 10 miles/gallon, I require 10 gallons of gas x $4.00 = $40. drive 1,000 miles @ 10 miles/gallon, I require 100 gallons of gas x $4.00 = $400. The more miles I drive, the more gas I use, and the more money I spend. But the cost per mile stays the same. This is a variable cost. It varies with how much I drive. Examples of variable costs include utilities, direct materials, direct labor, and sales commissions. Activity bases that provide variable costing include fuel costs (which vary with the number of miles driven) and tax preparer revenue (which vary with the number of tax returns completed). Variable Cost. (2012). In Investor Words. Retrieved from http://www.investorwords.com/5221/variable_cost.html. 1 Fixed Cost (5 of 11) Fixed Costs If a variable cost varies with activity, then a fixed cost remains constant regardless of activity! So how does that work? Let's look at an example. Mary is paid a weekly salary of $1,000 regardless of how many hours she works or how many products are created. We know that this salary is fixed, but the allocation of this salary will change per hour worked or per unit produced. Hourly costs: $1000/week: 40 hours worked = $25/hour 10 hours worked = $100/hour 50 hours worked = $20/hour Note that the more hours worked, the less cost per hour. Production costs: $1000/week: 100 items produced = $10/item 200 items produced = $5/item 10 items produced = $100/item Note that the more items produced, the less cost per unit. Fixed costs include costs that are required regardless of production. Some examples are insurance for the building, taxes paid for the building, straight-line depreciation, and salaried personnel. As mentioned before, all costs can be classified as variable or fixed and the equation reads Total Costs = Variable Costs + Fixed Costs. So we know that if a cost is not variable, then it is fixed, and vice versabut maybe not! Mixed Cost (6 of 11) Mixed Costs Some costs have characteristics of both variable and fixed costs. A cost may remain variable over one range of activity but remain fixed over another range. These types of costs include a base rate and a production rate. Let's look at cell phone charges. One plan may provide up to 500 minutes for $20, but then every additional minute costs 25. This cost is fixed and then becomes variable: This is a mixed cost. Let's look at another example. Catering companies and banquet halls must set pricing to cover fixed costs and variable costs. What are the costs of a banquet? Usually, the management quotes a set price and then a per person price to ensure profitability, such as $100 plus $15 per plate, or $2,000 for the first 100 guests + $10 for each additional person. Try the exercise below to distinguish between fixed and variable costs in the example above. Self-Check Activity Match the items to the type of cost A. chef B. food C. insurance D. linens E. manager F. room G. tables H. tableware I. utilities J. waitstaff Fixed Variable 1. 2. Solution Fixed room insurance manager chef Variable food waitstaff tables tableware utilities linens Reveal the reasons why these costs are classified as variable or fixed: SOLUTION: The room is a constant cost regardless of whether it is filled or empty. The insurance must be paid even if there is no banquet. The manager must be paid since this person is on salary. The chef is usually on salary since this person is not going to take a job that is classified as "on call." The food is made dependent upon the number of people eating. The tableware is used dependent upon the number of guests. The tables are used based upon the number of guests. The linens used are based upon the number of tables needed. The wait staff needed is based upon the number of guests. So, there is a base price to rent the space, and then there is a production price based upon the number of guests. How can a banquet hall, restaurant, or caterer know what to charge in order to make a profit? This industry uses the high-low method to estimate costs and uses this estimate to determine the prices that must be charged. Let's take a look at how this works. LUVTOCOOK Banquet Hall has the following historical data concerning banquets held during the past month: # Persons $ Costs 5,000 2,100 2,700 1,800 3,100 $45,000 $23,550 $24,000 $19,000 $30,500 Based on these data, the following steps must be completed in the high-low method: 1. Identify the highest activity level and its related cost (highlighted in green above). 2. Identify the lowest activity level and its related cost (highlighted in aqua above). 3. Determine the difference between these two items (highlighted in yellow below). # Persons 5,000 1,800 3,200 $ Costs $45,000 $19,000 $26,000 The difference between these two events represents the variable costs. Let's calculate the unit variable cost: $26,000 / 3,200 = $8.125 Variable Cost/Unit Now substitute the variable cost into the equation below, using either the highest or lowest activity level. Total Costs = Variable Costs + Fixed Costs Below are the highest (highlighted in green) activity level calculations. Total Costs = Variable Costs + Fixed Costs $45,000 = (5,000 x $8.125) + Fixed Costs $45,000 = ($40,625) + Fixed Costs Subtract Variable Costs ($40,625) from each side of the equation. $45,000 - $40,625 = Fixed Costs $4,375 = Fixed Costs Results of the highest activity level calculations: Fixed Cost = $4,375 Variable Cost = $8.125 / unit Let's check our answer using the lowest (highlighted in aqua) activity level. Total Costs = Variable Costs + Fixed Costs $19,000 = (1,800 x $8.125) + Fixed Costs $19,000 = ($14,625) + Fixed Costs Subtract Variable Costs ($14,625) from each side of the equation. $19,000 - $14,625 = Fixed Costs $4,375 = Fixed Costs LUVTOCOOK will use this information to quote its prices. If there is a wedding with 1,000 guests, LUVTOCOOK should charge: Total Costs = Variable Costs + Fixed Costs Total Costs = (1,000 x $8.125) + $4,375 Total Costs = ($8,125) + $4,375 Total Costs = $12,500 to break even But LUVTOCOOK does want to make a profit, so it should quote a price that exceeds the break-even costs. A price that would yield a profit would be $4,500 + $9 per person. Total Costs = Variable Costs + Fixed Costs Total Costs = (1,000 x $9) + $4,500 Total Costs = $13,500 to make a $1,000 profit Cost-Volume-Profit (CVP) (7 of 11) Cost-Volume-Profit (CVP) Cost-volume-profit relationships (CVP) are the relationships between selling price and sales, and production volume, costs, expenses, and profits. We are going to rewrite the income statement to indicate how costs (variable and fixed) interact. Figure 10.1. Income Statements The contribution margin (CM) is the excess of sales revenue over the variable costs. What does that mean? As you have seen, every expense can be classified as variable or fixed. o Contribution margin indicates how much of the sales revenue is available to pay the fixed costs (those not directly affected by production). CM Ratio = (Sales - VC) / Sales This is the percentage of each dollar of sales that will be available to pay fixed costs. COGS has variable components (DM + DL) and fixed components (FOH). Operating expenses have variable components (hourly wages, sales commissions) and fixed components (administrative salaries). Unit contribution margin indicates the dollar amount of each unit sale that covers fixed costs and provides income. o By rearranging the income statement, we can see how revenues are used to pay the nonactivity costs. Now you have been provided several equations and definitions, but how does it really fit together? The example below illustrates this. Let's say that our product has a selling price of $100. We know that our fixed costs are $1,500,000 and our variable costs have been estimated to be $62 per unit. (We estimate the variable costs because these are the costs that tend to change, so when we budget we use historical data and hope that these costs do not change too muchthink material costs and labor costs.) Using the CVP statement in a \"per/unit\" configuration, we see Sales Price / Unit (Variable Cost / Unit) Contribution Margin / Unit $100 (62) $38 This will provide us with the amount from each sale that is available to pay the fixed costs of the company. In this example, $38 from every sale will help pay the fixed costs. So let's find out what this means if the company sells 60,000 units. Sales (VC/Unit) CM/Unit 60,000 x $100 60,000 x $62 60,000 (Fixed Costs) Income from Operations $6,000,000 $(3,720,000) $2,280,000 ($1,500,000) $780,000 In this case, the company will have $780,000 to cover any additional costs. All costs of operations have been paid. But what if sales are only $40,000? Sales (VC/Unit) CM/Unit 40,000 x $100 40,000 x $62 40,000 (Fixed Costs) Income from Operations $4,000,000 $(2,480,000) $1,520,000 ($1,500,000) $20,000 Now the company only has $20,000 to cover any costs that might \"happen,\" such as administrative salaries increasing, changes in insurance rates, or an increase in oil prices that impacts heating costs. By knowing the relationships between costs and profits, the company can make predictions concerning profitability and set budgets to meet these goals. Break-even Point (8 of 11) Break-Even Point We have already used this term, which simply means that a company has no profit or loss. The company has been able to pay its bills but has nothing left over at the end of the period. It is critical that every company knows what its break-even point is so that budgets can be developed, the company can plan for future growth, and the company can have a safety margin for any "oops" events. So, how do we know what the break-even point is? Using the CVP relationship, we can see that if the Contribution Margin = Fixed Costs there is nothing left, so there is no profit or loss. This is the break-even point! Figure 10.2. Break-Even Point Graph Let's go back to our CVP example where the per unit CVP is SP = $100 VC = ($62) CM = $ 38 Fixed costs = $1,500,000 The company wants to know how many units must be sold to break-even (BE). BEsales = FC / CM unit BEsales = 1,500,000 / 38 = 39,473.684 units* *Since the company cannot sell part of a product, the BE point must always be rounded up to the next whole unit. Therefore, the company must sell 39,474 products to break even. Let's see if this is true. Sales 39,474 x $100 (VC) 39,474 x $62 CM 39,474 (FC) Operating Income $3,947,400 ($2,447,388) $1,500,012 ($1,500,000) $12 profit due to rounding up* By knowing what the break-even point is, the company can develop budgets and can plan for changes such as raises in salaries. MMK TAX has the following historical data: SP = $150 VC = $82 FC = $27,450 MMK TAX has just received notification that its malpractice insurance will rise by $800 in the next year. If nothing else changes, what is the break-even point? In other words, how many tax returns must be prepared to cover the operating costs? BEsales = FC / CMunit FC $800 FC = ($27,450 + $800) = $28,250 We must calculate the CM: CM = SP - VC CM = $150 - $82 = $68 BEsales = $28,250 / $68 = 415.441 MMKTAX must prepare 416 tax returns to break even. The break-even point changes if fixed costs change. These are changes in o salaries, o taxes, o insurance, o rent, or o depreciation. variable costs change. These are changes in o direct labor costs or o direct material costs. selling price changes. So let's see how this works using the CVP example at the top. Let's look at changes in fixed costs: If FC = $1,500,000 and CMunit = $38 then BE = $1,500,000 / $38 = 39,474 units What if we increase the value of the fixed costs by $100,000? If FC = $1,600,000 and CMunit = $38 then BE = $1,600,000 / $38 = 42,106 units There is a direct relationship between fixed cost and break-even. If FC increases, BE increases. And if FC decreases, BE decreases. What about changes in variable costs? Changes in variable costs are usually changes in direct materials or direct labor. So let's use our example of SP = $100, VC = $62, and FC = $1,500,000. We know that by using our CVP, CMunit is $38 (100 - 62 = 38), and BE is $1,500,000 / $38 = 39,474 units What if the labor union contract is renegotiated to increase wages by 5%? Current DLunit = $18 Given the 5% increase, the new DLunit will be $18.90 ($18 x 1.05% = $18.90). This will increase the VC to $62.90. The increase in VC will decrease the CM. ($100 - $62.90 = $37.10) Break-even will now be $1,500,000 / $37.10 = 40,432 units. In other words, 958 more units must be sold to break-even! There is a direct relationship between changes in variable costs and break-even point. If VC increases, then BE increases. And if VC decreases, then BE will also decrease. What about changes to selling price? Well, let's keep going with our CVP problem. Let's say that the competition has dropped prices and management realizes that in order to maintain the customers, the company must also drop its price. In order to stay competitive, management decides to cut prices by 10%. That means the new SP = $90 ($100 x 90% = $90). A change in the SP will mean that the contribution margin will change too. CMunit = SP - VC. So, CM = ($90 - $62) = $28, and BE must be determined. BE = FC / CMunit = $1,500,000 / $28 = 53,572 units Wow! The 10% cut in price results in the need to increase sales by 14,098 units, or 35.7% (14,098 / 39,474). This is why the analysis of CVP is critical when making decisions in business: A seemingly small change can have significant impacts on the profitability of a company. Management (and managerial accountants) must understand the ramifications of every action that affects costs. Target Profits (9 of 11) Target Profits There are likely few companies that just want to break even...and many times a company will set a monetary profit goal. Typically the Board of Directors is always looking to improve profits and will often instruct management to increase profits by a certain percentage in the next year. By understanding the CVP relationship, a company can use the information to determine what must be done to meet this profit goal. What if management decides it wants to achieve a certain monetary profit amount? How many units must be sold to reach that goal? Can we use the break-even formula to determine what the sales must be to reach a goal? After all, in the BE formula the target profit is ZERO...so, by adding a target profit to the formula, we can find out what the sales must be to reach the profit goal or target profit. BE sales = FC/CMunit which includes a target profit of 0. So let's add a target profit and the formula becomes Required Units Sales = (FC + Target Profit) / CMunit Let's use our CVP example from page 7 in this lesson. SP = $100 VC = $62 CM = $38 FC = $1,500,000 AND let's add a target profit of $500,000. Using our new and improved formula we see Required Units Sales = (FC + Target Profit) / CMunit Required Unit Sales = ($1,500,000 + $500,000) / $38 = 52,632 The company must sell this amount (52,632) to reach its target profit of $500,000. SO, let's check our numbers: Sales (52,632 x $100) = - VC (52,632 x $62) = CM - Fixed Cost PROFITS $5,263,200 - 3,263,184 2,000,016 1,500,000 500,016 (Target profit = $500,000*) *Difference due to rounding up because we cannot sell partial products. Let's see if you can work a problem using CVP. Sillycaps Corp., manufacturer of caps, has the following data from the current year. Selling price: $8 Direct Labor: $2/unit Direct Materials: $1/unit Fixed Costs: $780,000 The number of caps sold this year was 200,000. What was the operating profit for Sillycaps this year? Solution Sillycaps Operating Profit We must calculate VC. DL + DM = $2 + $1 = $3 SP 200,000 x $8 = (VC) 200,000 x $3 = CM (FC) Income from operations $1,600,000 (600,000) 1,000,000 (780,000) $220,00 What if Sillycaps has been given a directive to increase profits by 20% AND is told that labor costs will increase by 25% and direct materials will increase by 50%? How can Sillycaps reach its target profit? Solution Sillycaps Target Profit Solution The target profit will be $264,000 ($220,000 x 1.2, with 1.2 being the increase of 20%) The DL will be $2.50 ($2 x 1.25) The DM will be $1.50 ($1 x 1.50) VC = DL + DM = $4.00 Using CVP, we can calculate our CMunit SP (VC) CM $8 (4) $4 Using the target profit formula we calculate our required sales. Sales = (FC + Target) / CMunit = ($780,000 + $264,000) / 4 = 261,001 Sillycaps must sell 261,001 caps to meet this profit goal. BUT that is an increase of 30.5% in sales (61,001 / 200,000) in one year! Is that reasonable? What if Sillycaps management realizes that this probably will not happen? Now what? Let's do some basic calculations to see what the impact of these increases have on the company. What is the NEW break-even point? FC / CMunit = 780,000 / 4 = 195,000 What are the required sales to match current profits? (780,000 + 220,000) /4 = 250,000 This represents a 25% (50,000 / 250,000) increase in sales just to maintain current profits. That's a lot of hats to sell without getting any additional benefit!! Well, what if Sillycaps increases its selling price to pass the increase in costs to its customers? The increase in costs was $1 (DL = 50 + DM = 50). What will that mean? SP - VC = CM $9 - $4 = $5 Sales = (FC + Target) / CMunit = ($780,000 + $264,000) / 5 = 208,800 If Sillycaps passes along the costs to the consumer, it will have to increase sales by 8,800 caps which is only a 4.4% (8,800 / 200,000) increase in sales. This is more reasonable, but will the increase in selling price cause customers to purchase caps elsewhere? WHAT TO DO? What if Sillycaps splits the costs with the consumer, meaning that it only passes along the price increase? What does that mean? Instead of increasing the selling price to $9, Sillycaps only increases the selling price to $8.50. Here we go again... SP - VC = CMunit $8.50 - 4.00 = $4.50 Sales = (FC + Target) / CMunit = ($780,000 + $264,000) / $4.50 = 232,000 Now Sillycaps must sell 232,000 caps to meet its goal which is an increase of 32,000 caps in the next year which represents an increase of 16% (32,000 / 200,000). This may be reasonable and, depending upon what the competition must do to meet the rising costs of labor and materials, Sillycaps is taking a conservative approach by not passing on all the costs to the consumer. Can you think of other ways that management might be able to meet the directive of the Board? Solution Other ways to meet the directive: What about reducing fixed costs? Cut administrative salaries and use bonuses for exceeding the targets. Cut waste...analyze costs to determine where savings might occur, such as o copy costs, o supplies costs, or o utilities costs. Cut travel costs for meetings by implementing items like o conference calls, o e-mails, or o Skype or other video conferencing equipment. Extend useful life cycles of equipment. Eliminate positions. Can you see how important it is to "run the numbers" whenever any changes occur in costs? These are the decisions that management must make in order to keep the company moving forward; some of these decisions are not easy to make and often can result in additional problems. Sales Mix (10 of 11) Sales Mix Up to this point we have been calculating profitability by assuming that a company has one product, and we have determined how many products must be sold at what price in order to break even or make a profit. But that is not a real-world situation, and so we must understand the sales mix. According to the InvestoPedia.com (2012), sales mix is defined as "the relative amounts purchased of each of the products or services a company sells."1 What does that mean? Well, since most companies sell more than one product, management wants to know how much of each product must be sold to break even. Normally the products have different selling prices, costs, and contribution margins, so if a company sells a lot of one product and a little of another, it is important to know whether that sales mix affects its profitability. By knowing how changes in the sales mix will affect the company's profits, the company can make decisions concerning sales strategies, such as the use of a loss leader* in its marketing. (*A loss leader is a product that is sold below cost in order to attract customers, who will then spend money on much more profitable items, which offsets the loss on the special pricing.) Everything that we need to do is based upon the CVP formula, but now we add proportions (percentages) to the calculations. Using historical data we calculate the sales mix. ShishcaBobs Inc. sells two types of grills: charcoal and gas. Last year 7,500 charcoal grills were sold and 2,500 gas grills were sold. That means 10,000 total units were sold: 7,500 / 10,000 or 75% of units sold were charcoal grills. 2,500 / 10,000 or 25% of units sold were gas grills. The selling price for the charcoal grills is $100 and these have a VC of $70, so we know that the CM is $30. The selling price for the gas grills is $120 and these have a VC of $80, so we know that the CM is $40. The fixed costs for ShishcaBobs are $200,000. OK, now what? We will need to calculate the SPmix, the VCmix, and the CMmix. We do this by taking the individual product prices and costs and applying the mix percentage to them: SPmix = (SPcharcoal x %) + (SPgas x %) SPmix = ($100 x 75%) + ($120 x 25%) SPmix = 75 + 30 = $105 VCmix = (VCcharcoal x %) + (SPgas x %) VCmix = ($70 x 75%) + ($80 x 25%) VCmix = $52.50 + $20 = $72.50 CMmix = SPmix - VCmix = $105 - $72.50 = $32.50 So let's figure out the BE point for the company! BE = FC / CMunit BE = $200,000 / $32.50 = 6,154 products But ShishcaBobs sells two products. How much of each must be sold to break even? Now we take the required sales and multiply by the proportional sales mix: BEcharcoal = 6,154 x 75% = 4,615.5 (round up to 4,616) BEgas = 6,154 x 25% = 1,538.5 (round up to 1,539) Now the company knows how many of each type of grill it must sell to break even. The same proportions can be used to find the number of each product that must be sold to reach a target profit. Practice Problem: Bobby Sox Bobby Sox sells three styles of socks. Last year 2,500 pairs of golf socks were sold, 3,500 pairs of dress socks were sold, and 4,000 pairs of knee socks were sold. Golf socks sold for $2 with a variable cost of $1.40. Dress socks sold for $5 with a variable cost of $3.25. Knee socks sold for $8 with a variable cost of $5. The annual fixed costs were $692,000. How many pairs of each style must Bobby Sox sell to break even? Solution Determine the Sales Mix Proportions Total # of Socks Sold = 2,500 + 3,500 + 4,000 = 10,000 Golf Socks = 2,500 / 10,000 = 25% Dress Socks = 3,500 / 10,000 = 35% Knee Socks = 4,000 / 10,000 = 40% 2. SPmix = (SPgolf x 25%) + (SPdress x 35%) + (SPknee x 40%) = ($2 x 25%) + ($5 x 35%) + ($8 x 40%) = 0.50 + $1.75 + $3.20 = $5.45 3. VCmix = (VCgolf x 25%) + (VCdress x 35%) + (VCknee x 40%) = ($1.40 x 25%) + ($3.25 x 35%) + ($5 x 40%) = 0.35 + $1.14 + $2.00 = $3.49 4. CMmix = SPmix - VCmix = 5.45 - 3.49 = $1.96 5. Break Even = FC / CM = $692,000 / $1.96 = 353,062 pairs of socks Golf Socks = 353,062 x 25% = 88,266 Dress Socks = 353,062 x 35% = 123,572 Knee Socks = 353,062 x 40% = 141,225 TOTAL: 88,266 + 123,572 + 141,225 = 353,063 Sales Mix. (2012). In Investopedia. Retrieved from http://www.investopedia.com/terms/s/salesmix.asp#ixzz1qXTXJxkE. 1 ACCTG211: FINANCIAL AND MANAGERIAL ACCOUNTING FOR DECISION MAKING Lesson 09: Managerial Accounting: Job Order and Process Cost Systems Lesson 09: Managerial Accounting: Job Order and Process Cost Systems Introduction (1 of 11) Introduction to Managerial Accounting In the first portion of this course, we focused on financial accounting, which records the history of the company's financial transactions and reports the company's economic position. The financial statements are used by stakeholders of the company to make decisions regarding the company's ability to perform and whether the company is a good investment. The financial statements provide information to outsiders. Now we will move into managerial accounting, which involves the use of financial statements to make decisions concerning the operations of a company. Managerial accountants are often called "cost accountants" because they use the historical data to provide "what if" scenarios and project future movements or trends. They are concerned about the factors that impact costs which then affect profits. Internal users take this information and apply it to long-term strategies and tactics to improve the company. Well, that sounds really exciting, but what it really means is that managerial accountants are responsible for setting budgets and projecting the annual performance. And if the predictions do not come truethen in the words of Ricky Ricardo, "You got some 'splaining to do." And this is where the fun starts! Lesson Objectives After completing this lesson, students will be able to do the following: Compare and contrast the roles of the financial and managerial accountant. Identify the costs of the manufacturing processes, including direct and indirect materials; direct and indirect labor; factory overhead; and product and period costs. Identify the inventory accounts in a Job Order Production System. Calculate gross profit in a Job Order Production System. Identify the costs in a Process Cost System. Compute equivalent units of production. Allocate costs in a Process Cost System. Calculate gross profit in a Process Cost System. o o o o Lesson 09 Road Map (2 of 11) Lesson 9 Road Map Managerial Accounting: Job Order and Process Cost Systems Readings: Complete readings for Lesson 9 in the Course Syllabus. Read online materials in Lesson 9. Review key terms found in the text. Assignments: 1. Complete practice problems in this online lesson. Managerial Accounting (3 of 11) Managerial Accountants, AKA Cost Accountants, AKA "Bean Counters" Managerial accountants "manage" the costs of the daily operations of a company. They work with all levels of management to make decisions that impact the profitability of the company. They are involved in all phases of the management process as the chart below shows. Table 9.1. Managerial Areas of Responsibility We have talked about costs, but what are they and why do we care? According to the Collins English Dictionary, cost is "the price paid or required for acquiring, producing, or maintaining something, usually measured in money, time, or energy; expense or expenditure; outlay" (Cost, 2012).1 That really does define the items that a managerial accountant uses to determine the costs of delivering a service or product. We already know how the financial accountant records costs: Expense: If and only if (IFF) the benefit is used immediately or can be justified by using the prudent man rule or the de minimis rule. Asset: IFF the benefit is used over time, such as in the case of prepaid insurance or depreciating assets. So why are managerial accountants called "bean counters"? Once upon a timeactually not all that long ago companies in the United States imported coffee that arrived by ship. Coffee was priced by the pound and the amount was paid at the time of delivery on the docks. It was discovered that many unscrupulous coffee farmers (or perhaps the shipping company, or perhaps the pirates on the loading docks) were adding rocks and stones to the bags of coffee, and the importing company was being cheated and was not happy. So the companies would send the managerial accountants to the docks to make sure that the bags were filled with beans and not stones. The managerial accountants knew how many beans were in a pound, so they would count the beans before paying for the coffee. Thus, they became known as the "bean counters"! The name has become a derogatory title that denotes the attention to details and the meticulous nature of the managerial accountant. So let's see what this really means! Length: 8:41 Cost. (2012). In Thefreedictionary.com. Farlex Inc. Retrieved from http://www.thefreedictionary.com/cost. 1 Manufacturing (4 of 11) Manufacturing According to the BusinessDictionary.com, manufacturing is "the process of converting raw materials, components, or parts into finished goods that meet a customer's expectations or specifications" (Manufacturing, 2012).1 When we think about manufacturing, the image is often that of a factory churning out products at the speed of lightningthe assembly line, the "I Love Lucy" episode in the chocolate factory, the sweat shops with children working for pennies an hour. But manufacturing is also the ladies who make quilts to sell at the Holiday Bazaar, and the Amish carpenter who makes custom furniture in his barn, and the Corner Bakery that makes those wonderful loaves of bread and incredible cupcakes. As we study manufacturing, we must identify the costs that are part of the process of creating the product. Some costs are easy to identify and allocate to the products, while others are not so obvious. Some costs can be calculated, while others are estimated. The chart depicts the classifications of costs that we will be using to determine the profitability of a manufacturing plant. Table 9.2. Manufacturing Cost Classifications Let's look at making a baseball cap. There are two majors parts to the baseball cap: the beanie and the brim. The beanie is made of six to eight triangular-shaped pieces cut from fabric that has been laid out on tables in layers that may be one foot deep (usually 30 layers of fabric). The parts are cut using a reciprocating (vibrating) razor blade that slices through the fabric to produce the triangular shapes. These are then sent to the embroidery department where vent holes and decorative stitching is done. After the embroidery is completed, the parts are sent to the assembly department where they are sewn together to form the beanie. Stiffener may be added to provide form to the beanie, and lengths of seam binding are sewn along the inside seams of the beanie to provide comfort to the wearer. Depending upon the style of the cap, there may be fastening devices added to the back of the cap for better fit. The beanie usually has a button that is placed at the center top where the point of the triangular pieces come together. While the beanie is being produced, the brim is also taking shape. The brim usually consists of two pieces of fabric with an interfacing between them that provides the form, which can be manipulated by the wearer to his or her personal style. The brim begins with the materials being cut from fabric that has been laid on tables in layers in the same manner as the beanie. The brim parts are then sent to the embroidery department for any decorative work to be applied. From the embroidery department the parts are sent to assembly, where the three pieces are joined to form the brim of the cap. At this time any piping is added. The two parts of the cap are joined together, and the quality inspection takes place to ensure that the cap meets the specifications of the buyer. So, what are the costs involved in the making of the baseball cap? There are direct costs that can be specifically allocated to each cap, and there are indirect costs that are allocated to each cap by estimation of usage. Materials: Obviously, we know that we used fabric to create both the beanie and the brim, so those would be direct material costs. But what about the thread used to stitch the various parts and the embroidery? What about the seam binding tape that was used to cover the inside seams of the cap? Sure, we could actually count up the inches of thread that were used in each cap as well as the inches of seam binding tape that were used. But what if one machine used just a bit more thread than another sewing machine? And are we going to stop and count for every cap? What about the prudent man rule? What about the de minimis rule? Because the cost of these items is relatively small per cap, we will estimate the amount used per cap, and these would be included as indirect material costs. Labor: We can determine who actually worked on the baseball caps and how many caps were produced during the time period and that will allow us to calculate the direct labor cost per cap. But what about the supervisors of the various departments in which the caps were made? What about the accountants who work in the offices and pay the bills? What about the cleaning crew that keeps the work area usable? These people never touched a cap, but their salaries must be allocated to the production of the caps. So we will estimate these costs and allocate these indirect labor costs to each cap. What else is there? Well, where were these caps made? There are costs of the factory that must be allocated to production. These include the utilities (lights, heat, electricity for equipment, water in lavatories). There are the costs of using the building (rent or depreciation, insurance, property taxes). There are costs of maintaining the building (cleaning, repairs, supplies). There are the costs of the equipment used in production (equipment depreciation or rent, maintenance, repairs, supplies). These are costs that are part of production and must be allocated to the product. These costs are classified as Factory Overhead (FOH). Factory overhead includes all the costs that can not be directly allocated to a product, which means FOH includes indirect materials and indirect labor along with all the costs of have a factory. When businesses identify costs two terms are used: Product Costs: The cost of making a product = Direct Materials + Direct Labor + Factory Overhead. Conversion Costs: The cost of converting material into a product = Direct Labor + Factory Overhead. How do we keep track of the cost of each item that is made? There are two types of manufacturing systems that we will study that trace costs from the start of production through the sale of a product: Job Order Cost System: This system is used to keep track of specific orders (jobs) that are produced. This system is used when a manufacturer is creating custom goods or various quantities of different items. o Examples: custom-order car, t-shirt manufacturer, baseball caps. Process Cost System: In this method, costs are accumulated by department or process within the factory. This method is used when items are commingled or move through continuous processes through completion. o Examples: chocolate candy, cookies, perfume, candles. We will explore these systems in the following commentary pages. Manufacturing. (2012). In BusinessDictionary.com. Retrieved from http://www.businessdictionary.com/definition/manufacturing.html#ixz z1p1zSenza. 1 Job Order Cost Systems (5 of 11) Job Order Cost Systems The job order cost system occurs when a manufacturer can identify different jobs being produced in the factory and attribute costs to each of those jobs. Consider FrootyLooms T-shirt manufacturer. At any given time the company may be making T-shirts for various customers: Penn State long-sleeve blue shirts, Syracuse short-sleeve orange shirts, Maryland short-sleeve V-neck red shirts, etc. FrootyLooms must maintain inventories for each of these orders and identify the costs that are allocated to each job to be sure that the job is properly priced. There are four inventories that are maintained in this system: Raw Materials Inventory (RM): This reflects the stuff that is going to be used to create the product. Both direct and indirect materials are part of this inventory. Work in Process Inventory (WIP): These are the jobs that are in production but not yet completed; the products that are still on the factory floor. The WIP includes the following costs: o direct materials, o indirect materials, and o factory overhead. Finished Good Inventory (FIN INV): These are the products that have been completed and are not yet sold. This is the merchandise inventory for a manufacturer: the goods available to be sold. Cost of Goods Sold Inventory (COGS): These are the products that have been sold. The finished goods inventory will become the COGS inventory, which is what we calculated in the example with the merchant who sold his merchandise and moved it from merchandise inventory into COGS. The inventories are logical when you consider that a manufacturer is also a merchant. It certainly does not make sense to make products and keep them in a warehouse. There is no profit until the products are sold! So the first two inventories, RM and WIP, are specific to the manufacturing company, while the second two, FIN INV and COGS, are the same as those of the merchandising company. The Flow (Process for Accounting Within Job Order Cost System) 1. Materials are purchased and recorded in the RM ledger. These are usually held in an inventory area until requisitioned for use. 2. A job order is received and the factory requisitions materials for production, which is recorded in the WIP ledger. Badyear Tires has a manufacturing facility that uses the job order costing system. Note: We will only create T accounts that track production costs within the factory. 1. Badyear purchases $100,000 of rubber for use in its tires. The rubber is recorded in raw material inventory. 2. Badyear received an order. We'll call it #91. The factory identifies that #91 needs $15,000 of rubber and sends a requisition to the raw materials (RM) storeroom. The RM storeroom transfers $15,000 of materials to the factory floor for order #91. 3. Time tickets are used to track each person's time in the factory. The tickets are gathered and tabulated and allocated to each job. The time tickets for order #91 totaled 200 hours, and wages for the workers are $10/hour. Therefore $2,000 (200 x $10) is allocated to order #91. 4. Factory overhead costs (FOH) include all costs except DM and DL during the production period. For Badyear this would include adhesives, heat, electricity, water, depreciation of equipment and the building, maintenance supplies, indirect labor costs, etc. So what do we do this this overhead? Are all of these expenses the result of order #91? Were there other jobs being produced during this time period? How do we allocate these costs? Manufacturing companies identify an activity driver to indicate the amount of production. In a process that uses machines (such as sewing T-shirts), the number of hours a machine is used might indicate how much FOH is allocated to a job. In a process that is labor intensive (such as peeling potatoes), the number of direct labor hours might indicate how much FOH is allocated to a job. Allocation of overhead is done using historical data to create a unit rate. Badyear has decided to use DL (Direct Labor) hours as its activity driver to determine factory overhead allocation rates. Badyear has estimated that it will have $2,000,000 in FOH costs this year. Badyear also determined that its 500 employees would each work 2,000 hours during the year for a total of 1,000,000 labor hours. Using this data, Badyear has calculated that the FOH allocation will be $2,000,000 FOH / 1,000,000 hours = $2/DL hour. Badyear will use this FOH rate for each of its job orders during the year. 5. What? We already know that order #91 used 200 DL hours (see number 3), so Badyear will allocate $400 FOH to job order #91 (200 DL x $2/DL). Factory overhead that is allocated to the jobs will not necessarily match the costs for the year. Remember that this is an estimated number and it will be adjusted over time as we gather more data. At the end of the year, the FOH account will be closed (it is an expense account) and the balance of this account will be transferred into COGS because these are costs that were used to create products during the year (matching principle!). If we have a debit balance in the FOH account, it means that we have not charged enough expenses to our products (underallocated), and therefore COGS will be increased. If we have a credit balance in the FOH account, it means that we have charged too much (overallocated), and therefore COGS will be decreased. 6. Order #91 has been completed. The manager of the factory wants to clear the factory floor of products as soon as they are completed because he does not want any additional costs added to products that might negatively impact his budgets. The manager is responsible for meeting production budgets, which include costs allocated to the product while on the factory floor. Once a product moves out of the factory, the production costs stop. Any additional costs incurred are no longer the manager's problem. Somove those products out to finished goods! 7. Badyear has shipped this order to USAuto Co. for $35,000. Job order #91 has moved from finished goods into COGS (just like merchandising). Job Order Cost Systems Example (6 of 11) Job Order Cost System Example Problem Let's work through a problem. Solution Gross profit? $13,585! We Love Printing Explanation I'm looking at \"We Love Printing\" problem, which uses the job order cost system. And when we look at this problem, we're going to get a lot of data. And we're going to need to set up our problem correctly in order to resolve this data. and to figure out what we're doing. So before I even start my problem, I glance over it to see what I need. And then I go and set up my Taccounts. I know that whenever I'm dealing with a job order system, I'm going to need certain Taccounts. I'm always going to need a Raw Materials Inventory Account. I'm always going to need a Factory Overhead Expense Account. I am always going to need a WIP-- Work In Process-- Account for each one of the jobs that I'm working on. I'm always going to need a Finished Inventory Account. I'm always going to need a Cost of Goods Account. And I pray that I need a Sales Account. So I go over and set up my Ts, and then I start working on the problem. The first thing I look at on this problem is it tells me that the data is for the month of June, which is the first month of operations. That's very important to know because if I am in the 3rd, 5th, 27th, 11th month of operations, then when I open the door to the factory to begin that new month, I will probably be looking at work that is already in process. So what this tells me is that this is the first month, and I don't have to deal with any leftovers from last month's operations. So let's begin. Raw materials were purchased on account. Well, I'm going to take that number, and I'm going to plop it into my Raw Materials Inventory T-account. $66,300. If you'll notice, throughout this problem, I identify each item as it moves through my process. This enables me to keep track of my numbers and to know at a glance when I look at my WIP, where those numbers came from and what they mean. So $66,300 is the raw material purchased on account. And it goes into my Raw Materials Account. Now, the next thing it says that materials were requisitioned for jobs that were in the factory. And it lists the job number and the dollar amount of materials that were pulled to be worked on for each one of those jobs. These would be the fabrics, the stiffeners, anything that I need to make those baseball caps. Since I'm printing, it would probably be the paper. It might be bindings. It might be the things that I need in order to print whatever I am printing. It might be a brochure. It might be a book. Who knows? But whatever I need I have to pull from the Inventory Account. So you will see that Job 100 used $5,740 of raw materials. If you look at the Raw Materials T, you will see $5,740 coming out, identified as Job 100. And then you go to the WIP 100 account, and you see direct materials, DM, $5,740. Each one of those numbers that's located in that Section B, Materials Requisitioned, you will find moving out of the Raw Materials T-account and into the specific WIP. The next thing that I did is I looked at Letter C, and it says materials were requisitioned for general factory use. $2,400. Well, what do you think this means? Well, what this means is this is the thread that we used for the baseball caps. These are things that we can't identify as specifically going into one job or another. In this case, it might be ink for printing. It might be string to tie up whatever we're doing. Anyway, these are the indirect materials that we are going to simply put into the Factory Overhead Account and then allocate to the jobs at the end of the month. So if you look at the Raw Materials Account, you see $2,400 flowing into factory overhead. And in the Factory Overhead Account, you'll see $2,400 that is identified as IM, Indirect Materials. The next thing you see is D-- Labor Used. Well, again you'll notice the number of the job, and the dollar amount of labor that can be identified as going into each job. So you will see, under WIP 100, DL $2,500, WIP $101, DL $1,940. And I simply take those Direct Labor amounts and put them into each WIP, as indicated. E says there was general factory labor used at $1,580. Well, that would be the people that are working in the factory that aren't really working on any specific job, for example, the foreman, the cleaning ladies, the repair people, maintenance men. So we have to account for the labor of those people, even though they might not have produced one item. So that is going to go into factory overhead. And if you look at the Factory Overhead Account, you will see IL-- Indirect Labor $1,580. The next thing you see is factory overhead costs incurred on account. These are all the costs of running a factory. This would be the heat, the electric, the water, the gas, the insurance that's paid for the building, the rent on anything. So these are things that we get, the normal bills that a business gets. And it would go into the Factory Overhead Account. So you will see in the Factory Overhead T-account OH for overhead, $18,500. $500 G says Depreciation, $9,800. Again, we don't know exactly how much of each piece of equipment or how much of the building we can allocate for each job that was used that month. So we're going to call that factory overhead. And $9,800 goes into the FOH account, and it is labeled depreciation. DEP. Now the next thing it says is that the company is determined that they are going to use machine hours as their driver. Remember, we talked about an activity driver. And an activity driver is a way for a company to identify how their operations functions. And so this company has decided that it is going to allocate $25 for each machine hour used on a job of factory overhead. So I says we have factory machine hours used. And Number 100 used 120 hours. Well, if you calculate 120 times $25 an hour, what you will get is $3,000. So my Factory Overhead Account is going to be credited $3,000. That's moving out. And you'll see it's identified as going into Job 100. When I look at WIP 100, I see FOH $3,000. I'm going to calculate each one of those WIP factory overhead allocations by using the number of machine hours times $25. So if you look at WIP 105, you'll see FOH has $4,125 in there. And that's because 165 hours times $25 gives me $4,125 of factory overhead allocation. Now I'm going to J, where it says jobs that were completed during the month. Job 100, 101, 103, and 104. Notice 102 and 105 aren't listed. That must mean that those jobs are still held up in production. They haven't moved on. Maybe we're waiting on parts. Maybe we're waiting on some specific laborintensive work to be done. But for whatever reason, those two jobs have not moved off my factory. Now, we've already talked about how a manager wants to manage his costs. And one of the things you want to do is as soon as a job is finished on the floor, you want to get it out of your factory. You don't want any additional costs adding up. You don't want anything to ruin your budget. So WIP 100 is done. We're going to total up that WIP, and we find that we have $11,240 of costs. We're moving those costs out of our factory and into the finished goods inventory. And you'll see in finished inventory, 100 has $11,240 in it. Again, I identify each job as it moves through the process. So I've done this for WIP 100, WIP 101, WIP 103, and WIP 104. And all of those numbers have been closed out on my factory floor and now show up in the finished inventory. It says the job shipped and customers were billed. So Job Number 100 was shipped. Well, Finished Inventory wants to get that out the door too. So just as a merchant did, when we sell something, the inventory that we sold moves out of inventory and into Cost of Goods Sold. So WIP 100 now moves from Finished Inventory into Cost of Goods Sold. And the sales amount goes into the Sales Account, $19,700. We will do that for job order 101 and job order 103. Job order 104 hasn't shipped yet. It's still sitting in our inventory. So that's going to stay in our inventory until we ship it. We sell it and ship it. Now, there's accounts that I want you to look at, and that's the Factory Overhead Account. If you look at the Factory Overhead Account what you will see is that we have a balance in that account on the debit side of $11,030. So when we're looking at that account, what does that tell us? Well, it should tell you that we did not allocate enough of our overhead to those jobs. We still have a lot of overhead sitting in our account. We didn't use the right factor. Well, normally, we're not going to do anything with this until the end of the year. But since this is our first month of operations, we will probably rethink our allocation amount, because it's pretty evident that $25 per machine didn't do it. We're left with $11,000 out of a total of thirty-some thousand dollars worth of factory overhead that we have not allocated. So probably next month, we might use $30 or $35. And we're going to continue to experiment until we find a number that comes pretty close to allocating out our factory overhead. So we're looking at our Factory Overhead and what would we do with that. Well, at the end of an accounting period when we close out our books, Factory Overhead gets closed because it is an expense account. So where would that close to? Well that account would actually close to Cost of Goods Sold. So if this was December, that $11,030 would be closed out of Factory Overhead and into Cost of Goods Sold, which would then increase our Cost of Goods Sold significantly. Because what we've really done here is we have undercharged our accounts. Now I would be asking you for gross profit at this point. And I'm going to see whether you can calculate the gross profit, given the numbers that you have in this finished solution. I'm hoping you can do so. It'll be in a show/hide situation on the page. And I'm really hoping that you get it right, because I've worked it all out for you. This problem is very similar to the assignment that you're going to have for this lesson. So study this problem, go over it, make sure you understand it. If you don't understand it, work through it again. As you move through your studies and are introduced to marketing and management topics, keep in mind how costs must be maintained and allocated to products in order to determine appropriate pricing so that the manufacturer and the merchant can make a profit, and so that the consumer is satisfied with the purchase. Process Cost System The process cost system is used to gather the manufacturing costs that involves processes to complete a product. Each process must be \"costed,\" and as a unit moves from one process to another, it carries its costs with it. Each step or department cost transfers to the next step or department in the process. There are a few facts that we will assume to be true as we work through our problems: FIFO is the inventory flow that must be used since each unit "pushes" the previous one through the system. Think assembly line. Think chocolate bars moving along a conveyor beltthe first ones in the production door are the first ones completed. All materials are added at the beginning of each step (or department) in the process. Conversion occurs throughout the process, which means that the materials are converted during the entire time that a product is "in" a step or a department. What does that mean? A product will not receive any additional direct materials while it remains in a department, but it may receive additional direct labor and allocated factory overhead costs. Product Costs = Direct Materials (DM) + Direct Labor (DL) + Factory Overhead (FOH) Conversion Costs = Direct Labor (DL) + Factory Overhead (FOH) In costing the products in a process system, we will identify three distinct types of units: A Units: These are the units that were left over from the prior period and then completed during the current period: This is FIFO. Because these were the first units in, they will be the first units that will be completed during the current period. B Units: These are units that are started and completed during the current period. C Units: These are units that are started but not completed during the current period. They will be the leftovers in the next period and will become A Units in the next accounting period. Let's see what this means. ProSess Kosting Corp Example On June 1, the work in progress inventory (WIP) had 1,000 units in its balance. During the month, 2000 units were started. On June 30, the WIP held 200 units. What happened? Step 1: The first thing we will do is make a T account for WIP Units, and we will indicate that there are 1,000 units in the WIP. Which units are these? They are the A Units because they were left over from the prior period. These will also be the first units completed (FIFO). Step 2: We are told that 2,000 units are started during the month. Which units are started? B Units and C Units are started during the current period. We will identify these in the T account as B+C. Step 3: We are told that the ending balance of the T account is 200. Which units are these? These are the C Units because they were started but not completed during the period. We will identify these in the T account. Step 4: The T account shows us that 2,800 units have transferred out of the WIP. We had 3,000 units and are left with only 200. So 2,800 units moved onwhich ones? Well, we know that FIFO says A Units were completed first, so those are the first 1,000 units that transferred out. That means that there were 1,800 B Units because those are started and completed during the period. Now that we have identified the units, we must determine how much work was done to them during the period. Once again, what does that really mean? Well, we know that the only units that had 100% of everything done during the period were the B Units. The A Units had work done during the prior period, and the C Units weren't completed and will have more work done in the next period. So, how much did we do during this period to these units? We must calculate the equivalent units that were completed. OK, let's consider that we are putting together pie charts. Each chart has six pieces with no two pieces being the same color. (See "Completed Pie Chart" to the right.) Figure 9.1. Completed Pie Chart At the end of the month before you turn off the lights, you look at the factory and you see pieces of pie everywhere: all different colors, sitting in piles waiting to be placed onto pie charts. (See "Factory Floor Illustration" below.) If only you could gather up all the pieces and make pies, how many pies would you be able to finish? This is the number of equivalent units that exist: the units that could have been put together to make a pie chart but were not. All the pieces left on the factory floor are the C Units because they are the ones that were not completed. Figure 9.2. Factory Floor Illustration The managerial accountant will calculate the equivalent units completed during the period. This number will be used to determine how conversion costs are allocated to the A, B, and C units. Let's continue our ProSess Kosting problem. There is additional information that will be necessary to complete the problem. On June 1, the WIP had 1,000 units at 40% completion in its balance. During the month, 2,000 units were started. On Jun 30, the WIP held 200 units at 30% completion. What have we learned? The A Units: If all the parts that were completed last period could have been put together, 40% of the 1,000 A Units would have been completed, which means that this period those units will require 60% more work. So the equivalent units that must be completed this period are 600 (1,000 units x 60%). The C Units: If all the parts that were completed this period could have been put together, 30% of the 200 units would have completed. So, the equivalent units that were completed this period are 60 (200 units x 30%). Next period these units will require an additional 70% work done, or the equivalent of 140 whole units of work. The 1,800 B Units are 100% completed. Remember: They were started and completed this period. Note: We are concerned about what costs are incurred during the current period! Process Cost System Example (9 of 11) Process Cost System Example We will work through the ProSess Kosting Corp. problem so that you can see how to track the costs through the department. On June 1, the WIP had 1,000 units at 40% completion in its balance. During the month, 2,000 units were started. On June 30, the WIP held 200 units at 30% completion. On June 1, the WIP balance was $5,000. During the month of June, the direct materials cost for the department was $4,000, direct labor costs for the department were $13,200, and the factory overhead costs for the department were $18,534. What is the ending WIP balance? Wow! That is a lot of stuff to track, and setting up the problem makes it a bit easier. What do we know? We know we have three types of units: A, B, and C. Each type of unit must be converted, which means each will get DL and FOH, which are the conversion costs (CC). We know that the A units already received 100% of their DM because those units are leftovers from the previous period. Because the DM is added to the units when they enter the department, A units never get any more DM in the department. We know that all the B and C units will get 100% of DM because they are entering the department. We know that A units received 60% conversion (had 40% done last period). We know that B units received 100% conversion. We know that C units received 30% conversion. We know that A units have $5,000 of costs already accumulate. These are carryover (CO) costs. (Note: EU stands for equivalent units.) Conversion Units = Sum of * 600 + 1,800 + 60 = 2,460 So, now what? Well, we have set up our calculations to identify the costs for each type of unit that was in the factory during the accounting period, and we have to calculate those costs. Direct materials: We know that 2,000 units entered th