This is “How Is Process Costing Used to Track Production Costs?”, chapter 4 from the book Accounting for Managers (v. 1.0).
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Ann Watkins owns and operates a company that mass produces wood desks used in classrooms throughout the world. Ann’s company, Desk Products, Inc., maintains an advantage over its competitors by producing one desk in large quantities—4,000 to 8,000 desks per month—using a universally accepted design. This enables the company to buy materials in bulk, often leading to volume price discounts from suppliers. Because the exact same desk is produced for all customers, Desk Products purchases precut wood materials from suppliers. As a result, Desk Products can limit the production process to two processing departments—Assembly and Finishing. The Assembly department requisitions precut materials and hardware from the raw materials storeroom, assembles each desk, and moves the assembled desks to the Finishing department. The Finishing department sands and paints each desk and moves completed desks to the finished goods warehouse.
A new competitor recently began producing a similar desk, and Ann is concerned about whether Desk Products’ production costs are reasonable. In particular, Ann is concerned about the costs in the Assembly department since this department is responsible for the majority of the company’s production costs. Ann talks with the accountant at Desk Products, John Fuller, to investigate.
|Ann:||John, as you know, we have a new competitor that is aggressively going after our customers. It looks as if we will have to focus on keeping costs low to compete. The Assembly department is my biggest concern, and it would help if I knew the cost of each desk that goes through this department.|
|John:||Although we don’t track production costs for each desk individually, we do use a process costing system that assigns costs to each batch of desks produced. This system enables us to calculate a cost per unit as the products move through the Assembly department.|
|Ann:||Excellent! Can you get me the cost information for the Assembly department for last month?|
|John:||Sure, I’ll put together a production cost report for you by the end of the week.|
We return to Desk Products, Inc., throughout the chapter to explain how process costing systems work.