Problem 5: Cost of production report – normal and abnormal loss

This problem illustrates the treatment of both normal and abnormal losses when they occur at the end of production process.

Problem 5 (a)

The quantity and cost data belonging to Department Y of Albari Company for the month of July is presented below:

Quantity data:

• Units received from department X: 24,000
• Units transferred to finished goods store room: 18,000
• Units in ending inventory (70% converted): 4,000
• Expected normal loss: 5% of good output
• Abnormal loss: ?

Cost data:

• Cost of units received from preceding department: $168,000
• Cost incurred in Department Y:
  – Materials: $36,000
  – Labor and factory overhead: $91,200

In Department Y, conversion costs are incurred uniformly throughout the process and materials are added at the end of the process, following inspection.

Required: Prepare a cost of production report for Department Y of Albari Company.

Solution

Equivalent units:

Materials:
= 18,000 units

Labor and factory overhead:
= 18,000 + (4,000 × 70%) + *900 + 1,100**
= 22,800 units

*Normal loss: 18,000 × 5%
= 900
**Abnormal loss: Total units received from preceding department – (units transferred to finished goods + Ending inventory – Normal loss)
= 24,000 – (18,000 + 4,000 + 900)
= 1,100

Unit cost

Materials:
= $36,000/18,000 units
= $2.00 per equivalent unit

Labor and factory overhead:
= $91,200/22,800 units
= $4.00 per equivalent unit

Problem 5 (b)

The steward Chemicals Inc. uses a process costing system. During November, Department B received 28,000 units from Department A at a total cost of $280,000. The following costs were added by department B during the month:

• Materials: $24,000
• Conversion cost: $180,000

During November, Department B completed 16,000 units and transferred the same to finished goods store room. 10,000 units were still in process in department B at the end of the month. These units were estimated to be 60% complete with respect to conversion costs.

Materials are added after inspection and identification of loss which take place at the end of process. Normal spoilage is expected to be only 5% of good units. Any spoilage more than 5% is considered as abnormal and is charged to factory overhead.

Required: Prepare a cost of production report of Department B of Steward Chemicals Inc.

Solution

Equivalent units

Materials:
= 16,000 units

Conversion costs:
16,000 + (10,000 × 60%) + *800 + 1,200**
= 24,000 units

*Normal loss: 16,000 × 5%
= 800
**Abnormal loss: Total units received from preceding department – (units transferred to finished goods + Ending inventory – Normal loss)
= 28,000 – (16,000 + 10,000 + 800)
= 1,200

Unit cost

Materials:
= $24,000/16,000 units
= $1.50 per equivalent unit

Conversion costs:
= $180,000/24,000 units
= 7.50 per equivalent unit

In problem 5 (a) and (b):

• the normal loss occurred at the end of process has been charged to good units transferred to finished goods store room.
• the abnormal loss occurred at the end of process has been charged to factory overhead.