Journal Entries

Journal entries in process-costing systems are similar to entries made in job-costing systems with respect to direct materials and conversion costs. The main difference is that in process costing there is one Work in Process account for each process. In our example, there are two accounts: (1) Work in Process—Assembly and (2) Work in Process—Testing. Pacific Electronics purchases direct materials as needed, with materials being delivered directly to the assembly department. Using amounts from Exhibit 18-2, summary journal entries for February are as follows:

Exhibit 18-3 shows a general framework for the flow of costs through T-accounts. Notice how entry 3 for $24,500 follows the physical transfer of goods from the assembly to the testing department. The T-account Work in Process—Assembly shows February 2020’s ending balance of $26,100, which is the beginning balance of Work in Process—Assembly in March 2020.

Earlier, we discussed the importance of accurately estimating the completion percentages for conversion costs. What if Pacific Electronics’ managers overestimate the degree of completion for conversion costs to be 80% instead of 60%. The computations would change as follows:

1. • Exhibit 18-1, Step 2
   1. Equivalent units of conversion costs in ending Work in Process— $\text{Assembly}=80\%\times 225=180$
   2. Equivalent units of conversion costs for work done in the current $\text{period}=175+180=355$
2. • Exhibit 18-2, Step 4
   1. Cost per equivalent unit of conversion $\text{costs}=\$\text{18,600}÷355=\hspace{0.17em}\$52.39$
   2. Cost per equivalent unit of direct materials is unchanged, $80
3. • Exhibit 18-2, Step 5
   1. Cost of 175 units of goods completed and  
   2. $$\text{transferred out}=175\hspace{0.17em}\times \$80+\hspace{0.17em}175\times \$52.39=\$\text{23,168.25}$$

This amount is lower than the $24,500 of costs assigned to goods completed and transferred out in Exhibit 18-2. Overestimating the degree of completion decreases the costs assigned to goods transferred out and eventually to cost of goods sold and increases operating income.

Managers must ensure that department supervisors avoid introducing personal biases into estimates of degrees of completion. To show better performance, for example, a department supervisor might report a higher degree of completion resulting in overstated operating income. If performance for the period is very good, the department supervisor may be tempted to report a lower degree of completion, increasing cost of goods sold and lowering operating income in the current period. It would also reduce costs of ending inventory and the following period’s beginning inventory, resulting in higher operating income in the following period. In other words, estimates of degree of completion can help smooth earnings from one period to the next.

To guard against possible bias, managers should ask supervisors specific questions about the process of preparing estimates. Top management should always emphasize acting ethically and obtaining the correct answer, regardless of how it affects reported performance.