COST ACCOUNTING REPORTS GENERATED BY CONVERSION PROCESSES (STUDY OBJECTIVE 3)

Production accounting and the related financial reporting are performed by the various accounting departments. Many of these accounting applications were discussed in previous chapters. Cost accounting, however, relates specifically to the conversion process and is therefore discussed further in this section. Cost accountants prepare production cost analyses, inventory records, and standard costing information. This information is critical in helping managers make business decisions concerning the conversion processes.

Once the bill of materials and operations list have been established for a particular product, cost accountants can begin the process of determining standard costs. Standard costs are expected costs based on projections of a product's required resources. Standard costs include direct materials, direct labor, and overhead. Overhead consists of indirect materials (such as nails, glue, and other supplies), indirect labor (attributed to production management and maintenance personnel), and costs of maintaining the production facility (such as rent, utilities, insurance, and depreciation of production equipment). Standard costs are helpful tools in controlling costs and monitoring the quality of the production process. Developing standard overhead rates is also important in the process of applying overhead to products.

During the period, cost accountants accumulate the costs of actual materials and labor for the company's products. Materials costs are based on review of the routing slips and inventory status reports, and journal entries are recorded for the transfer of items from the raw materials inventory account to work in-process. Labor costs are derived from time sheets and are added to work-in process. Overhead costs must be applied to work-in-process, with the standard overhead rate applied to actual activity (hours or units), as documented in the inventory status report.

After work-in-process costs have been determined, cost accountants review completed production transactions for items transferred to the warehouse or shipping area. Care must be taken to ensure that production orders are canceled when the items are completed. The work-in-process and finished goods inventory accounts should be updated to reflect the completion of products and their movement out of production.

Most manufacturing companies prepare perpetual inventory records to record the flow of inventories. Perpetual inventory systems involve recording purchases as raw materials inventory, recording all the components of work-in-process for inventories in various stages of production, and recording the total cost of sales for products completed and sold. While perpetual inventory records are the generally preferred way of controlling inventory quantities, they are not always used in practice. Some small companies with relatively simple inventories may be able to control their inventories with periodic systems. Periodic inventory systems involve updating the inventory and cost of sales accounts only at the end of the period. When periodic systems are in place, close management supervision and ongoing monitoring of key operating statistics are necessary to achieve adequate control.

After costs have been recorded for materials, labor, and overhead in the respective inventory accounts, cost accountants compute variances for these three cost components. Variances represent the differences between actual costs and the standard costs applied. Other types of analyses often prepared by cost accountants include comparisons of actual costs with budgets and/or prior periods and computations of ratios for financial analysis. Comparisons of actual costs with amounts reported by other production stations may also be helpful in pinpointing problem areas. The differences noted from these analyses should be discussed among various employees within the logistics function. Unfavorable differences should be investigated to determine whether logistics changes are needed to improve the conversion processes.