When labor, material and overhead costs have been accumulated, there's only one thing left to calculate: output. From this output calculation comes the unit costs, which are crucial to a department's inventory. Within this particular inventory can be both fully and partially completed units, which are hard to determine and factor in to a unit's full output. Luckily, there's a formula to determine the equivalent units of production for those partially completed units.
Weighted Average Method
Using the formula (Equivalent Units = Number of partially Completed Units × Percentage of Completion), we can use a weighted average method to calculate equivalent units of production. This method combines units and costs from the current period with units and costs from the prior period. Using this method, the equivalent units of production are the number of units transferred to the next department of finished goods plus the equivalent units in the department's ending work in process inventory.
Take the works in process at the beginning of the month, as well as the works in process at the end of the month, and multiply them by the percent they're complete, with respect to the costs of materials and conversion. Accounting for Management, an online managerial accounting website, provides a great explanation: If May 1 beginning Work in Process is 55 percent complete with respect to materials costs, and 30 percent complete with respect to conversion costs, this means that 55 percent of the materials costs required to complete the units in the department has already been incurred. Additionally, 30 percent of the conversion cost required to complete the units has already been incurred.
Complete two equivalent unit figures, based on the information given in Step 2. This can be done by taking the units transferred to the next department and adding them to the units that are already complete, for both materials and conversion. Both materials and conversion will have the same units transferred, but different material and conversion
Note that, in the weighted average method, beginning work in process inventory is ignored. When you use weighted averages, all work accomplished in prior periods is not factored into the equations.
First-in First-out (FIFO) Method
Use the following equation for FIFO exclusively: Equivalent Units of Production = Equivalent units to complete beginning inventory + Units started and completed during the period + Equivalent units in ending work in process inventory. In the aforementioned equation, Equivalent units to complete beginning inventory = Units in beginning inventory × (100 percent − Percentage completion of beginning inventory).
The entire equation can be further simplified to: Equivalent Units of Production = Units transferred out + Equivalent units in ending work in process inventory − Equivalent units in beginning inventory.
Calculate the units of production from both materials and conversion. Using FIFO, you'll have two percentages to determine, as it assumes that units in the beginning inventory are finished first.
Follow the FIFO equation with the following example: On May 1, the works in progress need to be calculated. This can be done by taking the 200 units and multiplying each by the percentage that they're complete at the beginning of the inventory, which is subtracted from 100 percent. If materials has 55 percent, complete on May 1 and conversion has 30 percent, then they have 90 units and 140 units to complete, respectively.
On May 31st, there are now 400 units, with the percentages changing to 40% in materials and 25% for conversion. This leaves you with 160 units and 100 units, respectively. When you add the two totals for May 1st and May 31st to the total number of units started and completed in May (in this example, that number is 4600), you'll be left with 4850 units in materials and 4840 units for conversion.
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