5.3 FIFO and Weighted Average Methods

Process costing methods help track costs in continuous production environments. FIFO and weighted average are two key approaches, each with unique advantages. FIFO provides detailed cost tracking for specific batches, while weighted average simplifies calculations by blending costs.

These methods impact cost per unit, inventory valuation, and financial statements differently. FIFO offers precise tracking for custom orders, while weighted average is ideal for commodity products. Understanding these differences is crucial for effective cost management in various manufacturing scenarios.

Process Costing Methods: FIFO and Weighted Average

FIFO vs weighted average methods

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• FIFO (First-In, First-Out) separates beginning WIP from current production assumes oldest units completed first provides detailed cost flow info (batch production)
• Weighted Average combines beginning WIP with current production treats all units as started and completed in current period simplifies calculations by averaging costs (continuous production)
• Cost assignment: FIFO assigns costs to specific batches Weighted Average blends costs from different periods
• Equivalent units: FIFO calculates separate EUs for beginning inventory and current production Weighted Average calculates single set of EUs for all production

Production report using FIFO

1. Summarize physical unit flow: account for beginning WIP units started completed ending WIP
2. Compute equivalent units: calculate EUs for units completed from beginning inventory units started and completed during period ending WIP
3. Summarize total costs: include costs from beginning WIP and costs added during period
4. Compute cost per EU: divide total costs by total EUs for each cost category (materials labor overhead)
5. Assign costs: apply computed cost per EU to respective units (completed transferred out ending WIP)
6. Reconcile costs: ensure total costs assigned equal total costs to account for

Equivalent units in weighted average

1. Summarize physical unit flow: combine beginning WIP with units started during period
2. Compute EUs: calculate for completed units and ending WIP sum up total EUs
3. Summarize total costs: add beginning WIP costs to costs added during period
4. Compute cost per EU: $Cost per EU = \frac{Total costs}{Total EUs}$
5. Assign costs: multiply cost per EU by respective EUs for completed units and ending WIP

Impact of costing methods

• Cost per unit: FIFO may result in different costs for units from different periods Weighted Average produces single average cost for all units
• Inventory valuation: FIFO provides more current valuation of ending inventory Weighted Average smooths out cost fluctuations
• Financial statement: FIFO can lead to volatile COGS figures Weighted Average tends to stabilize COGS across periods
• Decision-making: FIFO offers precise cost tracking for specific production runs (custom orders) Weighted Average simplifies cost allocation in continuous production (commodity products)
• Consistency: FIFO aligns with FIFO inventory valuation in financial accounting Weighted Average corresponds to weighted average inventory valuation