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214 CHAPTER 6 The Production Process

In our example, the target cost is the same as the planned cost, and the
production order is credited by $15,125. At the same time, the fi nished goods
inventory account is debited by this amount, and the manufacturing output
settlement account is credited. These steps leave a balance of $508.33 in the
production order. This amount, which is the difference between the debits
(actual cost) and credits (target cost) in the production order, constitutes a
variance. We discuss variances in the next section.
After the goods receipt step has been completed, the status of the pro-
duction order is updated to either delivered or partially delivered. Like goods
issue, goods receipt can be automated to save time and enhance effi ciency. In
such cases the ERP system automatically records a goods receipt at the time
of confi rmation.

PERIODIC PROCESSING
Several steps related to production are completed periodically during the
process. Periodic processing is also known as period-end closing. Companies
defi ne specifi c periods, such as months or quarters, when they complete certain
accounting steps to update the data in fi nancial statements. Periodic process-
ing includes overhead allocation, work-in-process determination, and order
settlement.
The production order accumulates the direct costs associated with pro-
duction. Other costs that are not directly associated with production are labeled
indirect costs or overhead costs. Examples are the costs associated with the facil-
ity such as utilities and maintenance, and the salaries of people, such as supervi-
sors and managers, who are not directly involved in the production in the work
centers. These costs are accumulated in specifi ed cost centers and are periodi-
cally allocated to the production orders based on preestablished rules.
When materials are issued to production, a reduction in the inventory
of these materials is recorded. However, the fi nished goods are not completed
and placed in inventory until a later point in time (at the time of good receipt).
During this interim period, neither the component materials nor the fi nished
goods appear as inventory items in the balance sheet. Rather, they are clas-
sifi ed as work-in-process (WIP) inventory. WIP is not a signifi cant issue if
the production process is relatively short and the value of the materials is not
high, as in the case of GBI. However, for products such as aircraft and build-
ings, production can take months or even years, and the value of the inventory
involved in production is quite substantial. In such cases, the materials used
in production are considered WIP inventory and must be properly accounted
for in the general ledger. To accomplish this task, a company will periodically
calculate the value of WIP and make postings to the general ledger so that the
fi nancial statements accurately refl ect the current inventory. A company can
use several techniques to determine WIP. However, a discussion of these tech-
niques is beyond the scope of this book.
We noted earlier that the difference between total debits and total cred-
its in the production order is called a variance. Either periodically or when the
production order is completed, these variances must be settled, meaning they
must be posted to appropriate general ledger accounts. The manufacturing
output settlement account is credited by the variance amount. Recall that this
account was credited during the goods receipt step and therefore refl ects the
full cost of production. An offsetting entry is made to a variance account, such
as a manufacturing output settlement variance account or a price difference

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