Question

Discussion Form:

1. Explain why LIFO is not used in process costing?

2. Explain the concept of equivalent units of production?

3. What is the difference between FIFO method and Average Cost method?

4. Explain the purpose of break-even analysis?

Answer 1

Answer 1 : why LIFO is not used in process costing : Under Process costing simillar kind of large amount of producets are being manufactured, where cost used for individual project can't be computed and allocation is being made for the period to compute cost of product.

process costing assume that first unit produced is first unit used - this concept represent FIFO. LIFO assume that last unit is used first. hence, FIFO is not relevant for process costing.

Answer 2 : concept of equivalent units of production : Each manufaturing unit has to report or calculate its production for particular period (example Year end). There are likely situation that all input has not converted into finished goods. In such case firm report equivalent unit in order to report total production. Example - In a production process say - 1000 unit is produced and another 1000 only 30% work has been completed. In such case firm will report 1000+1000*30% = 1300 equivalent unit produced.

answer 3 : difference between FIFO method and Average Cost method : Major different in FIFO and average cost method is about the computation of cost of good sold and average inventory. FIFO (First In First Out) method assume that unit produced is based on unit first puchased. This means cost of goods sold are based on initial purchase price while closing stock is based on last purhcase prices.

Average cost method on the other hand is very smiple to compute and it provide a blended rate at which both cost of goods sold and closing inventory is valued.

Answer 4 : Explain the purpose of break-even analysis : Break even analysis is very usefull analysis. It provide a level of unit production or sales required or $ sales required so that firm will be able to recover all its cost and it will have no profit or loss on this level.

Beyond this point firm will make profit (Assume that sales price is > Variable cost- else break even analysis will fail).

This will help management to have minimum production or sales target to recover its cost.

Formula for break even = Fixed cost/(Sales price per unit- variable cost per unit) OR Fixed cost/Contribution per unit .