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Horngren'S Financial And Managerial Accounting
Found in: Page 1005

Short Answer

Question: What are conversion costs? Why do some companies using process costing systems use conversion costs?


Conversion cost means the total of direct labor cost and the factory overhead costs.

Some companies using the process costing system use the conversion cost because the companies using the process costing system are highly automated, so the direct labor is a small part of total manufacturing cost. For simplifying the accounting in this case, direct labor is combined with manufacturing overhead.

See the step by step solution

Step by Step Solution

Step 1: Conversion cost

The conversion cost means the total cost incurred by the company for converting the raw material into the useful products.

Step 2: Company using process costing use the conversion cost

The automated companies in which labor cost is negligible may use the conversion cost while using the process costing system for simplifying the accounting procedures.

Most popular questions for Business-studies Textbooks

Rick Pines and Joe Lopez are the plant managers for High Mountain Lumber’s particle board division. High Mountain Lumber has adopted a just-in-time management philosophy. Each plant combines wood chips with chemical adhesives to produce particle board to order, and all product is sold as soon as it is completed. Laura Green is High Mountain Lumber’s regional controller. All of High Mountain Lumber’s plants and divisions send Green their production and cost information. While reviewing the numbers of the two particle board plants, she is surprised to find that both plants estimate their ending Work-in-Process Inventories at 75% complete, which is higher than usual. Green calls Lopez, whom she has known for some time. He admits that to ensure their division would meet its profit goal and that both he and Pines would make their bonus (which is based on division profit), they agreed to inflate the percentage completion. Lopez explains, “Determining the percent complete always requires judgment.

Whatever the percent complete, we’ll finish the Work-in-Process Inventory first thing next year.”


  1. How would inflating the percentage completion of ending Work-in-Process Inventory help Pines and Lopez get their bonus?
  2. The particle board division is the largest of High Mountain Lumber’s divisions. If Green does not correct the percentage completion of this year’s ending Work-in-Process Inventory, how will the misstatement affect High Mountain Lumber’s financial statements?
  3. Evaluate Lopez’s justification, including the effect, if any, on next year’s financial statements.
  4. Address the following: What is the ethical issue? What are the options? What are the potential consequences? What should Green do?

PepsiCo, Inc. is a global food and beverage company that manufactures brands such as Frito-Lay, Gatorade, Pepsi-Cola, Quaker, and Tropicana. One of the products PepsiCo, Inc. manufactures is Mountain Dew. The first process in manufacturing Mountain Dew consists of clarifying the water to remove impurities such as organic materials and bacteria. The clarification process involves mixing the water with aluminum sulfate (an indirect material) to remove the impurities.

Assume PepsiCo uses the weightedaverage method of process costing.


1. During the month of June, the Clarification Department incurred the following costs in processing 100,000 liters:

Wages of workers operating the clarification equipment


Manufacturing overhead allocated to clarification




PepsiCo had no beginning Work-In-Process Inventory in the Clarification Department in June. Compute the June conversion costs in the Clarification Department.

2. Assume that water is added at the beginning of the clarification process and conversion costs are added evenly throughout the process. The Clarification Department completed and transferred out 60,000 liters during June. The 40,000 liters remaining in Clarification’s ending Work-in-Process Inventory were 100% complete for direct materials and 60% complete for conversion costs. Compute the equivalent units of production for direct materials and conversion costs for the Clarification Department.

3. Compute the cost per equivalent unit for direct materials and conversion costs for the Clarification Department.


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