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More Inventory Content
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More Inventory Content
Get the latest e-commerce industry news, best practices, and product updates!
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More Inventory Content
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The term ‘work-in-process inventory’ is used in production and the supply chain with regards to unfinished or partially finished goods waiting to be completed. Finished goods, once completed, are sold to customers in exchange for a price. WIP also includes labor, raw materials, components, overhead costs, etc., incurred on producing finished goods. Work-in-process is a part of the inventory asset account on the balance sheet.
Subsequently, work-in-process inventory costs are transferred to the finished goods account. Eventually, the cost of work-in-process inventory is transferred to the cost of sales. Work-in-process inventory is a prominent component of your business’s balance sheet.
Understanding Work-in-process inventory (WIP)
You can use the term WIP to define the flow of manufacturing costs from one production stage to another. Furthermore, the balance in WIP incorporates all production costs you have incurred on partially completed or unfinished products. Production costs include labor used to produce finished goods, raw materials, and allocated overhead costs.
When mixed with human labor, you can classify an item inventory as work-in-process inventory. However, it should not arrive at the stage of finished goods. Furthermore, it can incorporate only some necessary labor but not complete work. Similar to other inventory accounts, companies can use different accounting methods to determine the value of work-in-process inventory.
Thus, it becomes essential for investors and other stakeholders to determine how a business calculates its work in process and other inventory accounts. Furthermore, you cannot compare the work-in-process inventory of one company to another. For example, you can determine the allocation of overhead costs based on machine hours and labor hours.
Moreover, work-in-process inventory is an asset for your company and on the balance sheet. As a standard practice, you must minimize the amount of work-in-process inventory. It’s also necessary since it gets pretty time-consuming and challenging to estimate the level of completion of a project for an inventory asset.
Multiple methods by accountants determine the number of partially completed units in work-in-process inventory. Accountants use the percentage of total raw materials, overhead costs, and labor that a company has incurred in determining the number of units partially completed in work in most situations. The cost of raw materials is the first cost incurred by companies for the production process since raw materials are required for production before any labor costs are incurred.
Disadvantages of Distribution Centers
Loss of communication control
The manufacturer loses control over interactions with the final customers. They can’t directly communicate with them and so can’t exactly understand how to boost product sales.
Loss of revenue
The manufacturer sells the end product to the resellers or intermediaries at a price lesser than the maximum retail price. The middleman earns the profit in between. So, the organization faces revenue loss.
Why Does Work-in-process Inventory Exist?
There are various reasons why companies have work-in-process inventory. The most apparent answer to why work-in-process merchandise exists is because there are raw materials in the production process. These items can be in the early stages of production, awaiting further processing in a queue.
Another not-so-common reason for work-in-process inventory is the availability of safety stock, anticipation inventory, or buffer stock. Many businesses find it beneficial to hold on to extra inventory for different stages of production. Eventually, these goods act as insurance during spikes in demand or shortages in supply
Work-in-progress vs. Work-in-process
Work-in-process inventory (WIP) refers to unfinished or partially completed goods. Furthermore, work-in-process inventory can also be referred to as goods-in-process. Some business experts consider work-in-process inventory as products that have moved from being raw materials to finished goods in a short duration. For example, work-in-process inventory can include manufactured goods.
While work-in-progress inventory refers to assets that take a significant amount of time to complete, for example, work-in-progress can include construction projects. However, the differentiation between the two terms does not bear significance to businesses and is certainly not the norm. Thus, in most situations, you can use either of the terms interchangeably to refer to unfinished or partially completed goods.
Work-in-progress vs. Finished Goods
Saleability is the primary factory that you can use to differentiate between work-in-progress and finished goods. Thus, the difference between the two is based on the relative production stage of a particular product. Finished goods are saleable, while raw materials are not in most situations. However, it’s not always concrete.
Work-in-progress inventory forms part of the intermediary stage of production since it started as raw materials to be processed into finished goods after completing the final stages of production. In contrast, finished goods fall in the final stages of production, where raw materials have reached the final stages. Finished goods are produced or manufactured by businesses to be sold to customers.
The terms finished goods and work-in-progress are relative terms coined to make accounting goods in different production stages easy for companies. Furthermore, work-in-progress and finished products for one company might not be the same for another company. For example, raw materials have the saleability factor for companies selling raw materials to manufacturing companies.
As mentioned above, the difference between the two terms is based on their stages of completion. Work-in-progress inventory falls at the intermediary step of production, while finished goods constitute the final production stage.
Example of Work-in-process Inventory
Here are some of the most common examples of work-in-process inventory:
Example 1
Consider an example of a car manufacturing company involved in assembling care. It involves multiple workstations for systematically performing varying operations after finishing and painting cars. Eventually, cars are sent out to inventory. You will see more costs adding to the cost of production when cars keep moving from department to department.
Example 2
Consider a manufacturing company that manufactures widgets. The company manufactures one widget a week. When the company was accounting for the available widget in its inventory at the end of the closing day of the month. However, they only had 10,000 widgets when they completed accounting. They recorded the unfinished widgets as work-in-process inventory under assets on the balance sheet.
What Does Work-in-process Inventory Mean in Accounting?
Work-in-process inventory refers to partially completed or unfinished goods in supply chain management. Furthermore, work-in-process inventory can also be referred to as inventory currently in process. In-process inventory includes everything from raw materials to overhead costs used together to produce finished goods at a particular point in the production cycle. At the same time, work-in-process inventory in accounting is categorized as a current asset.
Is Work-in-process (WIP) a Form of Inventory?
Work-in-process inventory is included on the balance sheet as an asset, similar to raw materials and other merchandise. It’s more complex to determine the value of work-in-process stock than the value of finished goods since work-in-process inventory involves multiple moving items. Here are some terms you should be aware of before you begin calculating your work-in-process inventory:
Beginning work-in-process inventory cost
The beginning work-in-process inventory costs refer to the balance sheet’s previous period’s assets. You will have to determine the ending work-in-process inventory from the last period to get the price of beginning work-in-process merchandise. The cost of ending work-in-process stock is then carried forward as the opening or beginning figure of the new financial year.
Manufacturing costs
Manufacturing expenses include costs associated with manufacturing a finished product. Thus, manufacturing costs include raw materials, overhead, and labor costs. The more work-in-process inventory you pass through the production phase, the more raw material and labor costs you will incur, impacting the overall manufacturing cost. You can calculate the manufacturing costs with the below formula:
Manufacturing costs = raw materials + manufacturing overhead + direct labor costs
Cost of goods manufactured
The cost of goods manufactured (COGM) refers to the total price you have incurred on the production of final products. To calculate the value of your current work-in-process inventory, you must know the final COGM. To determine the value of the cost of manufactured goods, add the total manufacturing costs to your beginning work-in-process stock. You can then subtract the ending work-in-process inventory from the arrived figure. It will give you the cost of manufactured goods.
You can use the below formula to calculate COGM:
COGM = total manufacturing costs + beginning WIP inventory – ending WIP inventory
Calculating Work-in-process Inventory
You can calculate work-in-process inventory in several ways in accounting. Generally, you can calculate the amount of partially completed products in work-in-process (WIP) as a percentage of the company’s total labor, manufacturing, and overhead costs incurred. For example, a construction company can bill its customers depending on the varying stages of project completion. They can bill when a project is 25%, 50%, or 75% completed, and so on.
Why Is Accurate Work-in-process Accounting Important?
Here are the top benefits of accurate accounting of inventory:
Improved marketing
Accurate inventory accounting not only assists your business with future planning and budgeting but also helps your business understand whether its current marketing efforts are directed towards achieving the right goals.
Increased financial stability
Secondly, accurate inventory accounting can help your business create, maintain, and control your budgets. Furthermore, you will clearly understand how and when cash flows to and from your company. It can also help plan for additional cash reserves to enable your business to get through unexpected situations.
High quality and efficiency
Accurate inventory accounting can help you plan better for your business’s future and scalability. You can invest in technologies for higher quality, improved productivity, and enhanced efficiency with accurate accounting. Eventually, you are making decisions for significant investments in your company.
Timely and accurate inventory accounting can help your business better prepare to harness investment opportunities and avenues when they present themselves.
Prevention of fraud
When you closely follow your inventory accounting, you can quickly locate inconsistencies in your cash flow that might have arisen due to fraud, carelessness, or waste. Furthermore, you are looking at transactions that pass through the company’s bank account to its checkbook. Moreover, accurate inventory accounting allows you to compare different expenses and incomes flowing through your business.
Regardless of the business scale, fraud can adversely impact your business, and customers might lose trust in you. Furthermore, you would have to spend additional resources and time reassuring your clients and stakeholders of your viability.
Cost control
Every business requires specific resources to carry out its everyday operations effectively. When your business performs accurate inventory accounting, you have access to data records that can help in effective decision-making regarding all business aspects. Practical inventory accounting can improve your business operations, quick order fulfillment, adapt to a spike in customer demand, etc.
More security
A cloud-based inventory accounting software can keep all your data safe and do not risk losing all your financial data. You just have to log in from another device and have all your financial records and data safe.
Better financial management
An inventory accounting system can help your business create financial statements, taxation and tax management, income taxes, optimized solutions for cash flows, automated invoicing, and more.
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FAQs
When you keep track of your work-in-process inventory, it can have a significant impact on your business and its balance sheet. Work-in-process stock keeps changing based on the products, the cost of producing finished goods, and how to accurately calculate WIP inventory for accounting and financial purposes.
Work in process in manufacturing refers to the inventory on which the manufacturing process has begun. Furthermore, work-in-process inventory in manufacturing can no longer be included in raw materials. However, it is not a finished product either.
Auditors analyze the method you have used for quantifying the standard costs of a product, along with how you have allocated the cost concerning each stage of the production process.
You can record the amount of work-in-process inventory, raw materials, and finished goods as current assets on your business’s balance sheet.
Work-in-process inventory refers to all materials to be used in the production of finished goods. Thus, work-in-process stock includes raw materials, overhead costs, and human labor, waiting to be assembled, manufactured, and sold.