How Work-In-Progress (WIP) is valued largely depends on the systems and procedures that a business has in place.
What is 'Work-In-Progress'? by nettTracker
Commonly known as ‘WIP’, work-in-progress is the value of work that has been done that has either; not been invoiced to a customer, or within manufacturing, can reflect the value of a product in the ‘build’ stage that is not counted within ‘finish stock’.
How it is valued largely depends on the systems and procedures that a business has in place. First of all, let’s think about professional services like lawyers or architects. If time is being recorded, that time will have a value that can eventually be converted in to fees.
If we take a manufacturing company into consideration, calculating the value of work-in-progress can be a combination of raw materials (a ‘bill of materials required to build a product’), plus labour, and machinery costs incurred during the manufacturing process.
WIP is essentially another form of stock, whether this be physcial materials, or the value of time. A balance sheet account (like stock) is required for Work-In-Progress, and a profit and loss account (cost of sales/direct costs) will be needed for ‘Adjustments to work-in-progress’.
If the balance sheet currently reports a $0.00 value for WIP, but we have calculated there is a value of $10,000 at month-end, the accounting entries would be to Debit WIP on the balance sheet and Credit movements for WIP.
Depending on preference, the journal mentioned above will reverse in the next month to reset the WIP balance to $0.00, and the process will repeat at the end of the month. Alternatively, journals can be entered to approriately increase or decrease the current WIP balance as required.
Measuring WIP is important so that we can report an accurate and hopefully consistent gross margin in the profit and loss report. If a company incurs significant costs in one month to purchase materials and pay employees to build products that have a four-week ‘lead time’, it could be at least a month before stock is produced. It’s likely to be a further month before sales are made.
This is all part of the ‘matching concept’ discussed in a previous article. Accounting for WIP correctly removes the costs from the profit and loss and creates an asset in the balance sheet. It’s not until either goods are sold, or services invoiced, that the WIP cost incurred is then removed rom the balance sheet back to the profit and loss.
This ensures that the sales, and related costs are reflected in the same month, and an accruate gross profit margin is calculated as a result. Using nettTracker, a ‘Prepayment’ adjustment can be made to reflect the current WIP value.
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