Updated July 19, 2023
Introduction of WIP Inventory
Work-in-progress (WIP) is the goods that are currently in the process of production (i.e.) in the intermediate stage of production in between raw materials and finished goods. The next step to WIP is the finished goods. WIP consists of the cost of raw materials, labor, and production overheads with respect to the level of completion.
Based on the company’s policy, inventory must be valued at frequent intervals like biweekly, month-end, quarterly, etc. All goods will not be in a fully completed stage as of the cut-off date of valuation, as manufacturing is an ongoing process. So, the concept of WIP arises in the manufacturing process, and the same needs to be valued and reported under inventory. The concept of WIP arises in industries like manufacturing, construction, consultancy, etc.
The Formula for WIP Inventory
- Raw Materials: These include materials directly utilized in the process of production.
- Labor Cost: The cost of labor in production encompasses the wages or salaries paid to workers and staff who are directly involved in the manufacturing or production process.
- Overheads include the cost of indirect materials, indirect labor, and other overheads directly linked to the production process.
Examples of WIP Inventory
Following are the examples are given below:
Example #1
Y Corp is the business line of producing toys. It has an opening Work-in-progress inventory of $10,000. During the production period, the company incurs the raw material cost of $25,000 used in production, the Labour cost of $5,000, and another manufacturing cost of $10,000. At the end of the period, the finished goods produced are valued at $35,000.
The Closing Work-in-progress inventory is as follows:
Closing WIP Inventory = Opening WIP Inventory + Total manufacturing cost – Cost of goods manufactured (Finished goods)
- Closing WIP Inventory = $10,000 (+) $25,000 (+) $5,000 (+) $10,000 (-) $35,000
- Closing WIP Inventory = $15,000
Example #2
Zelon Group is in the business of manufacturing cars. It launched a new brand of car called Zen+. It does not have any unfinished cars at the beginning of the period. In the current period, it incurs the following cost:
- Raw materials cost (Car parts) – $500,000
- Labor cost – $1,000 per month per labor. Totally 5 laborers are involved in this manufacturing section.
- Other Manufacturing Costs and overheads per month are $5,000.
- Zelon group finally produced 8 cars at the end of the period, valued at $168,000.
The remaining 2 Zen+ cars are in the WIP stage, valued at $42,000. ($200,000+$5,000+$5,000-$168,000)
Advantages of WIP Inventory
- Work-in-progress (WIP) inventory is in the process to become finished goods; it helps in earlier conversion to the finished goods and improves the turnaround cycle.
- It helps meet the demand for the product as it contributes to a better production cycle.
- Tracking WIP helps in understanding the production process, as higher WIP indicates there can be some bottlenecks in the production process, and there is no smooth flow of the process. It helps in identifying and resolving such issues.
Disadvantages of WIP Inventory
- Valuation of WIP inventory is a little complicated as we need to understand the progress and process at which the inventory stands. (i.e.) upto what level of completion, and the costing involved in the same as of the cutoff date.
- Production of goods is driven by the existing demands in order to meet customer needs and fulfill market requirements. However, continuous production may lead to excess inventory accumulation.
- Tracking inventory and insuring the same comes with some additional costs to the business.
Conclusion
Work-in-progress is an important element in inventory valuation. It forms part of the company’s balance sheet, along with raw materials and finished goods. Management tries to keep as low as possible, as there is no market for unfinished goods, and moreoverWIP tracking helps monitor production schedules and processes. Keeping inventory at a minimal level as per requirement helps in reducing the investment of the company. The production or the business manager must monitor the WIP constantly to allocate appropriate costs and for proper valuation of inventory.
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This is a guide to WIP Inventory. Here we also discuss the introduction, examples and advantages and disadvantages. You may also have a look at the following articles to learn more –
