Work-in-Progress (WIP): its Definition and Functionalities

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The production process requires completing several stages. One of these stages is called Work-in-Progress (WIP). WIP is a middle stage that comes before the final product is ready. In Kanban, which we discussed earlier as part of the Just-in-Time (JIT) concept, limiting the amount of WIP is essential.

By setting a maximum number of items allowed in each stage of WIP, companies can ensure that they can handle their workload effectively. Now, let’s take a closer look at what WIP means, how it works, and provide some examples to understand it better.

What is Work-in-Progress (WIP)?

In production and supply chain management, “Work-in-Progress” (WIP) refers to unfinished work that is still in progress. The WIP figure shows the value of products at different stages of production. However, it is essential to note that the calculation does not consider the worth of unused raw materials.

Work-in-progress includes raw materials, labor, and overhead expenses for products in various production stages. It is part of the inventory asset account on the balance sheet. These costs are then moved to the finished goods account and eventually to the cost of sales.

Why is it essential to reduce WIP?

Reducing the number of items in production units will simplify accounting procedures and offer several other benefits for companies. These reasons include the following:

Reducing WIP reduces clutter in the production area, preventing the accumulation of defective products and lowering inventory costs.
Most lenders cannot accept work in progress as loan collateral because selling partially completed inventory items becomes challenging if the borrower defaults on payment.

Understanding how WIP works

In the production process, there are three main types of inventory and stages:

Raw materials: These are the supplies needed to make a product. The specific materials can vary depending on the project.
Work-in-Progress: This stage involves turning the raw materials into finished products.
Finished goods: These products have completed the inventory process and are ready to be sold immediately.

Three inventory items are categorized based on the product’s completion. Work-in-Progress (WIP) is listed separately when a company prepares its balance sheet. If the amount is minimal, the company can combine it into a single line item.

In accounting, WIP is a type of inventory companies see as a current asset. Companies and accountants work hard to keep WIP inventories low as reporting period gets close. They do this because it can be challenging to determine the exact costs of WIP items.

Companies have different ways to solve the problem. Here are two options:

Finish making all the items in progress and move them to the finished goods before closing the books.
Decide on an average completion percentage for all the items in progress. But remember that when you average the results from multiple units, the final number may be an estimate. Also, factors like spoilage or waste can make the calculation less accurate.

Calculating Work-in-Progress (WIP)

Accountants use different methods to determine how many units are still in manufacturing. They usually look at the percentage of money spent on overhead, labor, and materials to determine the number of items still being worked on.

The first costs incurred are usually for raw materials because you need materials before you can start using labor. Organizations typically keep track of the total cost of raw materials in a work account ledger.

The following is a rough calculation to estimate the amount of work in progress:

Initial WIP + production costs – goods production costs = Result WIP

Companies typically rely on a percentage of their total overhead, labor, and materials costs to calculate the number of partial products or jobs in progress. For instance, a construction company charges its clients based on the project’s progress. This charge could be a fixed percentage, like 25% or 50% upon completion.

Work-in-Progress vs. Work-in-Process

Work-in-Process is a term used for goods that are not yet fully finished. They are also called goods-in-process. Work-in-Process usually refers to products that don’t take long to go from raw materials to the final product. Examples of Work-in-Process are things like manufactured goods.

On the other hand, Work-in-Progress refers to assets that take much time to complete, like consulting or construction projects. There are some differences between these two terms:

Aspect	*Work-in-Process*	*Work-in-Progress*
Scope of work	There are repetitive steps and smaller production quantities, but more frequently	Represents a large job that was done once and took a long time
Industry	Many found in the manufacturing industry	Usually found in the construction industry
Financial statements	Included on short-term asset items	Included on long-term asset items
Asset liquidity	Easier to liquidate	More difficult to liquidate

However, this distinction is not the norm. Both terms can refer to an unfinished product.

Work-in-Progress vs. finished goods

The stage of completion and marketability of inventories distinguishes WIP and finished goods. WIP represents materials in the process of being developed or assembled into a final product.

On the other hand, finished goods are at the last stage of inventory, indicating that product development is complete and ready for sale to customers. WIP and finished goods signify the intermediate and final stages of the inventory life cycle, respectively.

Typically, what one company considers finished goods may be regarded as semi-finished goods by another. Each company has its criteria to classify items as WIP or finished goods. The difference between work-in-progress (WIP) and finished goods is determined by how much of the completed inventory.

Examples of Work-in-Progress (WIP)

Using a tire manufacturing company as an example of work-in-progress

Let’s look at the production process of a tire manufacturing company as an example of Work-in-Progress (WIP):

First, the company brings the required raw rubber materials to the warehouse or production unit.
When operating the molding equipment, the company faces labor costs.
As the tires move through the production process, the company records all the costs accumulated up to that stage on the work-in-process balance line.
After completing the production of the tires, the company transfers the costs to the finished goods line.
When the company sells the tires, it shifts the expenses incurred from inventory to the Cost of Goods Sold (COGS) balance line.

Summary

Work-in-Progress (WIP) is unfinished work that still needs to be completed. It includes costs for things like overhead, labor, and materials. The fewer WIPs there are, the more efficient the company’s production and accounting processes will be.

Once you grasp the concept of Work-in-Progress, the next chapter will

Impact Insight Team

Impact Insights Team is a group of professionals comprising individuals with expertise and experience in various aspects of business. Together, we are committed to providing in-depth insights and valuable understanding on a variety of business-related topics & industry trends to help companies achieve their goals.