Managerial Chap 002

McGraw-Hill /Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.

Chapter 2

Systems Design: Job-Order Costing

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Learning Objective 1

Distinguish between process costing and job-order costing and identify companies that

would use each costing method.

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Types of Product Costing Systems

ProcessCosting

Job-orderCosting

A company produces many units of a single A company produces many units of a single product. product.

One unit of product is indistinguishable One unit of product is indistinguishable from other units of product. from other units of product.

The identical nature of each unit of product The identical nature of each unit of product enables assigning the same average cost enables assigning the same average cost

per unit. per unit.

A company produces many units of a single A company produces many units of a single product. product.

One unit of product is indistinguishable One unit of product is indistinguishable from other units of product. from other units of product.

The identical nature of each unit of product The identical nature of each unit of product enables assigning the same average cost enables assigning the same average cost

per unit. per unit.

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ProcessCosting

Job-orderCosting

Example companies:Example companies:1. Weyerhaeuser (paper manufacturing)1. Weyerhaeuser (paper manufacturing)2. Reynolds Aluminum (refining aluminum ingots)2. Reynolds Aluminum (refining aluminum ingots)3. Coca-Cola (mixing and bottling beverages)3. Coca-Cola (mixing and bottling beverages)

Example companies:Example companies:1. Weyerhaeuser (paper manufacturing)1. Weyerhaeuser (paper manufacturing)2. Reynolds Aluminum (refining aluminum ingots)2. Reynolds Aluminum (refining aluminum ingots)3. Coca-Cola (mixing and bottling beverages)3. Coca-Cola (mixing and bottling beverages)

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ProcessCosting

Job-orderCosting

Many different products are produced each Many different products are produced each period. period.

Products are manufactured to order.Products are manufactured to order.

The unique nature of each order requires The unique nature of each order requires tracing or tracing or allocating costs to each job, and allocating costs to each job, and maintaining cost records for each job. maintaining cost records for each job.

Many different products are produced each Many different products are produced each period. period.

Products are manufactured to order.Products are manufactured to order.

The unique nature of each order requires The unique nature of each order requires tracing or tracing or allocating costs to each job, and allocating costs to each job, and maintaining cost records for each job. maintaining cost records for each job.

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ProcessCosting

Job-orderCosting

Example companies:Example companies:1. Boeing (aircraft manufacturing)1. Boeing (aircraft manufacturing)2. Bechtel International (large scale construction)2. Bechtel International (large scale construction)3. Walt Disney Studios (movie production)3. Walt Disney Studios (movie production)

Example companies:Example companies:1. Boeing (aircraft manufacturing)1. Boeing (aircraft manufacturing)2. Bechtel International (large scale construction)2. Bechtel International (large scale construction)3. Walt Disney Studios (movie production)3. Walt Disney Studios (movie production)

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Comparing Process and Job-Order Costing

Job-Order Process

Number of jobs worked Many Single Product

Cost accumulated byIndividual

Job Department

Average cost computed by Job Department

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Quick Check

Which of the following companies would be likely to use job-order costing rather than process costing?a. Scott Paper Company for Kleenex.b. Architects.c. Heinz for ketchup.d. Caterer for a wedding reception.e. Builder of commercial fishing vessels.


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Quick Check

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Manufacturing Overhead


Job No. 1Job No. 1

Job No. 2Job No. 2

Job No. 3Job No. 3

Charge Charge direct direct

material and material and direct labor direct labor

costs to costs to each job as each job as

work is work is performed.performed.

Charge Charge direct direct

material and material and direct labor direct labor

costs to costs to each job as each job as

work is work is performed.performed.

Job-Order Costing—An Overview

Direct MaterialsDirect Materials

Direct LaborDirect Labor

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Manufacturing Manufacturing Overhead, Overhead, including including indirect indirect

materialsmaterials and and indirect laborindirect labor, ,

are allocated to are allocated to jobs rather than jobs rather than directly traced directly traced to each job.to each job.

Manufacturing Manufacturing Overhead, Overhead, including including indirect indirect

materialsmaterials and and indirect laborindirect labor, ,

are allocated to are allocated to jobs rather than jobs rather than directly traced directly traced to each job.to each job.

Job-Order Costing—An Overview

Direct MaterialsDirect Materials

Direct LaborDirect Labor

Job No. 1Job No. 1

Job No. 2Job No. 2

Job No. 3Job No. 3Manufacturing Overhead


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Identify the documents used in a job-order costing system.

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Job Cost Sheet

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Materials Requisition Form

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Job Cost Sheet

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Employee Time Ticket

2-17

Job Cost Sheet

2-18

Application of Manufacturing Overhead

Manufacturing overhead is applied to jobs that Manufacturing overhead is applied to jobs that are in process. An allocation base, such as are in process. An allocation base, such as

direct labor hours, direct labor dollars, or direct labor hours, direct labor dollars, or machine hours, is used to assign machine hours, is used to assign

manufacturing overhead to individual jobs.manufacturing overhead to individual jobs.

Manufacturing overhead is applied to jobs that Manufacturing overhead is applied to jobs that are in process. An allocation base, such as are in process. An allocation base, such as

direct labor hours, direct labor dollars, or direct labor hours, direct labor dollars, or machine hours, is used to assign machine hours, is used to assign

manufacturing overhead to individual jobs.manufacturing overhead to individual jobs.

We use an allocation base because:

1. It is impossible or difficult to trace overhead costs to particular jobs.

2. Manufacturing overhead consists of many different items ranging from the grease used in machines to a production manager’s salary.

3. Many types of manufacturing overhead costs are fixed even though output fluctuates during the period.

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Compute predetermined overhead rates and explain why estimated

overhead costs (rather than actual overhead costs) are used in the

costing process.

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The predetermined overhead rate (POHR) used to apply overhead to jobs is determined before the period begins.


Estimated total manufacturingoverhead cost for the coming period

Estimated total units in theallocation base for the coming period

POHR =

Ideally, the allocation base is a cost driver that causes

overhead.

Ideally, the allocation base is a cost driver that causes

overhead.

2-21

Using a predetermined overhead rate (POHR)

makes it possible to estimate total job costs sooner.

Actual overhead for the period is notknown until sometime after the period has ended. Actual overhead costs can fluctuate seasonally,

thus misleading decision makers. It simplifies record keeping.


$

2-22

Actual amount of the allocation based upon the actual level of activity (this is called a normal

costing system).

Actual amount of the allocation based upon the actual level of activity (this is called a normal

costing system).

Based on estimates, and determined before the

period begins.

Based on estimates, and determined before the

period begins.


Overhead applied = POHR × Actual activity

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For each direct labor hour worked on a particular job, $4.00 of factory overhead

will be applied to that job.

For each direct labor hour worked on a particular job, $4.00 of factory overhead

will be applied to that job.


POHR = $4.00 per DLH

$640,000

160,000 direct labor hours (DLH)POHR =

Estimated total manufacturingoverhead cost for the coming period

Estimated total units in theallocation base for the coming period

POHR =

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2-25

Completing the Job Cost Sheet

2-26

Interpreting the Average Unit Cost

The average unit cost should not be interpretedas the costs that would actually be incurred if an

additional unit were produced.

Fixed overhead would not change if another unitwere produced, so the incremental cost of

another unit may be somewhat less than $118.

The average unit cost should not be interpretedas the costs that would actually be incurred if an

additional unit were produced.

Fixed overhead would not change if another unitwere produced, so the incremental cost of

another unit may be somewhat less than $118.

2-27

Quick Check

Job WR53 at NW Fab, Inc. required $200 of direct materials and 10 direct labor hours at $15 per hour. Estimated total overhead for the year was $760,000 and estimated direct labor hours were 20,000. What would be recorded as the cost of job WR53?

a. $200.

b. $350.

c. $380.

d. $730.


a. $200.

b. $350.

c. $380.

d. $730.

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a. $200.

b. $350.

c. $380.

d. $730.


a. $200.

b. $350.

c. $380.

d. $730.

Quick Check

2-29

Let’s summarize the document flow

in a job-order costing system.

Job-Order CostingDocument Flow Summary

2-30Job-Order CostingDocument Flow Summary

A sales order is the A sales order is the basis of issuing a basis of issuing a production order. production order.

A sales order is the A sales order is the basis of issuing a basis of issuing a production order. production order.

A production A production order initiates order initiates work on a job.work on a job.

A production A production order initiates order initiates work on a job.work on a job.


Job Cost Sheets

Job Cost Sheets

MaterialsRequisition


Manufacturing Overhead Account


Direct materials

Indirect materials

Materials usedMaterials usedmay be eithermay be either

direct ordirect orindirect.indirect.

Materials usedMaterials usedmay be eithermay be either

direct ordirect orindirect.indirect.


Job Cost Sheets

Job Cost Sheets





An employee’stime may be eitherdirect or indirect.

An employee’stime may be eitherdirect or indirect.

Direct Labor

Indirect Labor




OtherActual OHCharges

OtherActual OHCharges

Job Cost Sheets

Job Cost Sheets

AppliedOverhead



EmployeeTime Ticket

EmployeeTime Ticket

IndirectMaterial

IndirectLabor

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Prepare journal entries to record costs in a job-order costing

system.

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Use T-accounts to show the flow of costs in a job-order costing

system.

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Job-Order Costing—The Flow of Costs

Let’s examine the transactions in T-account and journal entry forms in a job-

order costing system.

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Raw MaterialsMaterial

Purchases

Mfg. Overhead

Work in Process(Job Cost Sheet)

Actual Applied

Direct Materials Direct

Materials

Indirect Materials

Indirect Materials

Summary of Cost Flows

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Journal Entry – Material Purchases

Raw material purchases are recorded in an inventory account.

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Journal Entry – Material Usage

Direct materials issued to a job increase Work in Process and decrease Raw Materials.

Indirect materials used are charged to Manufacturing Overhead and decrease Raw

Materials.

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Mfg. Overhead

Salaries and Wages Payable


Direct

Materials

Direct Labor

Direct Labor

IndirectLabor

Indirect Materials

Actual Applied

IndirectLabor


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Journal Entry – Labor Costs

The cost of direct labor incurred increases Work in Process and the

cost of indirect labor increases Manufacturing Overhead.

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Mfg. Overhead

Indirect Materials

Actual Applied

IndirectLabor


OtherOverhead

In addition to indirect materials and indirect

labor, other actual manufacturing

overhead costs are debited to the Manufacturing

Overhead account.

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Journal Entry – Actual Overhead

In addition to indirect materials and indirect labor, other manufacturing overhead costs are charged to the Manufacturing Overhead

accountas they are incurred.

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Apply overhead cost to Work in Process using a

predetermined overhead rate.

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Mfg. OverheadWork in Process(Job Cost Sheet)

Direct

Materials

Overhead Applied

OverheadApplied to

Work inProcess

Direct Labor

Indirect Materials

Actual Applied

If actual and applied manufacturing overheadare not equal, a year-end adjustment is

required.

If actual and applied manufacturing overheadare not equal, a year-end adjustment is

required.

IndirectLabor

Summary of Manufacturing Overhead Cost Flows

OtherOverhead

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Journal Entry – Overhead Applied

Work in Process is increasedwhen Manufacturing Overhead

is applied to jobs.

2-47Accounting for Nonmanufacturing Costs

Nonmanufacturing costs are not assigned to individual jobs, rather they are expensed in the period incurred.

Income Statement

Expense nonmanufacturing costs as incurred.

2-48Journal Entry – Accounting for Nonmanufacturing Costs

Nonmanufacturing Cost Examples:Nonmanufacturing Cost Examples:1.1. Salary expense of employeesSalary expense of employees

that work in a marketing, selling,that work in a marketing, selling,or administrative capacity.or administrative capacity.

2.2. Advertising expenses are expensedAdvertising expenses are expensedin the period incurred.in the period incurred.

Nonmanufacturing Cost Examples:Nonmanufacturing Cost Examples:1.1. Salary expense of employeesSalary expense of employees

that work in a marketing, selling,that work in a marketing, selling,or administrative capacity.or administrative capacity.

2.2. Advertising expenses are expensedAdvertising expenses are expensedin the period incurred.in the period incurred.

2-49

Finished Goods

Cost ofGoodsMfd.

Cost ofGoodsMfd.


Direct

MaterialsDirect Labor

Overhead Applied

Summary of Goods Manufactured Cost Flows

2-50Journal Entry – Cost of Goods Manufactured

As jobs are completed, the Cost of Goods Manufactured is transferred to

Finished Goods from Work in Process.

2-51


Prepare schedules of cost of goods manufactured and cost

of goods sold.

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Finished Goods

Cost of Goods Sold


Direct

MaterialsDirect Labor

Overhead Applied

Cost ofGoodsMfd.

Cost ofGoodsMfd.

Cost ofGoodsSold

Cost ofGoodsSold

Summary of Job-Order System Cost Flows

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Journal Entry – Sales

When finished goods are sold, two entries are required: (1) to record the sale, and (2) to record COGS and reduce Finished Goods.

2-54


Compute underapplied or overapplied overhead cost and

prepare the journal entry to close the balance in Manufacturing Overhead to the appropriate

accounts.

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Defining Under- and Overapplied Overhead

The difference between the overhead cost applied to Work in Process and the actual overhead costs of a period is termed either

underapplied or overapplied overhead.

Underapplied overhead exists when the amount of overhead applied to jobs

during the period using the predetermined overhead rate is less than the total

amount of overhead actually incurred during the period.

Underapplied overhead exists when the amount of overhead applied to jobs

during the period using the predetermined overhead rate is less than the total

amount of overhead actually incurred during the period.

Overapplied overheadOverapplied overhead exists when the amount of exists when the amount of overhead applied to jobs overhead applied to jobs

during the period using the during the period using the predetermined overhead predetermined overhead

rate is rate is greater thangreater than the total the total amount of overhead actually amount of overhead actually incurred during the period.incurred during the period.

Overapplied overheadOverapplied overhead exists when the amount of exists when the amount of overhead applied to jobs overhead applied to jobs

during the period using the during the period using the predetermined overhead predetermined overhead

rate is rate is greater thangreater than the total the total amount of overhead actually amount of overhead actually incurred during the period.incurred during the period.

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PearCo’s PearCo’s actual overheadactual overhead for the year was for the year was $650,000$650,000 with a total of with a total of 170,000170,000 direct direct

labor hours worked on jobs.labor hours worked on jobs.

How much total overhead was applied to How much total overhead was applied to PearCo’s jobs during the year? Use PearCo’s jobs during the year? Use

PearCo’s predetermined overhead rate of PearCo’s predetermined overhead rate of $4.00 per direct labor hour. $4.00 per direct labor hour.





Overhead Application Example

Overhead Applied During the PeriodApplied Overhead = POHR × Actual Direct Labor Hours

Applied Overhead = $4.00 per DLH × 170,000 DLH = $680,000

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Overhead Applied During the PeriodApplied Overhead = POHR × Actual Direct Labor Hours

Applied Overhead = $4.00 per DLH × 170,000 DLH = $680,000









Overhead Application Example

PearCo has overappliedoverhead for the yearby $30,000. What will

PearCo do?

PearCo has overappliedoverhead for the yearby $30,000. What will

PearCo do?

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Quick Check

Tiger, Inc. had actual manufacturing overhead costs of $1,210,000 and a predetermined overhead rate of $4.00 per machine hour. Tiger, Inc. worked 290,000 machine hours during the period. What is Tiger’s over- or underapplied overhead?

a. $50,000 overapplied.

b. $50,000 underapplied.

c. $60,000 overapplied.

d. $60,000 underapplied.






2-59

Quick Check











Actual 1,210,000 1,160,000 AppliedUnderapplied 50,000


Applied Overhead$4.00 × 290,000 hours = $1,160,000

2-60Disposition of Under- or Overapplied Overhead

PearCo’sMfg. Overhead

Actualoverhead

costs

$650,000$30,000

overapplied

Overhead appliedto jobs

$680,000

PearCo’s Costof Goods Sold

Unadjusted Balance

AdjustedBalance

$30,000

$30,000

2-61

Quick Check

What effect will the adjustment of the overapplied overhead have on PearCo’s net operating income?

a. Net operating income will increase.

b. Net operating income will be unaffected.

c. Net operating income will decrease.





2-62









Quick Check

2-63Multiple Predetermined Overhead Rates

To this point, we have assumed that there is a To this point, we have assumed that there is a single predetermined overhead rate called a single predetermined overhead rate called a

plantwide overhead rate.plantwide overhead rate.

To this point, we have assumed that there is a To this point, we have assumed that there is a single predetermined overhead rate called a single predetermined overhead rate called a

plantwide overhead rate.plantwide overhead rate.

Large companies Large companies often use multiple often use multiple

predetermined predetermined overhead rates.overhead rates.

Large companies Large companies often use multiple often use multiple

predetermined predetermined overhead rates.overhead rates.

May be more May be more complex but . . .complex but . . .

May be more May be more complex but . . .complex but . . .

May be more accurate because it reflects differences

across departments.

May be more accurate because it reflects differences

across departments.

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Job-Order Costing in Service Companies

Job-order costing is used in many Job-order costing is used in many difference types of service companies.difference types of service companies.

Job-order costing is used in many Job-order costing is used in many difference types of service companies.difference types of service companies.

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End of Chapter 2

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