Cost Accumulation for Job-Shop and Batch Production Operations

1. Cost Accumulation for Job-Shop and Batch Production Operations Chapter 3

2. Product-costing systems Operation costing Process costing Job order costing • Homogeneous units • Relatively low unit value • Not feasible to trace costs to individual units • Accumulated by process and time period • Large batches of similar units • Different materials, common operations • Materials accumulated by job, conversion costs by process • Distinct units or batches • Relatively high unit value • Ability to trace direct costs • Often priced differently • Accumulated by job

3. Job order costing • Useful for • Managing the costs of current jobs • Determining inventory costs • Providing data to predict future costs • Identifying likely profitable or unprofitable jobs

4. Tracking costs • Job cost sheets • Record costs of individual jobs • Materials • Labor • Overhead • Act as subsidiary ledger for work in process, finished goods inventories

5. Tracking costs • Materials • Raw materials inventory includes both direct and indirect materials • Purchases of either are debited to raw materials • Direct materials charged to individual jobs (work in process inventory) • Indirect materials charged to overhead account

6. Tracking costs • Material purchases Raw materials inventory 4,000 Accounts payable 4,000 • Material requisitions Work in process inventory 3,650 Overhead 600 Raw materials inventory 4,250

7. Tracking costs • Labor • Direct labor charged to individual jobs (work in process inventory) • Indirect labor charged to overhead account Work in process inventory 2,750 Overhead 1,050 Wages payable 3,800

8. Tracking costs • Overhead • Accumulated in overhead account • No expenses (debit overhead) • Credits are unchanged • Charged to individual jobs (work in process inventory) based on a predetermined rate • Smoothes (normalizes) the erratic nature of overhead costs

9. Tracking costs • Incurrence of overhead costs Overhead 6,100 Cash 3,000 Prepaid rent 1,000 Accumulated depreciation 1,250 Accounts payable 850 • Application of overhead to jobs Work in process inventory 6,875 Overhead 6,875

10. Tracking costs • Completion of jobs • Accumulated costs moved from work in process inventory to finished goods inventory Finished goods inventory 11,975 Work in process inventory 11,975

11. Tracking costs • Sale of jobs • Sale is recorded at selling price • Cost of job is transferred from finished goods inventory to cost of goods sold Accounts receivable 9,000 Sales 9,000 Cost of goods sold 7,675 Finished goods inventory 7,675

12. Using predetermined overhead rates • Advantages of using predetermined rates • Timeliness over accuracy • Cannot wait to determine actual overhead • Need to estimate job costs • Normalizes the amount applied to various jobs • Overhead does not occur evenly throughout the year

13. Using predetermined overhead rates • Setting the rate • Determine costs to be included • Estimate the amount of the costs • Select appropriate cost driver(s) (base) • Some measure that is highly correlated to the costs • Estimate the amount of the cost driver • Theoretical? Practical? Normal? Expected? • Calculate the rate • Estimated cost / estimated driver

14. Using predetermined overhead rates • Actual vs. applied overhead • Applied overhead seldom equals actual • Estimates of cost and/or driver are seldom accurate • If actual exceeds applied • Underapplied overhead • Jobs are under-costed • If applied exceeds actual • Overapplied overhead • Jobs are over-costed

15. Using predetermined overhead rates • Disposition of variance • Prorate to work in process, finished goods, cost of goods sold • All are either over- or under-costed as a result of the inaccurate predetermined rate • Prorate based on the relative ending balances of the three accounts • Close to cost of goods sold • That’s where all overhead eventually ends up • Appropriate if there is little or no work in process or finished goods

16. Using predetermined overhead rates • Disposition of the variance • Overhead is underapplied by $875 • If prorated Work in process inventory 236 Finished goods inventory 228 Cost of goods sold 411 Overhead 875

17. Using predetermined overhead rates • Disposition of the variance • If closed to cost of goods sold Cost of goods sold 875 Overhead 875 • In either method, closing the underapplied overhead increases the cost in the target accounts and closes the overhead account

18. Actual, normal and standard costing • Actual costing • Accumulates actual material, labor and overhead costs for jobs • Impractical • Must wait until actual overhead costs are known • Overhead may occur unevenly during the year • How to determine cost (and selling price) for jobs completed early in the year?

19. Actual, normal and standard costing • Normal costing • Accumulates actual material and labor cost for jobs and allocates overhead based on a predetermined rate • Provides more timely information than actual costing • Less accurate

20. Actual, normal and standard costing • Standard costing • Accumulates predetermined amounts for materials, labor and overhead • How much SHOULD be consumed? • Provides a control and evaluation mechanism • Compare standard amounts to actual amounts