Strategic Product Costing Systems in Job Order Costing

2. Chapter 4 Job Order Costing

3. Learning Objectives • Explain the types of costing systems • Explain the strategic role of product costing • Explain the flow of costs in a job costing system • Explain the application of factory overhead costs in a job costing system

4. Learning Objectives • Calculate underapplied and overapplied overhead and show how to dispose of it at the end of the period • Apply job costing in service industries • Explain an operation costing system

5. Product costing Product costing is the process of accumulating, classifying, and assigning direct materials, direct labor, and factory overhead costs to products or services

6. Learning Objective One Explain the types of costing systems

7. Product Costing Systems • Several different product costing systems are available, including • Cost accumulation method (job or process costing systems) • Cost measurement method (actual, normal, or standard costing systems) • Overhead assignment method (traditional or activity-based costing systems)

8. Product Costing Systems • The choice of a particular system depends on the: • nature of the industry and the product or service • firm’s strategy and management information needs • costs and benefits of acquiring, designing, modifying, and operating a particular system

9. Cost Accumulation Method • A job costing system is appropriate in any environment in which costs can be readily identified with specific products, batches, contracts, or customers • A process costing system is usually used by firms having homogeneous products

10. Job Costing • Printing shops • Ship-builders • Custom furniture manufacturers • Contractors • Film-producing companies • Accounting and law firms • Advertising agencies • Medical clinics

11. Process Costing • Chemical plants • Food processors • Household appliancemanufacturers • Textile companies • Petroleum productsmanufacturers • Paper • Lumber and pulp mills • Glass factories

12. Cost Measurement Method • Costs in either a job or process costing system can be measured in their actual, normal, or standard amount • Actual – uses actual costs incurred for all product costs • Normal – used actual costs for direct materials and labor and normal costs for factory overhead • Standard – uses standard costs for all three types of product costs

13. Cost Measurement Systems

14. Overhead Assignment Method • Traditional product costing systems allocate overhead to products or jobs using a volume-based cost driver (such as units produced) • Activity-based costing (ABC) systems allocate factory overhead costs to products using cause-and-effect criteria with multiple cost drivers • ABC systems use both volume-based and nonvolume-based cost drivers

15. Learning Objective Two Explain the strategic role of product costing

16. The Strategic Role of Product Costing • Effective management of manufacturing costs requires timely and accurate cost information • Getting timely and accurate information requires that the firm choose a cost system that is a good match for its competitive strategy • To provide meaningful information, a product costing system must keep up with the constantly changing manufacturing environment

17. The Strategic Role of Product Costing • An important strategic issue (and a potential ethical issue) for product costing involves the decisions the firm makes about the basis for allocating overhead costs • When manufacturing cost-plus products, managers can be tempted to overcost them by choosing an allocation basis that achieves the desired result

18. Learning Objective Three Explain the flow of costs in a job costing system

19. Job Costing • Job costing is a product costing system that accumulates costs and assigns them to a specific job • A job cost sheet records and summarizes the costs of direct materials, direct labor, and factory overhead for a particular job • All costs are recorded on the sheet as materials and labor are added

20. Job Costing • All costs shown in the job cost sheet are recorded in the Work-in-Process Inventory account • A material requisition form is a source document that the production department supervisor uses to request materials for production • A time ticket shows the time an employee worked on each job, the pay rate, and the total cost chargeable to each job

21. Job Costing Insert Exhibit 4.4 (Materials Requisition Form) Here

22. Job Costing Insert Exhibit 4.6 (Time Ticket) Here

23. Flow of Costs Charge direct materials costs to each job as the materials are used. Direct Materials Job No. 1 Direct Labor Job No. 2 Factory Overhead Job No. 3

24. Flow of Costs Direct Materials Charge direct labor costs to each job as the work is performed. Job No. 1 Direct Labor Job No. 2 Factory Overhead Job No. 3

25. Direct Materials • Direct Materials • Indirect Materials • Indirect Materials Flow of Costs Materials Inventory Work-in-ProcessInventory(Job Cost Sheet) • Materials • Purchases Factory Overhead

26. Direct Labor • Indirect Labor • Direct Labor • Overhead Applied • OverheadApplied to Work inProcess • Indirect Labor Flow of Costs Work-in-ProcessInventory(Job Cost Sheet) Accrued Payroll • Direct Materials Factory Overhead • Indirect Materials If actual and applied factory overhead are not equal, a year-end adjustment is required.

27. Cost ofGoodsSold • Cost ofGoodsMfd. • Cost ofGoodsMfd. • Cost ofGoodsSold Flow of Costs Finished GoodsInventory Work-in-ProcessInventory(Job Cost Sheet) • Direct Materials • Direct Labor • Overhead Applied Cost of Goods Sold

28. Learning Objective Four Explain the application of factory overhead costs in a job costing system

29. Application of Factory Overhead • To apply overhead cost to each job, normal costing requires a per product rate, which is often called a predetermined rate (since it is calculated at the beginning of the accounting period) • The predetermined factory overhead rate is an estimated factory overhead rate used to apply factory overhead cost to a specific job

30. Application of Factory Overhead Predetermined overhead rates are established using a four-step approach: • Determine the budgeted factory overhead costs for the period • Select the appropriate cost driver(s) • Estimate the total amount of the chosen cost driver(s) for the period • Compute the predetermined overhead rate by dividing the results of step 1 by the results of step 3

31. Budgeted factory overheadamount for the year POHR = Expected level of costdriver for the year Application of Factory Overhead The predetermined overhead rate (POHR) used to apply overhead to jobs is determined before the period begins. 1. direct labor hours 2. machine hours 3. number of set-ups 4. number of orders 5. manufacturing cycle time

32. Budgeted factory overheadamount for the year POHR = Expected level of costdriver for the year Based onestimates, and determined before the period begins Actualamount of the allocation base, such as direct labor hours, incurred during the period Application of Factory Overhead The predetermined overhead rate (POHR) used to apply overhead to jobs is determined before the period begins. Overhead applied = POHR × Actual activity

33. Factory OverheadApplied • Factory overhead applied is the amount of overhead assigned to a specific job using a predetermined factory overhead rate • Overapplied overhead is the amount of factory overhead applied that exceeds actual factory overhead cost • Underapplied overhead is the amount by which actual factory overhead exceeds factory overhead applied

34. Learning Objective Five Calculate underapplied and overapplied overhead and show how to dispose of it at the end of the period

35. Disposition of Factory Overhead • Underapplied or overapplied overhead can be disposed of in two ways: • Adjust the Cost of Goods Sold account • Adjust the production costs of the period • When the amount of underapplied or overapplied overhead is not significant, it generally is adjusted to Cost of Goods sold • If the amount is significant, it is often prorated

36. Disposition of Factory Overhead • Proration is the process of allocating underapplied or overapplied overhead to Work-in-Process Inventory, Finished Goods Inventory, and Cost of Goods Sold accounts • The proration of the difference is based on the current period’s applied overhead in the cost of goods sold and ending inventories of the accounts

37. Disposition of Factory Overhead • To determine the ratios for the proration, compute the sum of the applied overhead in the cost of goods sold and ending inventories of the accounts • The ratio of each of the components to this sum is the amount of the underapplied or overapplied overhead that should be prorated to the cost of the component

38. Learning Objective Six Apply job costing in service industries

39. Job Costing in Service Industries • Job costing in service industries uses recording procedures and accounts similar to those in manufacturing except for direct materials involved • In service industries, the primary focus is on direct labor • The overhead costs are usually applied to jobs based on direct labor-hours or dollars

40. Job Costing in Service Industries Insert Exhibit 4.10 (Job Costing for Freed and Swenson Law Firm) Here

41. Learning Objective Seven Explain an operation costing system

42. Operation Costing • Operation costing is a hybrid costing system that uses job costing to assign direct materials costs and process costing to assign conversion costs to products or services • Industries suitable for applying operation costing include clothing, food processing, textiles, shoes, furniture, metalworking, jewelry, and electronic equipment

43. End of Chapter Four