1 PowerPoint Presentation by Douglas Cloud Professor Emeritus of Accounting Pepperdine University © Copyright 2005 South-Western, a division of Thomson Learning. All rights reserved. Task Force Image Gallery clip art included in this electronic presentation is used with the permission of NVTech Inc. Producing Goods and Services: Batch Processing Chapter M3

2 Objective 1 Explain the importance of unit costs to managerial decision-making. Once you have completed this chapter, you should be able to:

3 Unit costs play an important role in the strategic and operational decisions of marketing and operating managers. The Importance of Unit Costs

4 Unit costs assist in determining whether to market a high-priced specialty product, or a low-priced commodity. The Importance of Unit Costs

5 Raw Material Overhead The Importance of Unit Costs Direct Labor

6 Finished Goods Cost of Goods Sold Unit cost = Total manufacturing cost for a period ÷ Number of units produced in that period The Importance of Unit Costs

7 Managers use product cost information to answer questions such as:  How should we price a particular product? (Product pricing)  Should we continue to offer a particular product? (Market strategy and product life cycle)  What is the best way to allocate our limited production resources? (Allocating resources)  On which product should marketing focus its efforts to maximize profits? (Unit profit margin)

8 Product Pricing Choosing the right selling price for its products is extremely important to the success of a company.

9 Product Pricing Knowing the cost to make a product is very important when there is no competitive market for a product.

10 Marketing Strategy Some companies choose to compete by marketing their products at a low price.  Hyundai offers cars priced far below those offered by Mercedes.  Timex offers watches at prices far below Rolex.

11 Product Life Cycle  Growth—A company introduces a new product; then the company builds a market share in anticipation of future profits.  Hold—The company focuses on holding the market share of the mature product.  Harvest—The company maximizes the available returns as the sales of the product fall.  Divest—When profits are no longer adequate, the company eliminates the product.

12 Product Life Cycle Exhibit 1

13 Market share is that portion of sales captured by a particular product relative to total sales of all similar products. Product Life Cycle

14 Unit costs help managers decide how to allocate limited production and marketing resources. Allocating Resources

15 Unit profit margin is the difference between the selling price per unit of a product and the unit cost. Unit Profit Margin

16 Objective 2 Apply overhead costs to products using a predetermined overhead rate. Once you have completed this chapter, you should be able to:

17 Measuring Cost Actual costing measures product costs based on the actual costs of direct materials, direct labor, and overhead incurred in producing the product. Normal costing measures product costs by adding the actual costs of direct materials and direct labor to an estimated overhead cost incurred in producing the product.

18 Actual Versus Normal Costing Unit Cost Unit Cost Actual Overhead Costs Actual Costing Actual direct materials costs Actual direct labor cost

19 Actual Versus Normal Costing Unit Cost Unit Cost Normal Costing Actual direct materials costs Actual direct labor cost

20 Measuring Cost A predetermined overhead rate is an estimate of the amount of overhead assigned to a product for each unit of activity. An activity base is a production activity or a measure of the cost of production activity.

21 Iron Mountain Gear (IMG) makes backpacks for outdoor enthusiasts. IMG uses normal costing to measure product costs.

22 Predetermined overhead rate = Estimated overhead costs Estimated activity base Predetermined overhead rate = $250,000 5,000 direct labor hours Predetermined overhead rate = $50 per direct labor hour Iron Mountain Gear

23 Inventory Raw Materials Work-in-Process Finished Goods Beginning balances Exhibit 2 Iron Mountain Gear $10,000$40,000$15,000

24 Inventory Raw Materials Work-in-Process Finished Goods (a) IMG purchased $50,000 of raw materials. Iron Mountain Gear $10,000$40,000$15, ,000 (a) Exhibit 2

25 Inventory Raw Materials Work-in-Process Finished Goods (b)Raw materials costing $28,000 are transferred to work in process. Iron Mountain Gear $10,000$40,000$15, ,000 (a) –28,000 (b)+28,000(b) Exhibit 2

26 Inventory Raw Materials Work-in-Process Finished Goods (c) IMG incurred direct labor costs of $15,000. Iron Mountain Gear $10,000$40,000$15, ,000 (a) +15,000(c) –28,000 (b)+28,000(b) Exhibit 2

27 Inventory Raw Materials Work-in-Process Finished Goods Iron Mountain Gear (d) Actual overhead costs of $17,000 are accumulated in Manufacturing Overhead. $10,000$40,000$15, ,000 (a) +15,000(c) –28,000 (b)+28,000(b) Exhibit 2

28 Manufacturing Overhead +$17,000 (d) Iron Mountain Gear (d) Actual overhead costs of $17,000 are accumulated in Manufacturing Overhead. Exhibit 2

29 Inventory Raw Materials Work-in-Process Finished Goods Exhibit 2 (e) Overhead is applied using a predetermined rate of $50 per direct labor hour. The company used 360 direct labor hours. Iron Mountain Gear $10,000$40,000$15, ,000 (a) +15,000(c) +18,000(e) –28,000 (b)+28,000(b) 360 x $50

30 Manufacturing Overhead +$17,000 (d) –18,000 (e) Iron Mountain Gear (e) Overhead is applied using a predetermined rate of $50 per direct labor hour. The company used 360 direct labor hours. Exhibit 2

31 Inventory Raw Materials Work-in-Process Finished Goods (f) Completed goods costing $63,000 to manufacture are transferred to finished goods. Iron Mountain Gear –63,000(f)+63,000(f) +50,000 (a) +15,000(c) +18,000(e) $10,000$40,000$15,000 –28,000 (b)+28,000(b) Exhibit 2

32 Inventory Raw Materials Work-in-Process Finished Goods $10,000$40,000$15,000 (g)Goods costing $65,000 are sold. –65,000(g) Iron Mountain Gear +50,000 (a) +15,000(c) –63,000(f)+63,000(f) +18,000(e) –28,000 (b)+28,000(b) Exhibit 2

33 Manufacturing Overhead +$17,000(d) –18,000(e) Cost of Goods Sold +$65,000 (g) Iron Mountain Gear Exhibit 2 (g)Goods costing $65,000 are sold.

34 Exhibit 2 Manufacturing Overhead Cost of Goods Sold 1,000 Overhead is $1,000 over- applied Iron Mountain Gear +$65,000 (g) +$17,000(d) –18,000(e)

35 The actual overhead cost is $17,000 and the applied (or estimated) overhead is calculated to be $18,000. Iron Mountain Gear

36 When the estimated overhead is greater than the actual overhead, the company overapplied its overhead cost. Iron Mountain Gear

37 In the Iron Mountain Gear example, the overhead is overapplied by $1,000. Iron Mountain Gear

38 If the actual overhead had been $20,000, then the firm’s overhead would have been underapplied by $2,000. Iron Mountain Gear

39 Iron Mountain Gear Manufacturing Overhead Cost of Goods Sold +$17,000(d) 1,000 (h)The overapplied overhead is transferred to Cost of Goods Sold. –1,000(h)–1,000 (h) Exhibit 2 +$65,000 (g) –18,000 (e)

40 Iron Mountain Gear Inventory Raw Materials Work-in-Process Finished Goods $10,000$40,000$15, ,000 (a) –28,000 (b)+28,000(b) $32,000+15,000(c) +18,000(e) –63,000(f)+63,000(f) $38,000–65,000(g) $13,000 Ending balances Exhibit 2

41 Iron Mountain Gear Ending balances Manufacturing Overhead Cost of Goods Sold +$17,000 (d) –18,000 (e) 1,000 –1,000 (h) – 1,000 (h) $ 0+$64,000 +$65,000 (g) Exhibit 2

42 Establishing the Predetermined Overhead Rate  Estimate total manufacturing overhead costs for the period.  Choose a relevant activity base and estimate the activity level for the year.  Calculate the predetermined overhead rate by dividing the estimate of total manufacturing overhead costs by the estimated activity base. At the beginning of the fiscal year:

43 Establishing the Predetermined Overhead Rate  Determine the actual activity level during the period.  Multiply the actual activity by the predetermined overhead rate.  Transfer any remaining balance of the Manufacturing Overhead account to Cost of Goods Sold. At the end of each accounting period:

44 Objective 3 Determine cost using job-order costing. Once you have completed this chapter, you should be able to:

45 Production costs are identified and assigned to a particular job. Job-Order Costing A job cost sheet is used to identify each job and to accumulate the costs of manufacturing associated with that job.

46 Job-Order Costing Exhibit 4 Requisition Number Amount Employee Number HoursRateAmountHoursRateAmount Materials Direct Labor Overhead Job Number225P ProductHigh Forest Backpack Units40 Date ByLinda Smith Ship X2134$ $9.35$ $50.00$1, X2147$ $13.55$ $520.00$300.00$1, Total Job Cost$2, Total Materials Total Direct Labor Total Overhead

47 Job-Order Costing Materials are ordered for individual jobs using a materials requisition form.

48 Job-Order Costing Materials Requisition Form X2134 Date June 11, 2004 Job Number 225P Items Description Quantity Unit Cost Total Cost Aluminum tubing 100 lbs. $1.00 $ Issued by Murry Roberts Received by Frank Jones Exhibit 5

49 Costs in the Service Sector Companies in the service sector can use job-order or process costing systems.

50 THE END Chapter M3

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