1. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-1 JOB ORDER COST SYSTEMS AND OVERHEAD ALLOCATIONS Chapter 17

2. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-2 Planning and control functions. Providing products or services to customers. Assessing the efficiency and effectiveness of operations. Determining unit manufacturing costs. Cost accounting systems provide information supporting decisions making the business successful. Cost Accounting Systems

3. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-3 Disclose inventories and cost of goods sold. Track resources consumed by products and services. Manage activities that consume resources. Evaluate and reward employee performance. Cost accounting systems are the procedures and techniques used by management. Cost Accounting Systems

4. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-4 Used for production of large, unique, high-cost items. Built to order rather than mass produced. Many costs can be directly traced to each job. Used for production of large, unique, high-cost items. Built to order rather than mass produced. Many costs can be directly traced to each job. Job Order Costing Typical job order cost applications:  Special-order printing  Building construction Also used in service industry  Hospitals  Law firms Typical job order cost applications:  Special-order printing  Building construction Also used in service industry  Hospitals  Law firms

5. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-5 Receive orders from customers Begin production Order materials Schedule jobs Job Order Costing

6. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-6 THE JOB Direct materials Direct labor Traced directly to each job Manufacturing overhead (OH) Applied to each job using a predetermined rate (POHR) Job Order Costing

7. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-7 Manufacturing Overhead Job No. 1 Job No. 2 Job No. 3 Charge direct material and direct labor costs to each job as work is performed. Direct Materials Direct Labor Job Order Costing

8. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-8 Apply overhead to each job using a predeter- mined rate. Direct Materials Direct Labor Job No. 1 Job No. 2 Job No. 3 Manufacturing Overhead Job Order Costing

9. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-9 Estimated total manufacturing overhead cost for the coming period Estimated total units in the activity base for the coming period POHR = The predetermined overhead rate (POHR) used to apply overhead to jobs is determined before the period begins. Ideally, the activity base is a cost driver that causes overhead. Overhead Application Rates

10. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-10 Using a predetermined rate makes it possible to estimate total job costs sooner. Actual overhead for the period is not known until the end of the period. $ Overhead Application Rates

11. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-11 Overhead applied = POHR × Actual activity Actual amount of the cost driver such as units produced, direct labor hours, or machine hours incurred during the period. Based on estimates, and determined before the period begins. Overhead Application Rates

12. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-12 Compuline, Inc., applies overhead based on direct labor hours. Total estimated overhead for the year is $360,000. Total estimated labor hours are 30,000. What is Compuline’s predetermined overhead rate per hour? Overhead Application Rates

13. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-13 For each direct labor hour worked on a job, $12.00 of manufacturing overhead will be applied to the job. POHR = $12.00 per DLH $360,000 30,000 direct labor hours (DLH) POHR = Estimated total manufacturing overhead cost for the coming period Estimated total units in the allocation base for the coming period POHR = Overhead Application Rates

14. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-14 The primary document for tracking the costs associated with a given job is the job cost sheet. Let’s investigate Job Order Costing

15. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-15 The Job Cost Sheet

16. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-16 The Job Cost Sheet A materials requisition form is used to authorize the use of materials on a job.

17. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-17 The Job Cost Sheet Accumulate direct labor costs by means of a work record, such as a time ticket, for each employee.

18. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-18 The Job Cost Sheet Apply manufacturing overhead to jobs using a predetermined overhead rate (POHR) based on direct labor hours (DLH).

19. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-19 Let’s summarize the document flow we have been discussing in a job order costing system. Job Order Costing Document Flow Summary

20. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-20 Materials Ledger Cards Materials Requisition Direct materials The materials requisition indicates the cost of direct material to charge to jobs and the cost of indirect material to charge to overhead. Indirect materials Job Cost Sheets Manufacturing Overhead Account Job Order Costing Document Flow Summary

21. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-21 Employee time tickets indicate the cost of direct labor to charge to jobs and the cost of indirect labor to charge to overhead. Job Cost Sheets Manufacturing Overhead Account Job Cost Sheets Direct Labor Indirect Labor Employee Time Ticket Job Order Costing Document Flow Summary

22. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-22 Employee Time Ticket Materials Requisition Other Actual OH Charges Indirect Material Indirect Labor Overhead Applied with POHR Manufacturing Overhead Account Job Cost Sheets Job Order Costing Document Flow Summary

23. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-23 Let’s examine the cost flows in a job order costing system. We will use T-accounts and start with materials. Flow of Costs in Job Costing

24. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-24 Material Purchases Direct Material Mfg. Overhead Indirect Material Work in Process (Job Cost Sheet) Indirect Material Materials Inventory Flow of Costs in Job Costing

25. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-25 Next let’s add labor costs and applied manufacturing overhead to the job order cost flows. Are you with me? Flow of Costs in Job Costing

26. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-26 Direct Labor Mfg. Overhead Work in Process (Job Cost Sheet) Indirect Material Direct Material Overhead Applied to Work in Process Indirect Labor Direct Labor Overhead Applied Indirect Labor the difference is closed to cost of goods sold. When Actual Applied factory factory overhead overhead = / Labor Flow of Costs in Job Costing

27. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-27 Closing Under- or Overapplied Manufacturing Overhead

28. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-28 Now let’s complete the goods and sell them. Still with me? Flow of Costs in Job Costing

29. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-29 Cost of Goods Mfd. Finished Goods Cost of Goods Sold Cost of Goods Mfd. Cost of Goods Sold Work in Process (Job Cost Sheet) Direct Material Direct Labor Overhead Applied Flow of Costs in Job Costing

30. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-30 A BC A C B Activity-Based Costing (ABC)

31. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-31 One of the most difficult tasks in computing accurate unit costs lies in determining the proper amount of overhead cost to assign to each job. Assigning overhead is difficult. I agree! Activity-Based Costing (ABC)

32. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-32 Level of Complexity Overhead Allocation Plantwide Overhead Rate Departmental Overhead Rates Activity-Based Costing Activity-Based Costing (ABC)

33. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-33 In the ABC method, we recognize that many activities within a department drive overhead costs. In the ABC method, we recognize that many activities within a department drive overhead costs. A BC A C B Activity-Based Costing (ABC)

34. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-34 Identify activities and assign indirect costs to those activities. Central idea... Products require activities. Activities consume resources. A BC A C B Activity-Based Costing (ABC)

35. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-35 More detailed measures of costs. Better understanding of activities. More accurate product costs for...  Pricing decisions.  Product elimination decisions.  Managing activities that cause costs. Benefits should always be compared to costs of implementation. More detailed measures of costs. Better understanding of activities. More accurate product costs for...  Pricing decisions.  Product elimination decisions.  Managing activities that cause costs. Benefits should always be compared to costs of implementation. The Benefits of ABC

36. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-36 Most cost drivers are related to either volume or complexity of production. Examples: machine time, machine setups, purchase orders, production orders. Three factors are considered in choosing a cost driver: Causal relationship. Benefits received. Reasonableness. Most cost drivers are related to either volume or complexity of production. Examples: machine time, machine setups, purchase orders, production orders. Three factors are considered in choosing a cost driver: Causal relationship. Benefits received. Reasonableness. Identifying Cost Drivers

37. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-37 Overhead Actual Rate Activity × Rate = Estimated overhead costs in activity cost pool Estimated number of activity units Identify activities that consume resources. Assign costs to a cost pool for each activity. Identify cost drivers associated with each activity. Compute overhead rate for each cost pool: Assign costs to products: Activity-Based Costing Procedures

38. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-38 Let’s look at an example comparing traditional costing with ABC. We will start with traditional costing. Activity-Based Costing

39. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-39 Pear Company manufactures a product in regular and deluxe models. Overhead is assigned on the basis of direct labor hours. Budgeted overhead for the current year is $2,000,000. Other information: First, determine the unit cost of each model using traditional costing methods. Traditional Costing vs. ABC Example

40. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-40 Overhead Estimated overhead costs Rate Estimated activity = Overhead $2,000,000 Rate 40,000 DLH == $50 per DLH Traditional Costing

41. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-41 ABC will have different overhead per unit. Traditional Costing

42. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-42 Pear Company plans to adopt activity-based costing. Using the following activity center data, determine the unit cost of the two products using activity-based costing. Activity-Based Costing

43. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-43 400 deluxe + 800 regular = 1,200 total Activity-Based Costing

44. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-44 Activity-Based Costing

45. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-45 Activity-Based Costing

46. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-46 Let’s complete the table. Activity-Based Costing

47. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-47 Activity-Based Costing

48. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-48 Total overhead = $720,000 + $1,280,000 = $2,000,000 Recall that $2,000,000 was the original amount of overhead assigned to the products using traditional overhead costing. Activity-Based Costing

49. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-49 Activity-Based Costing

50. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-50 This result is not uncommon when activity-based costing is used. Many companies have found that low- volume, specialized products have greater overhead costs than previously realized. Activity-Based Costing

51. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-51 Costs and Cost Drivers in Activity-Based Costing

52. © The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 17-52 End of Chapter 17