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2. 2 Kinds of Production Environments LO1: Describe the different kinds of production environments

3. 3 Production Environments Job shops and Job costing  Customized products in small lots  Shipyards, custom-built houses  High traceability of many costs  Overhead is an exception With small batches and make-to-stock  The batch is the unit of analysis  Has distinct job number  All units move as one through the production process  Job is either complete or not  Cost therefore either in COGM or in WIP LO1: Describe the different kinds of production environments

4. 4 Production Environments Process shops and process costing  Similar products in large lots  Chemicals, fertilizer  Limited traceability of costs to individual units  Units in the same batch might be at different levels of completion  Need to allocate costs between COGM and WIP Operations costing  Aspects of both job and process costing  Garment manufacturing LO1: Describe the different kinds of production environments

5. 5 a)an oil refinery. b)a paper company. c)a custom-home builder. d)a car dealership. Test Your Knowledge! The most logical business which would use job order costing would be: A maker of custom ordered items would most likely use job order costing.

6. 6 Cost Flows Through Accounts LO2: Explain the flow of costs in a job shop

7. 7 Cost Flows Regardless of environment, flow of costs through the inventory accounts is similar Job shops  Individual job is the “unit of analysis”  Can trace materials and labor to individual job  Have to allocate overhead  Account balances are sum of costs if individual jobs LO2: Explain the flow of costs in a job shop Beginning WIP = Value of jobs unfinished at start of accounting period Ending WIP = Value of jobs unfinished at end of accounting period COGM = Value of jobs completed during the accounting period

8. 8 a)Finished goods inventory. b)Work-in-process inventory. c)Cost of goods manufactured. d)Raw materials inventory. Test Your Knowledge! In a job-order costing system, direct labor costs are shown as an increase to what account? Direct labor costs increase work-in-process inventory.

9. 9 Cost Flows in a Job Shop: Magna LO2: Explain the flow of costs in a job shop

10. 10 Inventory Accounts (12/1): Magna

11. 11 Analyzing Materials Materials flow through the inventory accounts  Might separate accounts by kind of material For direct materials, keep track of which job materials were issued to  Examples: Components For indirect materials, put into overhead control account  Examples: Supplies LO2: Explain the flow of costs in a job shop

12. 12 Analyzing Materials: Magna

13. 13 Analyzing Labor Costs Accumulated in control account  Avoids having to deal with salary, bonus, and other benefits as separate items  Avoids having to deal with separate wage rates for different workers (e.g., due to seniority) If direct labor, charge out to individual jobs If indirect labor, charge out to overhead control LO2: Explain the flow of costs in a job shop

14. 14 Analyzing Labor: Magna LO2: Explain the flow of costs in a job shop

15. 15 Analyzing Overhead LO3: Apply overhead to jobs using predetermined rates

16. 16 Pre-Determined Overhead Rates Calculate Rate at start of accounting period  Use estimated costs and denominator volume Use this rate to apply overhead to individual jobs  Overhead applied to Job N = driver units in job N * pre- determined rate  Normal costing Triggers end of period adjustments LO3: Apply overhead to jobs using predetermined rates

17. 17 Suppose:  Predetermined variable overhead rate = $0.30 per direct labor dollar.  Predetermined fixed overhead rate = $1.20 per direct labor dollar. Overhead Costs: Magna LO3: Apply overhead to jobs using predetermined rates

18. 18 Analyzing WIP Accounts We get the data for individual amounts for materials, labor and overhead for each job from the prior analyses LO3: Apply overhead to jobs using predetermined rates

19. 19 Flow Through the WIP Account LO3: Apply overhead to jobs using predetermined rates

20. 20 Flow Through The FG Account: COGS LO3: Apply overhead to jobs using predetermined rates

21. 21 Under LIFO, all 2,200 units would be sold from December’s production. Thus, 2,200 x $68 = $149,600.

22. 22 Use of estimated rates means a difference between the inflows and outflows into the overhead control account Actual overhead = Amount of overhead costs Applied overhead = Allocate to products by a pre-determined rate We can charge out too much or too little. IF Generally, End of Period Adjustments LO4: Perform end-of-period adjustments for disposing of under- or overapplied overhead. Under or Over-applied Overhead = Actual Overhead – Applied Overhead Actual Rate < Pre-determined Rate Under-applied overhead Actual Rate > Pre-determined Rate Over-applied overhead

23. 23 Calculations for Magna LO4: Perform end-of-period adjustments for disposing of under- or overapplied overhead. Actual fixed overhead costs$76,582(Given) Applied fixed overhead cost$83,544(120% of $69,620) Overapplied fixed overhead$ 6,962 Check To See Why Actual labor cost$69,620 Actual fixed overhead rate for the month ___________ Predetermined overhead rate $1.20 per labor $ Error in rate ___________ Error in rate × actual labor cost___________

24. 24 $78,582 $69,620 $1.10 / labor $ $83,544 $6,962 (over-applied) $6,962 $0.10 higher

25. 25 Disposition Three methods permitted  Write off entire amount to COGS  Prorate (i.e., allocate) among WIP, FG and COGS accounts  Re-compute the rates All three methods comply with GAAP  All methods essentially allocate the under- / over-applied overhead  Differ in the accounts charged for the error LO4: Perform end-of-period adjustments for disposing of under- or overapplied overhead.

26. 26 $4,623,800 1 1 Add under-applied overhead and subtract overapplied overhead to determine the adjusted COGS as $4,629,450. 1 1 $4,629,450

27. 27 Disposition: Comparison Write off is least correct  Assumes entire error relates to COGS Proration is better  Assumes error is proportional to end of period value  Should be proportion to current period overhead in the account Correcting rates is most accurate LO4: Perform end-of-period adjustments for disposing of under- or overapplied overhead. WIP Inventory FG Inventory COGS Write off to COGSX Proration (allocation)XXX Actual rates (assignment)XXX

28. 28 Which Method To Use? Write off to COGS is the easiest method. OK if amount is not large  Easy to implement. Most inaccurate. Proration (i.e., allocating among) is common. Uses of end of year balances as the basis  Most commonly used Re-computing rates is most accurate.  Easy if system is computerized LO4: Perform end-of-period adjustments for disposing of under- or overapplied overhead.

29. 29 Examples If overhead is under-applied, we have used “smaller than actual” rates. Thus, inventory accounts are under- valued. The adjustment therefore increases inventory values and cost of goods sold.  Opposite reasoning of over-applied overhead. The adjustment decreases inventory values and COGS. LO4: Perform end-of-period adjustments for disposing of under- or overapplied overhead. Unadjusted cost of goods sold (Jan-Nov)$4,245,000 Cost of goods sold378,000 Total unadjusted cost of goods sold$4,263,800 -Over-applied variable overhead for the year25,689 +Under-applied fixed overhead for the year15,963 =Adjusted cost of goods sold$4,614,074

30. 30 Example: Proration Proration allocates the under- or over-applied overhead to WIP, FG and COGS accounts Uses end of year balances as the allocation basis LO4: Perform end-of-period adjustments for disposing of under- or overapplied overhead.

31. 31 Basic job costing (LO2) Tubbs and Company manufactures custom motorcycles. Tubbs uses a job- cost system and provides the following information related to the work-in- process account for the month of January: Required: Determine the cost of goods manufactured during January. Exercise 14.26 January 1 balance$22,500 Direct material used25,000 Direct labor incurred24,000 Manufacturing overhead applied36,000 Tubbs applies manufacturing overhead based on direct labor cost. Job No. 232 was the only job still in process at the end of January. As of January 31, this job, which was started in January, contains direct materials of $4,250 and direct labor of $2,500.

32. 32 Exercise 14.26 (Continued) Determine the cost of goods manufactured during January. We can use the inventory equation for the WIP account to answer the question. Beginning WIP + (materials + labor + applied overhead) = COGM + Ending WIP. We know the items on the left hand side. But, we need to calculate Ending WIP, which will be the costs charged to job 232. We can use the inventory equation for the WIP account to answer the question. Beginning WIP + (materials + labor + applied overhead) = COGM + Ending WIP. We know the items on the left hand side. But, we need to calculate Ending WIP, which will be the costs charged to job 232. Direct materials$4,250 Direct labor$2,500 Mfg. overhead$3,750 $2,500 × $1.50 per labor $ Ending WIP$10,500

33. 33 Exercise 14.26 (Concluded) Determine the cost of goods manufactured during January. Direct materials$4,250 Direct labor$2,500 Mfg. overhead$3,750 $2,500 × $1.50 per labor $ Ending WIP$10,500 (We use the total amounts charged to WIP to calculate the overhead rate as $36,000 applied overhead /$24,000 labor $ = $1.50 per labor dollar.) Thus, we have: COGM = $22,500 + (25,000+24,000 + 36,000) - $10,500 = $97,000. Thus, we have: COGM = $22,500 + (25,000+24,000 + 36,000) - $10,500 = $97,000.