Chapter 4 Notes 2022 Students (PDF)

3-1 FBS 220 CONTENTS OF COURSE PART 1: INTRODUCTION TO MANAGEMENT & COST ACCOUNTING LA 1: Chap 1 Managerial Accounting & the Business Environment LA 2:Chap 2 Cost Terms, Concepts, & Classifications LA 3: Chap 3 Cost behaviour: Analysis & Use LA 4: Chap 4 Sys...

3-1 FBS 220 CONTENTS OF COURSE PART 1: INTRODUCTION TO MANAGEMENT & COST ACCOUNTING LA 1: Chap 1 Managerial Accounting & the Business Environment LA 2:Chap 2 Cost Terms, Concepts, & Classifications LA 3: Chap 3 Cost behaviour: Analysis & Use LA 4: Chap 4 Systems Design - Job order Costing LA 5: Chap 5 Systems Design - Process Costing PART 2: INFORMATION FOR DECISION MAKING LA 6: Chap 6 Cost-Volume-Profit Relationships LA 7: Chap 7 Profit reporting under Variable & Absorption Costing PART 3: PLANNING AND CONTROL LA 8: Chap 11 Profit planning & the role of budgeting Learning area 4 Chapter 4: Systems Design – Job order and service department costing Specific Outcomes: After studying this learning area, you should be able to: 1 Distinguish between process costing and job‐order costing. 2 Identify the documents used in a job‐order costing system. 3 Calculate predetermined overhead rates & explain why estimated overhead costs (rather than actual) are used in costing process. 4 Prepare journal entries to record costs in a job‐order costing system. 5 Apply overhead cost to Work In Process using predetermined OH rate. 6 Prepare T‐accounts to show the flow of costs in a job‐order costing system. 7 Calculate under‐ or over applied overhead cost & prepare journal entry to close balance in Manufacturing Overhead to appropriate accounts. 8 Explain implications of basing the predetermined overhead rate on activity at capacity rather than on estimated activity for the period. 9 Analyse the allocation of service department costs. (Appendix 4A)  3-2 Types of Costing Systems Used to Determine Product Costs Process Job-order Costing Costing Chapter 5  Many different products are produced each period.  Products are manufactured to order.  Cost are traced or allocated to jobs.  Cost records must be maintained for each distinct product or job. Types of Costing Systems Used to Determine Product Costs Process Job-order Costing Costing  Typical job order cost applications:  Special-order printing  Building construction  Also used in the service industry  Accountancy firms  Law firms  3-3 We are going to use the work- in-process account & not the dept production report Job or Process costing? E4‐1 Job‐ Process order costing costing a Glue factory b Textbook publisher like McGraw‐Hill c Esso oil refinery d Factory making frozen orange juice e Paper mill f Custom home builder g Garage customising vans h Manufacturer of speciality chemicals i Car repair garage j Tyre manufacturing plant k Advertising agency l Law firm  3-4 Sales Order A sales order is prepared as a basis for issuing a... Production Order A production order initiates work on a job, whereby costs are charged through... DM DL OH Materials Direct Labor Predetermined Requisition Time Ticket Ovhd. Rates The various costs of production are accumulated on a form, prepared by the accounting department, known as a... Job Cost = Work-in –process Sheet account The job cost sheet forms the basis for valuing ending inventories and Cost of Goods Sold. Job‐Order Costing Manufacturing overhead (OH) Applied to each Direct job using a material predetermined rate THE JOB Direct labour  3-5 Sequence of Events in a Job‐Order Costing System Receive Begin orders from production customers Schedule Order jobs materials Sequence of Events in a Job‐ Order Costing System Direct Materials Charge Job No. 1 direct material and Direct labour direct Job No. 2 labour costs to Manufacturing Job No. 3 each job as Overhead work is performed.  3-6 Sequence of Events in a Job‐ Order Costing System Direct Materials Job No. 1 Apply overhead to Direct labour each job Job No. 2 using a pre- determined Manufacturing Job No. 3 Overhead rate. Job‐Order Cost Accounting The primary document for tracking the costs associated with a given job is the job cost sheet. Let’s investigate  3-7 Job‐Order Cost Accounting Job‐Order Cost Accounting A materials requisition form is used to authorise the use of materials on a job. Let’s see one  3-8 Materials Requisition Form Will E. Delite Materials Requisition Form Cost of material is charged to job A-143. Type, quantity, and total cost of material charged to job A-143. Will E. Delite  3-9 Job‐Order Cost Accounting Job‐Order Cost Accounting Workers use time tickets to record the time spent on each job. Let’s see one  3-10 Employee Time Ticket Job‐Order Cost Accounting  3-11 Job‐Order Costing Manufacturing overhead (OH) Applied to each Direct job using a material predetermined rate THE JOB Direct labour The Need for a Predetermined Manufacturing Overhead Rate 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. Seasonal factors in overhead costs or in the allocation base can produce fluctuations in the overhead rates. The use of a predetermined overhead rate simplifies record keeping.  3-12 Application of Manufacturing Overhead Predetermined overhead rate (POHR) is used to apply overhead to jobs. POHR is determined before the period begins. Estimated total manufacturing overhead cost for the coming period POHR = Estimated total units in the allocation base for the coming period Ideally, the allocation base is a cost driver that causes overhead. Choice of an allocation base for overhead cost An allocation base should be used that is a cost driver of overhead cost. £  3-13 Application of Manufacturing Overhead Based on estimates, and determined before the period begins. Overhead applied = POHR × Actual activity Actual amount of the cost driver such as units produced, direct labour hours, or machine hours. Incurred during the period. Overhead Application Example PearCo applies overhead based on direct labour hours. Total estimated overhead for the year is £640,000. Total estimated labour cost is £1,400,000 and total estimated labour hours are 160,000. What is PearCo’s predetermined overhead rate per hour?  3-14 Overhead Application Example Estimated total manufacturing overhead cost for the coming period POHR = Estimated total units in the allocation base for the coming period £640,000 POHR = 160,000 direct labour hours (DLH) POHR = £4.00 per DLH For each direct labour hour worked on a job, £4.00 of factory overhead will be applied to the job. Application of Manufacturing Overhead Overhead applied = POHR × Actual activity Overhead applied to Job A-143: = £4 p DLH x 8 Actual DLH = £32  3-15 Job‐Order Cost Accounting Apply manufacturing overhead to jobs using a predetermined overhead rate of £4 per direct labour hour (DLH). Let’s do it Application of Manufacturing Overhead Overhead applied = POHR × Actual activity Overhead applied = £4 per DLH × 8 DLH = £32  3-16 Job‐Order Cost Accounting Learning area 4 Chapter 4: Systems Design – Job order and service department costing Specific Outcomes: After studying this learning area, you should be able to: 1 Distinguish between process costing and job‐order costing. 2 Identify the documents used in a job‐order costing system. 3 Calculate predetermined overhead rates & explain why estimated overhead costs (rather than actual) are used in costing process. 4 Prepare journal entries to record costs in a job‐order costing system. 5 Apply overhead cost to Work In Process using predetermined OH rate. 6 Prepare T‐accounts to show the flow of costs in a job‐order costing system. 7 Calculate under‐ or over applied overhead cost & prepare journal entry to close balance in Manufacturing Overhead to appropriate accounts. 8 Explain implications of basing the predetermined overhead rate on activity at capacity rather than on estimated activity for the period. 9 Analyse the allocation of service department costs. (Appendix 4A)  3-17 Job‐Order Costing Document Flow Summary Materials used may be either Direct Job Cost direct or materials Sheets indirect. Materials Requisition Manufacturing Indirect Overhead materials Account Job‐Order Costing Document Flow Summary An employee’s time may be either Direct Job Cost direct or indirect. labour Sheets Employee Time Ticket Manufacturing Indirect Overhead labour Account  3-18 Job‐Order Costing Document Flow Summary Employee Indirect Time Ticket Labour Other Manufacturing Applied Job Cost Actual OH Overhead Overhead Sheets Charges Account Materials Indirect Requisition Material Job-Order System Cost Flows Work in Progress Raw Materials (Job Cost Sheet) Material Direct Direct   Purchases Materials Materials Indirect Materials Mfg. Overhead Actual Applied Indirect Materials  3-19 Job-Order System Cost Flows Salaries and Work in Progress Wages Payable (Job Cost Sheet)  Direct Direct labour Materials Indirect Direct labour labour Overhead Applied Mfg. Overhead Actual Applied If actual and applied Indirect Overhead manufacturing overhead Materials Applied to are not equal, a year-end Indirect Work in adjustment is required. labour Process Job-Order System Cost Flows Work in Progress (Job Cost Sheet) Finished Goods Direct Cost of  Cost of  Cost of Materials Goods Goods Goods Direct Mfd. Mfd. Sold labour  Overhead Applied Cost of Goods Sold Cost of  Goods Sold  3-20 Overhead Application Example PearCo’s actual overhead for the year was £650,000 for a total of 170,000 direct labour hours. How much total overhead was applied to PearCo’s jobs during the year? Use PearCo’s predetermined overhead rate of £4.00 per direct labour hour. Overhead Application Example PearCo’s actual overhead for the year was £650,000 for a total of 170,000 direct labour hours. PearCo has overapplied overhead for the year by £30,000. What will PearCo do? SOLUTION Applied Overhead = POHR × Actual Direct labour Hours Applied Overhead = £4.00 per DLH × 170,000 DLH = £680,000  3-21 Overapplied and Underapplied Manufacturing Overhead PearCo’s Method £30,000 £30,000 may be may be allocated closed directly to to these accounts. cost of goods sold. OR Work in Finished Progress Goods Cost of Cost of Goods Sold Goods Sold Overapplied and Underapplied Manufacturing Overhead PearCo’s Cost PearCo’s of Goods Sold Mfg. Overhead Unadjusted Actual Overhead Balance overhead Applied costs to jobs £30,000 £650,000 £680,000 Adjusted £30,000 £30,000 Balance overapplied  3-22 Overapplied and Underapplied Manufacturing Overhead ‐ Summary In FBS220 we only use PearCo’s Alternative 1! Method Alternative 1 Alternative 2 If Manufacturing Close to Cost Overhead is... of Goods Sold Allocation UNDERAPPLIED INCREASE INCREASE Cost of Goods Sold Work in Progress (Applied OH is less Finished Goods than actual OH) Cost of Goods Sold OVERAPPLIED DECREASE DECREASE Cost of Goods Sold Work in Progress (Applied OH is greater Finished Goods than actual OH) Cost of Goods Sold Job‐Order Costing – Typical Accounting Entries Let’s look at summary journal entries for a job- order costing system. We’ll omit the numbers so that we can focus on accounts.  3-23 Cost Flows – Material Purchases Raw material purchases are recorded in a stock account. Cost Flows – Material Usage Direct materials issued to a job increase Work in Progress and decrease Raw Materials. Indirect materials used are charged to Manufacturing Overhead and also decrease Raw Materials.  3-24 Cost Flows – Labour The cost of direct labour incurred increases Work in Progress and the cost of indirect labour increases Manufacturing Overhead. Cost Flows – Actual Overhead In addition to indirect materials and indirect labour, other manufacturing overhead costs are charged to the Manufacturing Overhead account as they are incurred.  3-25 Cost Flows – Overhead Applied Work in Progress is increased when Manufacturing Overhead is applied to jobs. Cost Flows – Period Expenses Non‐manufacturing costs (period expenses) are charged to expense as they are incurred.  3-26 Cost Flows – Cost of Goods Manufactured As jobs are completed, the cost of goods manufactured is transferred to Finished Goods from Work in Progress. Cost Flows – Sales When finished goods are sold, two entries are required: (1) to record the sale; and (2) to record Cost of Goods Sold and reduce Finished Goods.  3-27 Multiple Predetermined Overhead Rates A plantwide overhead rate is a common practice particularly in smaller companies. In larger companies, multiple predetermined overhead rates are often used. There is usually a different overhead rate for each production department. For example: Dept A = labour intensive => POHR = based on DLH or % of DL cost + Dept B = machine driven => POHR = based on Machine Hours (MH)