L3 - Job Order costing, Overhead Allocation and Absorption Flashcards
Why does the cost of an object matter?
It is difficult to Calculate the cost of a specific cost object
It matters however because:
- For financial reporting purposes
- Pricing/Output decisions
- Full cost pricing - need to know the full cost of production of an item before adding a mark-up
- Assessing relative efficiency
- Exercising control
What are the types of Costing systems used to determine product costs?
- Job Costing
- Process Costing
What is Process Costing?
- Masses of similar products are produced
- Products produced in the same manner and consume the same amount of direct costs and overheads
- You are unable to distinguish 1 item from another e.g. cannot distinguish 1 pint from 1 litre - each unit is identical
- e.g. a brewery where beer is going through at a constant rate
- Average cost per unit
What is Job costing?
- Many different products are produced each period
- Products are manufactured to order e.g. airline companies commission other companies to make their food for them
- Cost records must be maintained for each distinct product or job
- They assign cost to each different order to their distinct job
What industries is job order cost typically applicable to?
Typical job order cost applications:
- Special-order printing
- Building construction
Also used in the service industry:
- Accountancy firms
- A proportion of the electricity, heating, paper etc. is assigned to each worker
- Law firms
What costs account towards Job-Order Costing?
- Direct Materials - Traced directly to each job
- e.g. mirrors, lights, radio
- Direct Labour - Traced directly to each job
- E.g. Salary of workers on the assembly line
- Manufacturing overhead (OH) -Applied to each job using a predetermined rate
- E.g. salary of cleaners/ maintenance workers
What is the sequence of events in a Job-Order Costing System?
What is the overview of how Overheads assigned to products?
- Stage 1
- Overheads are assigned to departments or cost centres
- They are called cost centres because there will be a manager overseeing the departments and their job to minimise the costs
- They are two types of cost centre in a manufacturing company:
- service cost centres (canteen), product cost centres (factory)
- Stage 2
- Costs accumulated in cost centres are assigned to products
What happens when expenses cannot be allocated to a department?
- •Expenses are allocated to those cost centres to which they obviously belong - e.g. if a department has an electricity meter it’s obvious what proportion of electricity bills are assigned to that cost centre
- If expenses cannot be allocated, they are apportioned – that is, divided upon a fair and logical basis, so that each cost centre gets an appropriate share
- Costs apportioned to service cost centres are re-apportioned to production cost centres
- Total overhead costs of each production cost-centre are absorbed within products by means of absorption rates as they pass through the cost centres
Stage 1: Allocation and Apportionment
- Where a cost is directly attributable to a department, the allocation can take place
- Non-allocable costs, however, must be apportioned on some logical basis e.g. assign costs to different departments based on the floor space they take up in a factory
- The basis of apportionment varies according to the cost item
Example of methods of apportionment?
- Rent of the building –> Floor area
- Lighting –> Floor area
- If we don’t have Electricity meters it may be unfair to use floor area - as some departments may have a high ceiling especially for heating (look at the volume of the room)
- Power for machines –> Number of machines
- May want to weight the cost of the machine my how much electricity they will use
- Production supervisor’s salary –> Number of employees
- If a supervisor spend more time on trainees than skilled workers - that department would be assigned a larger proportion of this cost
- Canteen costs –> Number of employees
- Not all employees use the canteen so could just keep track of the proportion of employees that use and then assign accordingly
- Depreciation of machinery –> value of machinery
This shows there are basic and also more sophisticate was of allocating costs which is up to the discretion of the management account
Stage 2: Absorption
Once costs have been allocated/apportioned to departments, they must then be charged out to units - using a fair and logical basis
Information needed:
- OH cost for the period
- Productive capacity available in that period
Total overhead costs must be charged to all units produced in proportion to the amount of productive capacity used up in making each unit
How do you calculate the Pre-determined Overhead Rate?
A set rate which, when applied to cost units passing through the cost centre, will absorb or “pick up” all the overheads attributable to that cost centre
Rate = estimated OH costs for period/ estimated productive capacity for the period
Use different rates for each department
- you can use a plant-wide rate but would be fairer to use different rates e.g. in a mechanised part of the factory most of the overheads should be machine hours whereas a labour intensive division should consist of more labour hour costs
What are the Bases for Calculating absorption Rates?
This is the denominator of the overhead rates:
- Machine hours
- Direct Labour Hours
- Direct wages
- Direct materials
- Prime cost
- No. of units
If the base is cost-based, in the rates calculate you multiply by 100
How are Job-Order Costs tracked?
The primary document for tracking the costs associated with a given job is the job cost sheet
How are Direct Cost collated on the Job Cost sheet?
- The materials requisition form is required for manufacturers - they need to request the material to use the make the product, so all costs can be recorded
- Workers use time tickets to record the time spent on each job
