Topic 1: Job-order and service department costing (FINAL)

Question 1

What is job-order costing, and where is it used?

Answer 1

Job-order costing is a system that assigns costs to specific jobs or orders. It tracks the costs associated with making a specific product or completing a unique service. Each job or order is treated as an individual project, and the costs of materials, labor, and overhead are recorded separately for each job.

It used in industries like custom furniture, large-scale construction, service industries (hospitals, consulting etc.) etc., where many different products are produced each period.

Question 2

What is the importance of cost tracing in job costing?

Answer 2

Tracing costs is essential because it directly impacts the company’s ability to manage resources effectively, set competitive prices, and ensure profitability for each unique job.

Since every job can have different requirements, custom materials, and varying labor inputs, tracking costs for each job is crucial for maintaining profitability, ensuring efficiency, and making informed business decisions.

Question 3

What are some advantages of using job-order costing?

Answer 3

1. Precise cost tracking for individual jobs.
2. Insight into job profitability.
3. Helps identify inefficiencies and variances.

Question 4

How are costs determined for job-order costing?

Answer 4

Costs are traced and allocated to jobs, and then the costs of the job are divided by the number of units in the job. Thus, the result is arrive an average cost per unit.

Question 5

What documents are essential in a job-order costing system?

Answer 5

Key documents include:

1. Job Cost Sheet: Tracks costs for each job.
2. Materials Requisition Form: Requests materials for specific jobs.
3. Bill of Materials (BOM): Lists materials and quantities needed.
4. Time Tickets: Record direct labor hours worked on jobs.

Question 6

What are the three primary cost components in job-order costing?

Answer 6

1. Direct Materials
2. Direct Labor
3. Manufacturing Overhead

Question 7

How are costs recorded and accumulated using direct materials cost?

Answer 7

Tracked via production orders, materials requisition form and job cost sheet.

Steps:
0. An agreement has been reached with the customer concerning the quantities, prices and shipment date for the order. If this were a standard product, there would be a bill of materials for the product.

1. Issuing the production order.
2. Preparing the materials requisition form.
3. Preparing a job cost sheet (automatically generated following the production order).
4. After direct materials are issued, the Accounting Department records their costs directly on the job cost sheet.

Question 8

What is a production order?

Answer 8

A document that tells which specific quantity of material is to be produced within a certain timeframe.

• An internal document that authorizes the start of production for a specific job.
• Includes job details, such as materials, labor, and machine requirements.
• Ensures that resources are allocated to fulfill the sales order.

Question 9

What is a materials requisition form?

Answer 9

A detailed source document that (1) specifies the type and quantity of materials, and (2) identifies the job to which the costs of the materials are to be charged.

Question 10

What is a job cost sheet?

Answer 10

A form prepared for each separate job that records the materials, labour and overhead costs charged to the job (automatically generated following the production order).

Question 11

How are costs recorded and accumulated using direct labour cost?

Answer 11

Measured through time logs (time tickets) and predetermined rates.

Where the employee scans follow bar codes before and after the job:
1. The first indicates that a job is being started/finished.
2. The second is the unique bar code on the employee’s identity badge.
3. The third is the unique bar code of the job itself.

Since all of the source data is already in computer files,
the labour costs can be automatically posted to job cost sheets.

Question 12

What should one do with labour charges that cannot easily be traced directly to any job?

Answer 12

These are treated as part of manufacturing overhead.

These are called indirect labour costs, and include maintenance, supervision and clean up.

Question 13

What are the problems associated with assigning overhead costs to products?

Answer 13

1. Over-/underapplied overhead
2. Disposition of overhead balances: Closed out to COGS or allocate between accounts.

Other:
1. Manufacturing overhead is an indirect cost (difficult to trace to a product or job).

2. Manufacturing overhead consists of many different items.
3. Total manufacturing overhead costs tend to remain relatively constant (due to fixed costs), which causes the average cost per unit to vary.

(NB! This applies for companies using an absorption costing approach manufacturing overhead must be included with direct materials and direct labour on the job cost sheet since manufacturing overhead is also a product cost.)

Question 14

What is a Predetermined Overhead Rate (POHR)?

Answer 14

The predetermined overhead rate is computed before the period begins, and is used to apply overhead cost to jobs throughout the period. Thus, it is based on estimates rather than actual figures.

POHR = Estimated total manufacturing overhead cost / Estimated total units in the allocation base (e.g., labor hours)

Question 15

What is an allocation base? And what are the most common?

Answer 15

A measure that is used to assign overhead costs to products and services.

The most common:
- Direct labour-hours
- Direct labour cost
- Machine-hours
- Units of product (only when producing one type)

Question 16

What is a normal cost system?

Answer 16

When a company applies overhead cost to jobs by multiplying actual activity by the predetermined overhead rate.

Question 17

A company could wait until the end of the accounting period to compute an actual overhead rate based on the actuals - why don’t companies do this?

Answer 17

1. Timeliness: A predetermined rate allows overhead costs to be applied to jobs during the period, enabling timely job cost updates without waiting until the end of the period.
2. Stability: Actual overhead rates can fluctuate due to seasonal factors or changes in the allocation base (e.g., labor hours), which can mislead managers. Predetermined rates ensure consistent cost allocation.
3. Simplified record keeping: Using a predetermined rate simplifies accounting by avoiding frequent recalculations of actual overhead costs, making the process more efficient.

Question 18

How is the allocation base for overhead costs chosen?

Answer 18

The allocation base should be a cost driver of overhead cost.

Question 19

Based on the allocations of the three cost types, unit costs are computated - how?

Answer 19

1. The totals for direct materials, direct labour and manufacturing overhead are transferred to the Cost Summary section of the job cost sheet and added together to obtain the total cost for the job.
2. The total cost is divided by the number of units to obtain the unit cost.

NB! This unit cost is an average cost, and should not be interpreted as the cost that would actually be incurred.

Then the completed job cost sheet is ready to be transferred to the Finished Goods inventory account, where it will serve as the basis for valuing unsold units in ending inventory and determining cost of goods sold.

Question 20

What is the flow of documents in a job-order costing system, and how do they contribute to cost calculation?

Answer 20

The flow of documents in a job-order costing system is as follows:

1. Sales order: Initiates the process by defining the customer order details.
2. Production order: Authorizes the start of production and tracks associated costs.

3a. Materials requisition form: Records the raw materials used for the job.

3b. Direct labor time ticket: Tracks labor hours worked on the job.

3c. Predetermined Overhead Rates: Applies overhead costs based on a predefined formula.

4. Job Cost Sheet: Accumulates all production costs (materials, labor, overhead) and is used to calculate product costs, value inventories, and determine the cost of goods sold.

Question 21

Describe journal entries in a job-order costing system.

Answer 21

Direct materials is added to WIP
Overhead is separate for WIP
Only direct labour is added to WIP
Indirect labour is added to overhead
To allocate all the overhead to the WIP we use the predetermined overhead rate again
Non-manufacturing cost (selling and administrative) should not go into overhead. They are charged to the profit and loss statement.
When products are done the costs are transferred to FG account.
When they are sold the costs are transferred to COGS account

ACTUAL OVERHEAD IS NOT APPLIED TO A PRODUCT NOR APPERAR IN THE JOB COST SHEET OR THE WIP ACCOUNT.
ONLY THE ESTIMATED OVERHEAD DOES BASED ON PREDETERMINED OVERHEAD RATE.

Question 22

How is the cost of goods manufactured recorded when a job is completed, and what happens to incomplete jobs?

Answer 22

When a job is completed, the total costs for the job (direct materials, direct labor, and applied overhead) are transferred from the Work in Progress (WIP) account to the Finished Goods account.

The total transferred amount represents the cost of goods manufactured for the period.

For incomplete jobs, the costs remain in the WIP account and are carried forward to the next period. On the balance sheet, these costs are classified as Work in Progress Inventory under assets.

Question 23

How does a manager finalize job costing?

Answer 23

1. Review direct materials, labor hours, and overhead applied.
2. Compare estimated vs. actual costs.
3. Analyze variances (under- og overapplied) to improve efficiency.

Question 24

What happens when actual overhead differs from applied overhead?

Answer 24

Underapplied Overhead: Actual > Applied (requires a debit adjustment to Cost of Goods Sold).

Overapplied Overhead: Actual < Applied (requires a credit adjustment to Cost of Goods Sold).

Question 25

What are the methods for disposing of underapplied or overapplied overhead balances, and when is each used?

Answer 25

At the end of a period, the balance in the Manufacturing Overhead account can be disposed of using two methods:

Close out to Cost of Goods Sold:
The entire underapplied or overapplied overhead is added to or subtracted from the Cost of Goods Sold account.

Allocate among accounts:
The balance is proportionally allocated to Work in Progress, Finished Goods, and Cost of Goods Sold based on the overhead applied to each account during the period.

Question 26

What are the differences between plantwide and multiple predetermined overhead rates?

Answer 26

Plantwide predetermined overhead rate: A single overhead rate is applied across the entire factory.
This approach is common in smaller companies due to simplicity.

Multiple predetermined overhead rate: Different rates are used for each production department. Overhead is allocated based on the specific activity in each department.
This approach is more complex but considered more accurate as it reflects the unique cost structures of different departments.

Question 27

Explain overhead rates based on capacity instead of budgeted activity.

Answer 27

If companies calculate the predetmined overhead rate based on how much a machine produces in a given period the overhead cost will fluctuate to much.
Instead it should be calcualted based on capacity (the maximum output the machine can do over the given period of time)
This is more stable, but will most likely result in underapplied overhead.