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Chapter 5

COMM 112 Chapter Notes - Chapter 5: Mass Production, European Cooperation In Science And Technology, Unit

Course Code
COMM 112
Teri Shearer

of 3
Those firms producing similar products and services use process-costing accounting systems
o Mass production of similar products factories
The cost of one product is the same as the cost of the identical product
Process firms accumulate production costs by process or by department for a given period
The output is measured
Unit costs are computed by dividing the process costs by the output
Looked at in chapter 6
Firms producing unique product or services require a job-order accounting system
o Real estate, remodeling homes, custom suits, construction, etc.
Customized products to fit the needs of different customers
Costs are assigned and accumulated by job
Production costs: direct materials, direct labour, and overhead
DM and DL are easy to trace but overhead is not
o Solution: apply overhead to production
Job-costing uses normal costing
Actual costing: require firm to use the actual cost of DM, DL and overhead to determine unit cost
o It is rarely used because they cannot provide accurate unit cost information on a timely basis
o Per-unit consumption of DL and DM isn’t the problem
o Overhead items do not have a direct relationship so you shouldn’t just take the total overhead and
divide it up by the number of units produced
o Overhead costs don’t occur uniformly over the year
EX: you only have a machine breakdown at a certain time of the year not uniform
o SO, you can't wait until the end of the year to compute overhead costs
Normal costing: requires firm to assign actual costs of DM and DL to units produced and to apply overhead to
units based on a predetermined estimate
o Determines unit cost by estimating overhead and adding it to DM and DL
o You estimate at the beginning of the year and then use a predetermined rate throughout the year
STEP 1: calculate the predetermined overhead rate
Calculated at the beginning on the year
Overhead rate = estimated annual overhead / estimated annual activity level
Often based on last year’s activity and then adjusted for the coming year
The activity depends on what is most related to overhead
o EX: number of machine hours can be associated with a firm who automates a lot
STEP 2: apply overhead to production
Once overhead rate is computed, you can apply the rate to the production
Overhead is applied by multiplying the predetermined overhead rate by the actual use of the associated activity
STEP 3: determine actual overhead and allocate overhead to WIP and finished goods
Overhead applied to production is computed throughout the year and is added to actual DM and DL to get total
product cost
At the end of the year, you have to reconcile any difference between actual and applied overhead
Under applied = when you estimate less than actual = understated costs = ADD to cogs
Over applied = when you estimate more than actual = overstated costs = SUBTRACT from cogs
Entire overhead variance is assigned to COGS
o Overhead variance is usually small
o AND, all production costs get moved to COGS eventually
Plant-wide overhead rate: a single overhead rate calculated by using all estimated overhead
Departmental overhead rate: split up by departments then you can add them all together in the plant
Unit cost = the total cost of a job / number of units in the job
o Total cost = Materials used, labour worked, applied overhead
Convert inputs (materials, labour, overhead) into outputs
Retailers have a lower degree of conversion compared to service companies like construction
Firms with high degree of conversion have 3 inventory accounts:
o Raw materials
o Work in process inventory
o Finished goods inventory
Prepared for every job it is a supplement to the QIP account
It is the primary document for accumulating all costs related to a particular job
Contains: job description, and cost of materials, labour, and overhead added during the month
Work in process contains all the work that is incomplete
Describes the way costs are accounted for from the point at which they are incurred to the point that they are
made into an expense in an income statement
Describes how manufacturing costs (DM, DL, and overhead) flow from WIP, to finished goods, into COGS
If the company is just starting off, it has no beginning inventories you have to purchase your materials
Purchases increase raw materials account
When you need to materials to start work, you take them out of raw materials and into WIP
When the materials are in use, you increase DM under the WIP and DL under the WIP (look at pic above)
You have to determine the number of total direct labour hours worked AND the hours spent on each job
Hours spent on job 1 + job 2 = total labour hours
Individual job hours go into WIP account and the total of those hours goes into wages payable
Use of normal costing means that actual overhead costs are not assigned directly to jobs
Overhead is applied to each job using a predetermined rate
Actual overhead costs incurred must be accouted for as well BUT not on a job-specific basis
Overhead costs are assigned using a plant wide or department wide rate
o Plant wide rate used direct labour for its calculation
It is simple and reduces data collection
Estimated overhead rate/direct labour hours = overhead rate PER hour
o Department wide rates are based on DL, DM, machine hours
When you have the rate per hour, then you multiply this rate to the amount of DL hours spent on each product
Note: actual overhead costs never enter the WIP account
You record the overhead to the overhead control account
THEN, at the end of the period, actual overhead is reconciled with assigned overhead
Is variance is smaller, then it is closed to COGS
When a job is complete, DM DL and applied overhead are totalled to yield the manufacturing cost of the job
A summary of cost flows is done when a job is finished
o ADD PIC 10
Completion of job is important in the flow of manufacturing costs
WIP finished goods COGS income statement
Need to make cost of goods manufactured statement
o Applied overhead is used! NOT actual overhead
o ADD PIC 11
If goods are made specifically for a customer and given to the customer right away, the cost of finished jobs
becomes the COGS
o Take out of WIP, put into finished, take out all of the finished and put same amount into COGS
Schedule of COGS is prepared
o ADD PIC 12
Overhead variance needs to be closed to the COGS amount
Normal COGS: before adjustment of overhead variance
Adjusted COGS: after adjustment of overhead variance
There are 2 COGS figures in the statement of cost of goods sold applied and actual