ACCOUNTING FOR PRODUCTION LOSSES (JOB ORDER COSTING)

Cost Accounting Review Papers

 TYPES OF QUALITY COSTS

Prevention Costs – costs incurred to prevent product failure
Appraisal Costs – costs incurred to detect product failure
Failure costs – costs incurred when a product fails
 Internal failure costs : occur during the production process
 External failure costs : occur after the product has been sold

 TOTAL QUALITY MANAGEMENT (TQM)

- A company wide approach to quality improvement that seeks to improve quality in all
processes and activities

 Common Characteristics of TQM

 The company’s objective for all business activity is to serve its customers
 Top management provides an active leadership role in quality management
 All employees are actively involved in quality improvement
 The company has a system of identifying quality problems, developing solutions, and
settling quality-improvement objectives
 The company places a high value on its employees and provides continuous training as
well as recognition for achievement

Continuous Quality Improvement – presumes that constraints change over time as

techniques, practices, and customers’ needs change
- Requires constant effort of everyone in the company

 PRODUCT AND MATERIAL LOSSES (JOB ORDER COSTING)

Accounting for Scrap
- residual material that results from manufacturing a product
- can sometimes be sold for relatively small amounts
- examples: short lengths from woodworking operations, edges from plastic molding
operations, and frayed cloth and end cuts from suit-making operations

Recognizing scrap at the time it is sold

Cash or AR xx
Recognizing scrap at the time of its sale
Scrap revenues xx
(treated as additional revenue)
Cash or AR xx
Scrap Attributable to Specific Job Work in Process Inventory xx

Cash or AR xx
Scrap Common to All Jobs Factory Overhead, Control xx
Recognizing scrap at the time it is produced
Scrap Inventory xx
Scrap Attributable to a Specific Job Work in Process Inventory xx

Scrap Inventory xx
Scrap common to all jobs Factory Overhead, control xx

Cash or AR xx
When scrap is sold Scrap Inventory xx

Scrap initially treated as attributable to a specific job:

Cash or AR xx
Scrap is sold for more or less than the value
Work in Process Inventory xx
for which it is recorded
Scrap Inventory xx
Gist: any difference between the sales price
Scrap initially treated as common to all jobs:
and the recorded value is treated as an
adjustment to the account that was originally Cash or AR xx
credited (WIP or FOC) Factory Overhead, control xx
Scrap Inventory xx

Scrap is reused as direct materials rather than sold as scrap

Materials xx
Scrap returned to storeroom Factory Overhead Control xx

Work in process Inventory xx

Reuse of scrap Materials xx

Normal vs. Abnormal Loss

 Normal Loss – expected during production
- Anticipated on all jobs
- Include cost when calculating predetermined overhead application rate
- Include cost less the estimated disposal value
 Abnormal Loss – exceeds what is expected during production
o Period cost – includes cost of abnormal loss less any disposal value
Accounting for Spoilage or Spoiled Goods
- Goods that have been damaged through imperfect machining or processing
- Spoiled goods cannot be corrected because it is not technically possible or economical to
correct them

Illustrative Problem: Plastico. Inc. manufactures 1,000 custom designed plastic chairs for San
Juan Inc. on Job 876. One hundred (100) chairs are found to be spoiled after their completion.
These 100 chairs are not usable to the customer and are not correctable to an acceptable
condition. Nevertheless, Plastico can sell 100 chairs as seconds to Francis for P50 each. An
additional 100 chairs are manufactured to meet San Juan Inc.’s order Total cost of the Job is

Normal Spoilage – Charge to Specific job

- Normal in particular job or due to strict specifications
- Salvage value is removed from WIP

Spoiled goods inventory [100x50] 5,000

Finished Goods Inventory [71.5k-66.5k] 66,500
Work in Process Inventory 71,500

-------------------------------- or -------------------------------------------
Spoiled goods inventory 5,000
Work in Process Inventory 5,000
Completion of the product To remove estimated disposal value of spoiled goods
from WIP [100 x 50]

Finished Goods Inventory 66,500

Work in process Inventory 66,500
To record the cost of the completed tables
[71.5k-66.5k]

Cash or AR 99,750
Sales [66,500 x 150%] 99,750
Sale of finished goods
Cost of Goods Sold 66,500
Finished Goods 66,500

Cash or AR 5,000
Sale of spoiled goods Spoiled Goods Inventory 5,000
Normal Spoilage – Charge to All Jobs (internal failure)
- Inherent in the regular manufacturing process; due to internal failure brought by an
employee error or worn-out machinery
- Unrecovered cost of the spoiled goods should be charged to Factory Overhead
Control
- Include the estimated unrecoverable cost when calculating predetermined overhead
application rate

Completion of the product Spoiled Goods Inventory [100 x 50] 5,000

Factory Overhead Control 1,500
FG Inventory [71.5k-5k-1.5k] 65,000
Work in Process 71,500

--------------------------------- or ------------------------------------------

Spoiled Goods Inventory [100 x 50] 5,000

Factory Overhead Control 1,500
Work in Process 6,500
To record estimated sales value of spoiled goods and
charged loss to manufacturing overhead control

Finished Goods Inventory 65,000

Work in Process Inventory 65,000
To record cost of good tables completed [71.5k -6.5k]

Sale of the finished goods Cash/AR 97,500

Sales [65,000 x 150%] 97,500

Cost of Goods Sold 65,000

Finished Goods Inventory 65,000

Sale of the spoiled goods Cash/AR 5,000

Spoiled Goods Inventory 5,000

Abnormal Spoilage
- Loss in excess of the set expectation level or due to extraordinary factors beyond the
control of production mean (ex: flood or earthquake)
- The cost of spoilage is treated as period cost

Completion of the product Spoiled Goods Inventory [100 x 50] 5,000

Loss from abnormal spoilage 1,500
FG Inventory [71.5k-5k-1.5k] 65,000
Work in Process 71,500

--------------------------------- or ------------------------------------------
 Spoiled Goods Inventory [100 x 50] 5,000
Loss from abnormal spoilage 1,500
Work in Process 6,500
To record estimated sales value of spoiled goods and
charged loss to manufacturing overhead control

Finished Goods Inventory 65,000

Work in Process Inventory 65,000
To record cost of good tables completed [71.5k -6.5k]

Sale of the finished goods Cash/AR 97,500

Sales [65,000 x 150%] 97,500

Cost of Goods Sold 65,000

Finished Goods Inventory 65,000

Sale of the spoiled goods Cash/AR 5,000

Spoiled Goods Inventory 5,000

Reworking Defective Goods

- Rework is the process of correcting defective units in order to bring them into salable
condition
- For example: defective units of products (such as pagers, computers, and telephones)
detected during or after the production process but before units are shipped to
customers can sometimes be reworked and sold as good products

Illustrative Problem: Plastico. Inc. manufactures 1,000 custom designed plastic chairs for San
Juan Inc. on Job 876. One hundred (100) chairs are found to be defective and they were
reworked to an acceptable condition. Total cost of the job is P 71,500. An additional rework cost
P 2,000 materials and P 500 labor were incurred and P1,500 was applied as overhead to meet
San Juan Inc.’s order. Plastico normally sells its work at 150% of cost

Normal Defective Goods – (Charged to a Specific Job)

- Due to exacting specifications or customer-imposed standards
- The rework costs are charged to Work in Process Inventory account

WIP Inventory 4,000

Raw materials inventory 2,000
To record cost of rework Factory Payroll or Wages Payable 500
Factory Overhead, Control 1,500

FG Inventory [71,500 + 4,000] 75,500

To record completion
WIP Inventory 75,500
 Cash or AR [75,500 x 150%] 113,250
Sales 113,250
To record the sale Cost of Goods Sold 75,500
Finished Goods Inventory 75,500

Normal Defective Goods – (Charge to All Jobs)

- Not attributable to a specific job; due to internal failure brought about by an
employee error or worn-out machine
- The rework costs are charged to Factory Overhead, and are spread to all jobs
- Include estimated rework cost when calculating predetermined overhead application
rate

Factory Overhead, Control 4,000

Raw materials inventory 2,000
To record cost of rework Factory Payroll or Wages Payable 500
Factory Overhead, Control 1,500

FG Inventory 71,500
To record completion WIP Inventory 71,500

Cash or AR [71,500 x 150%] 107,250

Sales 107,250
To record the sale
Cost of Goods Sold 71,500
Finished Goods Inventory 71,500

Abnormal Defective Goods

- Due to extraordinary factors
- The rework costs are recorded to a loss account (period cost)

Loss from abnormal rework 4,000

Raw materials inventory 2,000
To record cost of rework Factory Payroll or Wages Payable 500
Factory Overhead, Control 1,500

FG Inventory 71,500
To record completion WIP Inventory 71,500

Cash or AR [71,500 x 150%] 107,250

Sales 107,250
To record the sale
Cost of Goods Sold 71,500
Finished Goods Inventory 71,500
In a Nutshell: Accounting for Scrap
Scrap is material residue from normal manufacturing operations
 If the value of scrap is immaterial, no record is made until it is sold. The simplest
recording procedure is to credit the proceeds to Scrap Revenue (other income)
 If the value of scrap is material, the proceeds may be credited to Work in Process
(if scrap is attributable to specific job) or to Manufacturing Overhead (if scrap is
common to all jobs)
 For high value scrap, the amount of scrap is recorded to a Scrap Inventory
account

 Waste as distinguished from scrap materials refers to the amount of raw materials
leftover from a production process for which there is no further use. Waste is not
usually salable at any price and must be discarded.

In a Nutshell: Accounting for Spoilage