JOB ORDER COSTING

- Accumulates manufacturing costs by job then separates the record for the accumulated
cost of each job

COST VALUATION METHOD

Absorption costing
-PRODUCT COSTS include: direct materials, direct labour, variable overhead, and fixed
overhead
- PERIOD COSTS include: selling and administrative costs (Whether variable/fixed)
-Traditional

Throughput costing
- PRODUCT COSTS include: direct materials only
- PERIOD COSTS include: Direct Labour, variable overhead, fixed overhead, selling and
administrative costs

Variable Costing
- PRODUCT COSTS include: Direct materials,Direct labour, variable overhead
- PERIOD COSTS include: Fixed overhead, selling and administrative costs

COST ACCUMULATION SYSTEM

1. Job order costing system - for entities that make small quantities, distinct batches of
identifiable, unique products (or service)

2. Process costing system - large quantities of homogenous goods

JOB ORDER COSTING SYSTEM:

(1) Cost identification (2) Cost measurement (3) Product cost assignment
* Costs are accumulated individually by job
a. A job is a single unit that are identifiable that is produced to distinct customer
specifications
b. Job is treated as a unit cost object
c. Direct materials, direct labour, and overhead costs must be accumulated
d. Normal costing valuation is used
e. Overhead costs must be allocated to production as it is not usually traceable

* Output of a given job can be a single unit or multiple similar or dissimilar units
a. Total accumulated job
No. of units produced
= cost per unit
b. No cost per unit if the output consists of dissimilar units

KEEPING TRACK OF JOB COSTS WITH SOURCE DOCUMENTS

Job Order Costs Sheets

- Subsidiary ledger to the work-in-process account
- Total costs of all job-cost sheets MUST be equal to the total controlling work-in-process
account
- Identifies the job, materials, labour, and overhead costs

* If units produced equal units sold, no difference in net income reported for absorption, variable,
and throughput costing
* the cost of goods sold of absorption costing will be higher than variable costing
* period costs of absorption costing will be lower than variable costing
* Both costing approaches have the same net income figures (Also with variable and throughput
costing)

SOURCE DOCUMENTS:
● Job order cost sheet
● Materials requisitions
● Job time tickets/timesheets
● Other source documents

JOB ORDER COST SHEET

* Total cost for uncompleted jobs should reconcile to the work-in-process inventory
control in the general ledger
* Direct materials can be found at the material requisition forms
* Direct labour is found in the timesheets/employee labour tickets
* Overhead applied to production is found by Predetermined Overhead rate

MATERIAL REQUISITION:
- Identifies the quantity, type and cost of materials

Journal entry:
WIP inventory (for DM) xx
Manufacturing overhead (For IM) xx
Raw materials inventory xx

* Completed Material requisition forms provide the ability to verify the flow of materials from
the warehouse to the department and job that received the materials
* usually prenumbered and come in multi-copy sets

JOB TIME TICKETS/TIMESHEETS

- Used to assign labour costs to jobs
- Also provides information on overtimes hours
- Can be audited by the buyer as with government contracts or other buyers

Journal entry:
WIP inventory (for DM) xx
Manufacturing overhead (For IM) xx
Salaries and wages payable xx

ACCOUNTING FOR OVERHEAD COSTS (JOB ORDER)

Actual Overhead Costs are recorded in the overhead control account:

1. Indirect materials
2. Indirect labour, overtime premium, and idle time
3. Invoices received from outside suppliers for utilities, rent, repairs, property tax, etc
4. Internal transfers of costs such as depreciation and expiration of prepaid insurance

* Actual Overhead costs are debited to overhead account

* Applied overhead costs are credited to overhead account
* Applied overhead costs are debited to the WIP account

Other source documents

Job order cost sheets are for UNFINISHED jobs serve as subsidiary ledger for WIP
ACCOUNTING FOR COST OF GOODS SOLD

*If overhead variance is immaterial, it is treated as an adjustment of cost of goods sold

● Normal Cost of Goods sold - before adjustment for an overhead variance

● Adjusted Cost of goods sold - Normal cost of goods sold after adjustment

ACCOUNTING FOR NON MANUFACTURING COSTS

Selling and general administrative costs (Non-manufacturing costs) are not assigned to the
product
Selling and administrative expenses appear on the income statement

Completion of production
Job cost sheets for completed products are transferred to the Finished goods inventory
file (Serves as the subsidiary ledger for finished goods)

Finished Goods inventory xx

WIP inventory xx

If sold,

Cost of goods sold xx

Finished Goods inventory xx

* Job costs sheets for sold jobs are kept in a company’s permanent file

PRODUCT AND MATERIAL LOSSES IN JOB ORDER COSTING

Examples of product and material losses in partially completed and finished goods

Shrinkage defects - production process errors that can be economically reworked

Shrinkage defects include:

- Evaporation
- Leakage
- Oxidation

Spoilage - production process errors that cannot be economically reworked

- Normal Loss - loss that falls between the tolerance level expected and is part of the
cost of the job
- Abnormal Loss - Loss that is more than expected during production and is written off
as period cost
GENERALLY ANTICIPATED LOSS ON ALL JOBS (GENERAL)

If normal Loss is generally anticipated on all jobs.

Predetermined rate should include all net costs of the loss:

Net cost of the loss = Cost of defective or spoiled work - estimated disposal value
*At any work*

**Such losses are naturally inherent or unavoidable in the production of goods and product
and estimated loss should be allocated to the goods produced

SPECIFICALLY IDENTIFIED WITH A PARTICULAR JOB

If losses are anticipated in specific jobs, the estimated cost should not include in setting a
predetermined overhead application rate

Disposal value reduces the costs of the job that created those goods

Journal entry:

Disposal value of defective work xx

WIP - Job # xx

ABNORMAL SPOILAGE
- Written off as period costs
- Should be separately identified and investigated to prevent future recurrences

● Disposal value of defective work - defective inventory’s disposal value

● Manufacturing overhead - net cost of normal spoilage
● Loss from abnormal spoilage - net cost of unnecessary and unanticipated spoilages in
setting the predetermined application rate\

Journal Entry:
Disposal Value of Defective Work xx
Manufacturing overhead xx
Loss from Abnormal spoilage xx
WIP-Job # xx
OTHER NOTES:
Prime cost = cost of raw material + Direct labour
Conversion cost = direct labour + Manufacturing overhead costs
PROCESS COSTING: (WEIGHTED AVERAGE METHOD)

SIMILARITIES OF JOB ORDER AND PROCESS COSTING

- Accumulates costs by cost component in each production department

DIFFERENCE BETWEEN JOB ORDER AND PROCESS COSTING

Job order costing are assigned to specific jobs while process costing uses averaging
technique to assign costs
Cost assignment is essentially an averaging process

UNIT COST = Sum of Production Costs (or period’s departmental production costs)
Production quantity (or period’s production quantity)

NUMERATOR (of Unit cost formula):

- Sum of the actual direct materials, actual direct labour, and actual predetermined
overhead cost of the period

Cost accumulation difference between job order and process

- Direct materials, direct labour, and overhead costs are accumulated for each job in job
order costing
- Larger amounts of direct materials, direct labour, and overhead are accumulated for
each department in process costing

DENOMINATOR: (Of Unit cost Formula)

- Represents the total departmental production during the period
- If 100% of units are completed, simply count the units to obtain denominator
- If WIP at the end represent partially completed, they become beginning inventory in
the next period
- Process costing assigns costs to fully completed and partially completed
- Mathematically convert partially completed units into equivalent whole units by
Equivalent Units of Production (EUP)

EQUIVALENT UNITS OF PRODUCTION (EUP)

- Approximation of the number of whole units of output that could have been
produced during the period
Remember:
- Goods that are incomplete at the end of the last period become the first one to
complete during current period- hence, add the costs related to the units incurred last
and during the current period
- For units that are begun but not completed during the current period, the costs incurred
in the current period will incur another additional cost next period due to the
production efforts
WEIGHTED AVERAGE PROCESS COSTING METHOD
- Computes an average cost per equivalent unit of production
- Combines beginning inventory units and costs with current production and costs,
respectively to compute the average
- Not concerned about what quantity of work was performed prior period
- Focuses on units that are completed in the current and units remaining in the
ending inventory
- Does not distinguish between units in beginning inventory and units entering production

UNIT COST = Beginning Inventory Costs + Current Period Costs

Weighted Average Equivalent units of production

= Total Costs incurred

Total Equivalent units of effort

WEIGHTED AVERAGE PROCESS COSTING METHOD:

1. Calculate the physical units to be accounted

2. Calculate the physical units accounted (Check if Step 1= Step 2)
3. Determine the equivalent units of production
4. Determine the total cost to account for
5. Calculate the cost per equivalent unit
6. Assign costs to units completed and transferred out and units in ending WIP (Verify total
costs transferred out plus costs in ending inventory = step 4)

- The steps can be combined into a cost of production report

Cost of production report

- Details all operating and cost information, shows computation of cost per equivalent unit,
indicates cost assignment to goods produced during the period

Total Units to account for

- Sum of whole and partial units worked on in the department during the current period
- Equal to actual beginning inventory units plus actual units started
- Sum of balance in WIP, beg. Plus all current costs for direct materials, direct labor, and
overhead

* Costs must be assigned to goods transferred from WIP to finished goods (or another
department)
* A value must be assigned to goods in WIP at the end of every period

WEIGHTED AVERAGE METHOD PROCEDURES:

Step 1: calculate the total units to be accounted

Step 2: Calculate the total units accounted
Units fit into one of two categories:
● Units completed and transferred
● Partially completed units remaining in WIP, ending
Step 3: Determine EUP
EUP is completed separately for:
● Direct materials
● Labour and overhead
Step 4: Determine the total cost to account for
Step 5: Calculate the cost per equivalent unit
Step 6: Assign costs to inventories

SPOILAGE:
- Represents units from production that does not meet standards
- Cost of normal losses are ONLY assigned to units that have passed the inspection
point
- Cost of normal losses is a product cost
- Abnormal losses are expensed in the current period

FIFO (FIRST IN FIRST OUT) METHOD

- Computes average cost per equivalent unit of production using ONLY current period
production and cost information
- Units and costs in beginning inventory are separately sent to Finished goods
inventory
- Separates beginning inventory and current period production and their costs
- Realistically reflects the way in which most goods actually flow through the production
system
- Does not commingle units and costs of different periods
- Focus is specifically on the work performed during the current period
- EUP schedule shows only that work

UNIT COST = Current period costs

Equivalent units of production

- Separate EUP calculations must be made for each cost component

- Some direct materials must be introduced at the start of a production process
- The beginning material is 100% complete throughout the process regardless of the
percentage of completion of labour and overhead
- Additional materials may be added at any point
- A single materials computation may be made if all materials are at the same
degree of completion
- Multiple equivalent unit calculations will have to be made if multiple materials are
used and are placed at different points in time
 - 1% of completion estimate may be made and used for direct labour and overhead if
overhead is applied on a direct labour basis or direct labour and overhead are added to
the same product at the same rate
- Overhead costs are more likely to be caused by cost drivers other than direct
labour; Companies will make single computations for conversion equivalent units less
often
- Calculation of equivalent units of production requires that a cost flow must be specified -
either weighted average of FIFO
- Only difference between weighted average and FIFO is the work performed in the
prior period on beginning inventory is NOT included in the current period EUP
using FIFO.

FIFO PROCEDURE:

Step 1 and Step 2 are the same with average method

Step 3: Determine EUP under FIFO
● Work performed last period is not commingled with work of the current period
● ONLY WIP beginning inventory during the current period is shown in the EUP sched
● The work = the whole units in beginning inventory x (1-% of work done in the prior
period)
Step 4: Determine the total cost to account for
Step 5: Calculate the cost per equivalent unit
Step 6: Assign costs to inventories

SPOILAGE:

Detection point: (Inspection point)

1. Discrete (Specific)
EUP Effect:

Beginning = 0%
End = 100%
Certain percentage = 50%

2. Continuous = 100%

Treatment:

Normal Spoilage: Add the equivalent cost of the units to the cost of goods units
1. Detected at the END = Charged in full to fully completed and transferred
2. Certain point = Pro-rata on the EUP

Abnormal Spoilage: Taken out of the production and charged to OPEX

Materials:
Start = 100%
Every = depends
End = 0%

Conversion costs:
Continuous = 100%
** In cases of ABNORMAL SPOILAGE, Do NOT include it in the accounted for and make a
separate table for it

ABC COSTING/ ACTIVITY BASED COSTING

- Also called “New ManufacturingEnvironment”
- Highlights Factory Overhead
- Product of development of technology

RELEVANT TERMS:
● Activity- A repetitive action performed in fulfillment of a business function
● Activity Cost Pool - Total costs incurred by a specific activity
● Activity Driver- factor that has a direct cause-effect relationship with activity cost
pool

ACTIVITY-BASED COSTING
- Increase in proportion of Overhead Costs in the total product costs warrants a closer
look and a better way of assigning these costs
- Focuses on more appropriate assignment of overhead costs
ABC allocates overhead costs by:
1. Identify activities that drive overhead costs
2. Determine the cost of each activity
3. Identify the cost driver for each activity
4. Calculate for the cost rate for each activity
5. Assign the costs based on actual consumption or usage per activity

WHEN MUST A COMPANY USE ABC?

● Product lines differ in volume and manufacturing complexity
- Hard to make products show big profits
- Easy to make products show losses
● Product lines are numerous and diverse
● Overhead costs constitutes a significant portion of the total costs
● Automation makes it difficult to assign overhead costs using direct labour or
machine hours
● Significant change in manufacturing process of number of products
● When consumption of Overhead resources is not primarily driven by volume

POTENTIAL EFFECTS OF ABC

● Cost is reduced for high volume,standard products
● Cost is increased for low volume, complex specialty products

ADVANTAGES OF ABC
● Technology costs are traced directly to products
● Identification of cost drivers that directly influence cost
● Translate company goals into activity goals

CRITICISMS against ABC

● Requires significant amount of time and cost to implement
● Must overcome barriers to change
● Does not conform to IFRS or GAAP
- IAS 2 Inventories prescribes the use of traditional costing in determining the
products to be carried as part of inventories

CONTRIBUTING FACTORS TO THE SUCCESSFUL IMPLEMENTATION OF ABC

● Strong Top management support
● Link to evaluation and rewards

STEPS FOR IMPLEMENTING ACTIVITY-BASED COSTING:

1. Define activities, activity cost pools, and activity measure
2. Assign Overhead costs to activity cost pools
3. Calculate activity rates
 4. Assign Overhead costs to cost objects using the activity rates and measures to products
or services
5. Prepare management reports for analysis and decision-making

TYPES OF ACTIVITY DRIVERS

● Transaction Driver
● Duration Driver

CALCULATION OF ACTIVITY RATE

Activity Rate = Activity Cost pool

Estimated Activity level for the period

Cost to be Assigned = Activity rate x Actual Driver Usage

Classification of Costs Based on Activity Levels

ACTIVITY LEVEL COST DESCRIPTION EXAMPLE

Unit Level Costs Every unit of production Materials. Labor

manufactured

Batch level costs Each time a batch is handled Purchase orders, equipment
or processed set ups. Shipments,
 inspection

Product level costs/process Specific product line or Product design, product

level process advertising

Customer level costs Specific customers Sales calls, catalog mailings

Organizational level or Sustaining the whole Building depreciation, plant

facility level costs organization or facility manager’s salary

ACTIVITY-BASED MANAGEMENT
- Extension of ABC
- Management function that focuses on reducing costs and improve decision making

Classified generally into (2)

● Value Added Activity (VA) - increases the worth of the product; customer is willing to
pay
● NonValue Added Activity (NVA) - increases time spent on product without
increasing market value; unnecessary from customer perspective; Cam be reduced,
redesigned without affecting market value/product quality

** Business Value Added Activity (BVA) - NVA activities that are essential to business
operation; customers not willing to pay

CYCLE TIME = Value Added Activity + Non value Added Activity

MANUFACTURING CYCLE EFFICIENCY (MCE) = Value Added Activities

Total Cycle time

ADDITIONAL NOTES:
● Eliminate or minimize activities that add the most time and least value
● Reduces NVAs will increase MCE
● 100% MCE is unrealistic
● Just in time management increases MCE

NOTES WHEN COMPUTING:

Predetermined Overhead rate = Spreading Overhead / Direct labour hours