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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
Chapter Three
Systems Design:Job-Order Costing
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Learning Objective 1
Distinguish between
process costing and job-order costing and identifycompanies that would use
each costing method.
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Types of Product Costing Systems
ProcessCosting
Job-orderCosting
A company produces many units of a singleproduct.
One unit of product is indistinguishable fromother units of product.
The identical nature of each unit of product enablesassigning the same average cost per unit.
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Types of Product Costing Systems
ProcessCosting
Job-orderCosting
A company produces many units of a singleproduct.
One unit of product is indistinguishable fromother units of product.
The identical nature of each unit of product enablesassigning the same average cost per unit.
Example companies:
1. Weyerhaeuser (paper manufacturing)2. Reynolds Aluminum (refining aluminum ingots)3. Coca-Cola (mixing and bottling beverages)
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Types of Product Costing Systems
ProcessCosting
Job-orderCosting
Many different products are produced each period.
Products are manufactured to order.
The unique nature of each order requires tracing orallocating costs to each job, and maintaining costrecords for each job.
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Types of Product Costing Systems
ProcessCosting
Job-orderCosting
Many different products are produced each period.
Products are manufactured to order.
The unique nature of each order requires tracing orallocating costs to each job, and maintaining costrecords for each job.
Example companies:1. Boeing (aircraft manufacturing)
2. Bechtel International (large scale construction)3. Walt Disney Studios (movie production)
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Comparing Process and Job-Order Costing
Job-Order Process
Number of jobs worked Many Single Product
Cost accumulated by
Job Department
Average cost computed by Job Department
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Quick Check
Which of the following companies wouldbe likely to use job-order costing ratherthan process costing?
a. Scott Paper Company for Kleenex.
b. Architects.
c. Heinz for ketchup.
d. Caterer for a wedding reception.
e. Builder of commercial fishing vessels.
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Quick Check
Which of the following companies wouldbe likely to use job-order costing ratherthan process costing?
a. Scott Paper Company for Kleenex.
b. Architects.
c. Heinz for ketchup.
d. Caterer for a wedding reception.
e. Builder of commercial fishing vessels.
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Learning Objective 2
Identify the documentsused in a job-order costing
system.
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ManufacturingOverhead
Job No. 1
Job No. 2
Job No. 3
Chargedirect
material anddirect labor
costs to
each job aswork isperformed.
Job-Order Costing An Overview
Direct Materials
Direct Labor
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ManufacturingOverhead,includingindirect
materialsandindirect labor,are allocated
to all jobsrather thandirectly tracedto each job.
Direct Manufacturing Costs
Direct Materials
Direct Labor
Job No. 1
Job No. 2
Job No. 3ManufacturingOverhead
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PearCo Job Cost SheetJob Number A - 143 Date Initiated 3-4-05
Date CompletedDepartment B3 Units CompletedItem Wooden cargo crateDirect Materials Direct Labor Manufacturing Overhead
Req. No. Amount Ticket Hours Amount Hours Rate Amount
Cost Summary Units ShippedDirect Materials Date Number BalanceDirect LaborManufacturing OverheadTotal CostUnit Product Cost
The Job Cost Sheet
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Measuring Direct Materials Cost
Will E. Delite
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Measuring Direct Materials Cost
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Measuring Direct Labor Costs
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Job-Order Cost Accounting
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Learning Objective 3
Compute predeterminedoverhead rates and
explain why estimatedoverhead costs (ratherthan actual overhead
costs) are used in thecosting process.
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Why Use an Allocation Base?
Manufacturing overhead is applied to jobs thatare in process. An allocation base, such asdirect labor hours, direct labor dollars, or
machine hours, is used to assignmanufacturing overhead to individual jobs.
We use an allocation base because:
1. It is impossible or difficult to trace overhead costs to particular jobs.
2. Manufacturing overhead consists of many different items rangingfrom the grease used in machines to production managers salary.
3. Many types of manufacturing overhead costs are fixed even thoughoutput fluctuates during the period.
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The predetermined overhead rate (POHR)used to apply overhead to jobs is
determined before the period begins.
Manufacturing Overhead Application
Estimated total manufacturingoverhead cost for the coming period
Estimated total units in theallocation base for the coming period
POHR =
Ideally, the allocation baseis a cost driver that causes
overhead.
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Using a predetermined rate makes itpossible to estimate total job costs sooner.
Actual overhead for the period is notknown until the end of the period.
The Need for a POHR
$
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Actual amount of the allocationbased upon the actual level of
activity.
Based on estimates, anddetermined before the
period begins.
Application of Manufacturing Overhead
Overhead applied = POHR Actual activity
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For each direct labor hour worked on aparticular job, $4.00 of factory overhead
will be applied to that job.
Overhead Application Rate
POHR = $4.00 per DLH
$640,000
160,000 direct labor hours (DLH)POHR =
Estimated total manufacturingoverhead cost for the coming period
Estimated total units in theallocation base for the coming period
POHR =
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Job-Order Cost Accounting
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Job-Order Cost Accounting
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Interpreting the Average Unit Cost
The average unit cost should not be interpretedas the costs that would actually be incurred if an
additional unit were produced.
Fixed overhead would not change if another unitwere produced, so the incremental cost of
another unit may be somewhat less than $118.
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Quick Check
Job WR53 at NW Fab, Inc. required $200 ofdirect materials and 10 direct labor hours at$15 per hour. Estimated total overhead forthe year was $760,000 and estimated direct
labor hours were 20,000. What would berecorded as the cost of job WR53?
a. $200.
b. $350.c. $380.
d. $730.
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Quick Check
Job WR53 at NW Fab, Inc. required $200 ofdirect materials and 10 direct labor hours at$15 per hour. Estimated total overhead forthe year was $760,000 and estimated direct
labor hours were 20,000. What would berecorded as the cost of job WR53?
a. $200.
b. $350.c. $380.
d. $730.
Pred. ovhd. rate $760,000/20,000hours $38
Direct materials $200Direct labor $15 x 10 hours $150
Manufacturing overhead $38 x 10 hours $380
Total cost $730
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Learning Objective 4
Understand the flow ofcosts in a job-order
costing system andprepare appropriate
journal entries to record
costs.
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Job-Order CostingDocument Flow Summary
A sales order is thebasis of issuing aproduction order.
A productionorder initiateswork on a job.
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Job-Order CostingDocument Flow Summary
Job CostSheets
MaterialsRequisition
ManufacturingOverheadAccount
Directmaterials
Indirectmaterials
Materials usedmay be either
direct orindirect.
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Job-Order CostingDocument Flow Summary
Job CostSheets
Employee TimeTicket
ManufacturingOverheadAccount
An employeestime may be eitherdirect or indirect. DirectLabor
IndirectLabor
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Job-Order CostingDocument Flow Summary
ManufacturingOverheadAccount
OtherActual OHCharges
Job CostSheets
Applied
Overhead
MaterialsRequisition
EmployeeTime Ticket
Indirect
Material
Indirect
Labor
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Learning Objectives 4 & 7
Understand the flow of costsin a job-order costing system
and prepare appropriatejournal entries to record costs.
Use T-accounts to show the
flow of costs in a job-ordercosting system.
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Job-Order Costing: The Flow of Costs
The transactions (in T-account and journal entry
form) that capture theflow of costs in a job-
order costing system areillustrated on thefollowing slides.
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Raw MaterialsMaterial
Purchases
Mfg. Overhead
Work in Process(Job Cost Sheet)
Actual Applied
DirectMaterials Direct
Materials
IndirectMaterials
Indirect
Materials
The Purchase and Issue of Raw Materials
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Cost Flows Material Purchases
Raw material purchases are recorded in aninventory account.
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Cost Flows Material Usage
Direct materials issued to a job increase Work inProcess and decrease Raw Materials. Indirectmaterials used are charged to ManufacturingOverhead and also decrease Raw Materials.
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Th R di f L b C
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Mfg. Overhead
Salaries andWages Payable Work in Process(Job Cost Sheet)
DirectMaterials
DirectLabor
DirectLabor
IndirectMaterials
Actual Applied
IndirectLabor
IndirectLabor
The Recording of Labor Costs
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Th R di f L b C t
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The Recording of Labor Costs
The cost of direct labor incurred increases Work inProcess and the cost of indirect labor increases
Manufacturing Overhead.
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R di A l M f i O h d
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Mfg. Overhead
Salaries andWages Payable Work in Process(Job Cost Sheet)
DirectMaterials
DirectLabor
DirectLabor
IndirectMaterials
Actual Applied
IndirectLabor
IndirectLabor
Recording Actual Manufacturing Overhead
Other
Overhead
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R di A t l M f t i O h d
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Recording Actual Manufacturing Overhead
In addition to indirect materials and indirect labor,other manufacturing overhead costs are charged to
the Manufacturing Overhead account as they areincurred.
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L i Obj ti 5
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Learning Objective 5
Apply overhead cost toWork in Process using apredetermined overhead
rate.
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A l i M f t i O h d
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Mfg. Overhead
Salaries andWages Payable Work in Process(Job Cost Sheet)
DirectMaterials
DirectLabor
DirectLabor
IndirectMaterials
Actual Applied
IndirectLabor
IndirectLabor
Applying Manufacturing Overhead
Other
Overhead
OverheadApplied
OverheadApplied to
Work inProcess
If actual and appliedmanufacturing overheadare not equal, a year-endadjustment is required.
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A l i M f t i O h d
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Applying Manufacturing Overhead
Work in Process is increased whenManufacturing Overhead is applied to jobs.
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A ti f N f t i C t
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Accounting for Nonmanufacturing Cost
Nonmanufacturing costs are not assigned toindividual jobs; rather they are expensed in the
period incurred.
Examples:1. Salary expense of employees
who work in a marketing, selling,
or administrative capacity.2. Advertising expenses are expensed
in the period incurred.
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Accounting for Nonmanufacturing Cost
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Accounting for Nonmanufacturing Cost
Nonmanufacturing costs (period expenses) arecharged to expense as they are incurred.
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Learning Objective 6
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Learning Objective 6
Prepare schedules of costof goods manufacturedand cost of goods sold.
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Transferring Completed Units
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Finished GoodsWork in Process(Job Cost Sheet)
DirectMaterials
DirectLabor
OverheadApplied
Cost ofGoods
Mfd.
Cost ofGoods
Mfd.
Transferring Completed Units
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Transferring Completed Units
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Transferring Completed Units
As jobs are completed, the Cost of GoodsManufactured is transferred to Finished Goodsfrom Work in Process.
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Transferring Units Sold
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Finished Goods
Cost of Goods Sold
Work in Process(Job Cost Sheet)
DirectMaterials
DirectLabor
OverheadApplied
Cost ofGoods
Mfd.
Cost ofGoods
Mfd.
Cost ofGoodsSold
Cost ofGoods
Sold
Transferring Units Sold
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Transferring Units Sold
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Transferring Units Sold
When finished goods are sold, two entries arerequired: (1) to record the sale, and (2) torecord COGS and reduce Finished Goods.
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Learning Objective 8
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Learning Objective 8
Compute underapplied oroverapplied overhead cost
and prepare the journalentry to close the balancein Manufacturing
Overhead to theappropriate accounts.
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Problems of Overhead Application
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Problems of Overhead Application
The difference between the overhead cost appliedto Work in Process and the actual overhead costsof a period is referred to as either underapplied or
overapplied overhead.
Underapplied overheadexists when the amount ofoverhead applied to jobs
during the period using the
predetermined overheadrate is less thanthe total
amount of overhead actuallyincurred during the period.
Overapplied overheadexists when the amount ofoverhead applied to jobs
during the period using the
predetermined overheadrate is greater thanthe totalamount of overhead actuallyincurred during the period.
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Overhead Application Example
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PearCos actual overheadfor the year was$650,000with a total of 170,000direct labor
hours worked on jobs.
How much total overhead was applied toPearCos jobs during the year? Use
PearCos predetermined overhead rate of
$4.00 per direct labor hour.
Overhead Application Example
Overhead Applied During the Period
Applied Overhead = POHR Actual Direct Labor Hours
Applied Overhead = $4.00 per DLH 170,000 DLH = $680,000
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Overhead Application Example
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PearCos actual overheadfor the year was$650,000with a total of 170,000direct labor
hours worked on jobs.
How much total overhead was applied toPearCos jobs during the year? Use
PearCos predetermined overhead rate of
$4.00 per direct labor hour.
Overhead Application Example
Overhead Applied During the Period
Applied Overhead = POHR Actual Direct Labor Hours
Applied Overhead = $4.00 per DLH 170,000 DLH = $680,000
PearCo has overappliedoverhead for the yearby $30,000. What will
PearCo do?
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Quick Check
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Tiger, Inc. had actual manufacturing overheadcosts of $1,210,000 and a predeterminedoverhead rate of $4.00 per machine hour. Tiger,Inc. worked 290,000 machine hours during theperiod. Tigers manufacturing overhead is
a. $50,000 overapplied.
b. $50,000 underapplied.
c. $60,000 overapplied.
d. $60,000 underapplied.
Quick Check
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Quick Check
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Tiger, Inc. had actual manufacturing overheadcosts of $1,210,000 and a predeterminedoverhead rate of $4.00 per machine hour. Tiger,Inc. worked 290,000 machine hours during theperiod. Tigers manufacturing overhead is
a. $50,000 overapplied.
b. $50,000 underapplied.
c. $60,000 overapplied.
d. $60,000 underapplied.
Quick Check
Overhead Applied$4.00 per hour 290,000 hours= $1,160,000
Underapplied Overhead$1,210,000 - $1,160,000= $50,000
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Disposition of Under- or Overapplied Overhead
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Disposition of Under- or Overapplied Overhead
$30,000 may beclosed directly to
cost of goods sold.
Cost ofGoods Sold
PearCos Method
Work inProcess
FinishedGoods
Cost ofGoods Sold
$30,000may be allocated
to these accounts.
OR
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Disposition of Under- or Overapplied Overhead
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Disposition of Under- or Overapplied Overhead
PearCosMfg. Overhead
Actual
overheadcosts
$650,000
$30,000overapplied
PearCos Costof Goods Sold
Unadjusted
Balance
AdjustedBalance $30,000
$30,000
Overhead
appliedto jobs
$680,000
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Allocating Under- or Overapplied
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g ppOverhead Between Accounts
AmountWork in process 68,000$
Finished Goods 204,000
Cost of Goods Sold 408,000
Total 680,000$
Assume the overhead applied in ending Work inProcess Inventory, ending Finished GoodsInventory, and Cost of Goods Sold is shown below:
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Allocating Under- or Overapplied
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g ppOverhead Between Accounts
Amount
Percent of
Total
Allocation of
$30,000Work in process 68,000$ 10% 3,000$
Finished Goods 204,000 30% 9,000
Cost of Goods Sold 408,000 60% 18,000
Total 680,000$ 100% 30,000$
We would complete the following allocation of$30,000 overapplied overhead:
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Allocating Under- or Overapplied
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g ppOverhead Between Accounts
AmountPercent of
TotalAllocation of
$30,000
Work in process 68,000$ 10% 3,000$
Finished Goods 204,000 30% 9,000
Cost of Goods Sold 408,000 60% 18,000
Total 680,000$ 100% 30,000$
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Overhead - Summary
Alternative 1 Alternative 2
If Manufacturing Close to Cost
Overhead is . . . of Goods Sold Allocation
UNDERAPPLIED INCREASE INCREASE
Cost of Goods Sold Work in Process
(Applied OH is less Finished Goods
than actual OH) Cost of Goods Sold
OVERAPPLIED DECREASE DECREASE
Cost of Goods Sold Work in Process
(Applied OH is greater Finished Goods
than actual OH) Cost of Goods Sold
PearCosMethod
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Quick Check
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Quick Check
What effect will the overapplied overheadhave on PearCos net operating income?
a. Net operating income will increase.
b. Net operating income will be unaffected.
c. Net operating income will decrease.
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Quick Check
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Quick Check
What effect will the overapplied overheadhave on PearCos net operating income?
a. Net operating income will increase.
b. Net operating income will be unaffected.
c. Net operating income will decrease.
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Multiple Predetermined Overhead Rates
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Multiple Predetermined Overhead Rates
To this point, we have assumed that there is asingle predetermined overhead rate called a
plantwide overhead rate.
Large companiesoften use multiplepredetermined
overhead rates.
May be morecomplex but . . .
May be more accuratebecause it reflectsdifferences across
departments.
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Job-Order Costing in Service Companies
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Job Order Costing in Service Companies
Job-order costing is used in manydifferent types of service companies.
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The Use of Information Technology
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The Use of Information Technology
Technology plays an important part in manyjob-order cost systems. When combined withElectronic Data Interchange (EDI) or a web-
based programming language calledExtensible Markup Language (XML), barcoding eliminates the inefficiencies and
inaccuracies associated with manual clerical
processes.
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Appendix 3A
The PredeterminedOverhead Rate & Capacity
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Learning Objective 9
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Learning Objective 9
(Appendix 3A)
Understand the implications of
basing the predeterminedoverhead rate on activity at
capacity rather than onestimated activity for the
period.
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Predetermined Overhead Rate and Capacity
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Predetermined Overhead Rate and Capacity
Calculating predetermined overhead rates usingan estimated, or budgeted amount of theallocation base has been criticized because:
1. Basing the predetermined overhead rate uponbudgeted activity results in product costs thatfluctuate depending upon the activity level.
2. Calculating predetermined rates based upon
budgeted activity charges products for costs thatthey do not use.
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Capacity-Based Overhead Rates
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Capacity Based Overhead Rates
Criticisms can be overcome by usingestimated total units in the allocation base at
capacity in the denominator of thepredetermined overhead rate calculation.
Lets look at the difference!
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An Example
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An Example
Equipment is leased for $100,000 per year.Running at full capacity, 50,000 units may beproduced. The company estimates that 40,000 units
will be produced and sold next year. What is the
predetermined overhead rate?
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An Example
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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
An Example
Equipment is leased for $100,000 per year.Running at full capacity, 50,000 units may beproduced. The company estimates that 40,000 units
will be produced and sold next year. What is the
predetermined overhead rate?
TraditionalMethod
= $2.50 per unit$100,00040,000
=
CapacityMethod
= $2.00 per unit$100,00050,000
=
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Quick Check
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Qu c C ec
Crest Winery in Woodinville leases an automaticcorking machine for $100,000 per year. If run atfull capacity, it can cork 50,000 cases of wineper year. The company estimates 40,000 cases
of wine will be produced and sold next year.What is the predetermined overhead rate basedon the estimated number of cases of wine?
a. $2.00 per case.
b. $2.50 per case.
c. $4.00 per case.
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Quick Check
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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
Q
Crest Winery in Woodinville leases an automaticcorking machine for $100,000 per year. If run atfull capacity, it can cork 50,000 cases of wineper year. The company estimates 40,000 cases
of wine will be produced and sold next year.What is the predetermined overhead rate basedon the estimated number of cases of wine?
a. $2.00 per case.
b. $2.50 per case.
c. $4.00 per case.
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Quick Check
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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
Crest Winery in Woodinville leases an automaticcorking machine for $100,000 per year. If run atfull capacity, it can cork 50,000 cases of wineper year. The company estimates 40,000 cases
of wine will be produced and sold next year.What is the predetermined overhead rate basedon the number of cases of wineat capacity?
a. $2.00 per case.
b. $2.50 per case.
c. $4.00 per case.
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Quick Check
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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
Crest Winery in Woodinville leases an automaticcorking machine for $100,000 per year. If run atfull capacity, it can cork 50,000 cases of wineper year. The company estimates 40,000 cases
of wine will be produced and sold next year.What is the predetermined overhead rate basedon the number of cases of wineat capacity?
a. $2.00 per case.
b. $2.50 per case.
c. $4.00 per case.
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Quick Check
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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
When capacity is used in the denominator of thepredetermined rate, what happens to thepredetermined overhead rate as estimatedactivity decreases?
a. The predetermined overhead rate goes up whenactivity goes down.
b. The predetermined overhead rate stays thesame; it is not affected by changes in activity.
c. The predetermined overhead rate goes downwhen activity goes down.
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Quick Check
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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
When capacity is used in the denominator of thepredetermined rate, what happens to thepredetermined overhead rate as estimatedactivity decreases?
a. The predetermined overhead rate goes up whenactivity goes down.
b. The predetermined overhead rate stays thesame; it is not affected by changes in activity.
c. The predetermined overhead rate goes downwhen activity goes down.
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Quick Check
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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
When estimated activity is used in thedenominator of the predetermined rate, whathappens to the predetermined overhead rate asestimated activity decreases?
a.The predetermined overhead rate goes up whenactivity goes down.
b.The predetermined overhead rate stays thesame; it is not affected by changes in activity.
c.The predetermined overhead rate goes downwhen activity goes down.
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Quick Check
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Copyright 2008, The McGraw-Hill Companies, Inc.McGraw-Hill/Irwin
When estimated activity is used in thedenominator of the predetermined rate, whathappens to the predetermined overhead rate asestimated activity decreases?
a.The predetermined overhead rate goes up whenactivity goes down.
b.The predetermined overhead rate stays thesame; it is not affected by changes in activity.
c.The predetermined overhead rate goes downwhen activity goes down.
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Income Statement Preparation
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p
Actual volume 40,000 cases
Selling price $40.00 per caseVariable production cost $24.00 per case
Fixed manufacturing overhead $100,000 per year
Capacity 50,000 cases
Predetermined overhead rate $2.00 per case
Fixed selling and admin. expense $500,000 per year
Revenue 1,600,000$
Cost of goods sold 1,040,000
Gross margin 560,000Cost of idle capacity 20,000
Selling and admin. expense 500,000
Net operating income 40,000$
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p
Actual volume 40,000 cases
Selling price $40.00 per caseVariable production cost $24.00 per case
Fixed manufacturing overhead $100,000 per year
Capacity 40,000 cases
Predetermined overhead rate $2.50 per case
Fixed selling and admin. expense $500,000 per year
Revenue 1,600,000$
Cost of goods sold 1,060,000
Gross margin 540,000Cost of idle capacity -
Selling and admin. expense 500,000
Net operating income 40,000$
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End of Chapter 3
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p
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