Chapter 2 Notes: Job Order Costing, Perpetual Inventory, and Cost Flows

Overview and logistics

  • Instructor announces seating accommodations: email by end of day to capture in student chart; sign sheets not required until exam review day.

  • Exam plan: seating for exam and exam review day; review day is the day before the exam and the exam itself.

  • Today’s class focus: finish one last exercise from Chapter 1 handouts (cost breakdown exercise) and then begin Chapter 2.

  • Chapter 1 Wiley homework: due tonight before midnight; help available via office hours or Wiley Plus folder on Brightspace labeled “Wiley plus homework help,” with preceptors listed by last name.

  • Schedule look-ahead:

    • Next week: finish Chapter 2 on Tuesday.

    • Wednesday: lab review and lab quizzes for Chapter 2, then start Chapter 4 on Thursday; Chapter 2 homework

Chapter context: from Chapter 1 to Chapter 2

  • Chapter 1 focus recap: cost of goods manufactured (COGM) and cost of goods sold (COGS) using a periodic inventory method.

  • Chapter 2 shift: move from periodic inventory to perpetual inventory system with continuous tracking of costs as production occurs.

  • Job order costing (a core perpetual system type): track costs by job or batch, updating records at each production step.

  • Perpetual inventory advantages: more detailed, real-time cost tracking for complex manufacturing with multiple products; supports better cost control and pricing decisions.

  • Process costing (brief contrast): used for mass-produced items (oil refining, food production); not covered in this class; chapter 3 would cover it in more depth.

  • Nine journal entries (chapter focus): nine journal entries across the chapter will be introduced; students will make flashcards for these concepts.

Key concepts and terminology

  • Inventory and cost flow concepts:

    • Raw Materials Inventory: stores materials before production.

    • Work in Process (WIP) Inventory: costs accumulated on goods being produced (assembly line).

    • Finished Goods Inventory: costs of completed but not yet sold products.

    • Cost flow mirror: physical flow of product on the production line should mirror the flow of costs (raw materials → WIP → finished goods → COGS).

  • Product costs vs period costs:

    • Product costs: direct materials (DM), direct labor (DL), manufacturing overhead (MOH).

    • Period costs: costs not tied to production (advertising, selling costs, etc.).

  • Overhead (MOH): indirect manufacturing costs that cannot be traced to a single product (depreciation on factory, utilities for factory, repair work, factory insurance, etc.). MOH is a temporary control account until costs are allocated to specific jobs.

  • Direct vs indirect costs:

    • Direct materials (DM): materials directly traceable to a product.

    • Indirect materials: part of MOH (e.g., glue, thread) used across many jobs.

    • Direct labor (DL): labor directly involved in making the product (assembly line workers).

    • Indirect labor: labor that supports production (supervisors, maintenance) routed to MOH.

  • Special terminology used in class:

    • Factory labor: temporary control account for all labor costs in the factory; split into DL (to WIP) and MOH (for indirect labor).

    • Direct vs indirect allocation basis: direct costs go to WIP; indirect costs go to MOH until allocated to jobs.

  • Common examples used in lecture:

    • Custom homes (one job per house) or clothing batches (e.g., men’s shirt green LARGE vs MEDIUM) to illustrate distinguishable jobs in a job order costing system.

  • Costing flow and journal-entry mindset:

    • When costs are incurred (DM, DL, MOH), they are accumulated in respective accounts.

    • Costs are assigned to work in process as work is performed.

    • Finished goods costs are transferred from WIP to Finished Goods when production is completed.

    • Costs are transferred from Finished Goods to COGS when goods are sold.

Formulas you should know (cost accounting basics)

  • Cost of Goods Manufactured (COGM)

    • ext{COGM} = ext{Beginning WIP} + (DM + DL + MOH) - ext{Ending WIP}

  • Cost of Goods Sold (COGS)

    • ext{COGS} = ext{Beginning Finished Goods} + ext{COGM} - ext{Ending Finished Goods}

  • Periodic vs Perpetual inventory distinction (conceptual):

    • Periodic: end-of-period count used to compute COGS by comparing beginning and ending inventory.

    • Perpetual: continuous tracking of costs as they flow through DM, DL, MOH into WIP and finished goods.

Journal entries: journal-entry mindset and examples from Wallace and Danielle scenarios

  • Journal Entry 1: Purchase raw materials on account (DM and indirect DM not yet separated on entry, just the total)

    • Debit Raw Materials Inventory: $42,000

    • Credit Accounts Payable: $42,000

    • Details: Purchased 2,000 lithium batteries at $5 each ($10,000) and 800 electronic modules at $40 each ($32,000); total materials = $42,000.

    • Reference: purchase of raw materials to start production.

  • Journal Entry 2: Incur factory labor (labor costs for factory workers, split into wages payable and payroll taxes payable)

    • Debit Factory Labor: $32,000

    • Credit Factory Wages Payable: $27,000

    • Credit Employer Payroll Taxes Payable: $5,000

    • Note: No debit to wages expense; product costs are recorded as inventory (factory labor) until items are sold.

    • Concept: Factory Labor is a temporary control asset-like account used to accumulate labor costs before assignment to WIP or MOH.

  • Journal Entry 3: Incur Manufacturing Overhead (MOH) costs (various factory-related costs)

    • Debit Manufacturing Overhead (MOH): $13,800

    • Credit Utilities Payable: $4,800

    • Credit Prepaid Insurance: $2,000 (represents expiry of portion of prepaid factory insurance; asset reduced)

    • Credit Accounts Payable (Factory Repairs): $2,600

    • Credit Accumulated Depreciation (Factory Building): $3,000

    • Credit Property Taxes Payable: $1,400

    • Summary: Total MOH debited = $13,800; total credits = $13,800; breakdown illustrates typical MOH components.

  • Journal Entry 4: Raw materials used in production (direct vs indirect materials allocation)

    • Debit Work in Process (DM): $24,000

    • Debit Manufacturing Overhead (Indirect Materials): $6,000

    • Credit Raw Materials Inventory: $30,000

    • Note: Direct materials are charged to WIP; indirect materials are charged to MOH.

  • Journal Entry 5: Factory labor allocated to jobs (direct vs indirect labor) and MOH reallocation

    • Debit Work in Process (Direct Labor): $28,000

    • Debit Manufacturing Overhead (Indirect Labor): $4,000

    • Credit Factory Labor: $32,000

    • Concept: All factory labor costs are recorded in Factory Labor first, then allocated to WIP (direct) or MOH (indirect) when jobs are identified.

    • Additional note: Some Wiley homework variants consolidate wages and payroll taxes under a single lump-sum Payroll Liabilities; class discusses both approaches.

How costs flow through the system (conceptual visualization)

  • Step 1: Accumulate costs in three manufacturing cost buckets:

    • DM (direct materials) and indirect materials tied to raw materials inventory.

    • DL (direct labor) and indirect labor tracked via Factory Labor temporarily; direct DL goes to WIP; indirect DL to MOH.

    • MOH (manufacturing overhead) includes indirect costs (utilities, depreciation, taxes, insurance, repairs, etc.). MOH is a temporary control account.

  • Step 2: Move costs to Work in Process as work occurs:

    • Direct materials issued to a specific job: Debit Work in Process; Credit Raw Materials Inventory.

    • Direct labor assigned to a job: Debit Work in Process; Credit Factory Labor (or related payroll accounts, then reclassify to WIP).

    • Indirect materials or indirect labor, and other MOH items: Debit MOH; Credit the respective cost accounts (e.g., MOH vs Utilities Payable, Prepaid Insurance, Accumulated Depreciation, etc.).

  • Step 3: Upon completion of a job, move costs from WIP to Finished Goods:

    • Debit Finished Goods Inventory; Credit Work in Process.

  • Step 4: When the finished goods are sold, move costs from Finished Goods to COGS:

    • Debit COGS; Credit Finished Goods Inventory.

  • Summary of accounts on the balance sheet vs income statement:

    • Balance sheet (inventory accounts): Raw Materials Inventory, Work in Process, Finished Goods.

    • Income statement (cost of goods sold): COGS.

    • MOH is a temporary (contra) asset-like pool used to accumulate and later allocate overhead costs; it is cleared as costs are assigned to jobs and moved to COGS through the process.

Practical implications and teaching points

  • Why cost flows matter:

    • Proper cost allocation affects product costing, pricing decisions, and profitability analysis.

    • Perpetual vs periodic inventory changes how and when costs are recognized as expenses.

  • Job order costing rationale:

    • Distinguishes costs by job or batch with distinguishable characteristics (e.g., a custom home, or a batch of clothing items such as green large-size shirts vs green medium-size shirts).

    • Allows tracking of the true cost of each job, enabling unit cost calculations and price setting per job.

  • Journal entry discipline:

    • Always debit the account that increases (e.g., DM to WIP, DL to WIP, MOH to MOH) when assigning costs to a job.

    • Credits must reflect the correct reduction of the source account (e.g., Raw Materials Inventory, Factory Labor, MOH).

    • MOH is routinely debited when costs are incurred and credited when costs are allocated; it is not expensed until the cost is moved to COGS.

  • Real-world relevance:

    • Perpetual job order costing is aligned with real-world manufacturing environments where costs must be tracked continuously for multiple product lines or customized batches.

    • The chapter prepares students for nine journal entries and related cost-tracking practices used in more advanced cost accounting courses.

Connections to foundational principles

  • Core principle: matching costs with revenues. By tracking DM, DL, and MOH through WIP to Finished Goods to COGS, costs are recognized in the period when the related goods are sold (COGS), aligning with the matching principle.

  • Inventory flow mirrors production flow: raw materials -> work in process -> finished goods -> COGS, enabling precise measurement of cost per unit and per job.

  • Internal controls and accuracy: reconciles timing differences between when costs are incurred and when they are expensed, using temporary accounts (Factory Labor, MOH) to avoid premature expense recognition.

Quick reminders for exam prep

  • Always identify whether a cost is DM, DL, or MOH; then classify as direct or indirect.

  • Remember: direct costs go to WIP; indirect costs go to MOH until allocated.

  • Expect to set up journal entries for each of the three accumulation steps and subsequent allocation steps; practice the two-step transfer from MOH and raw materials to WIP.

  • Be comfortable with the end-of-period adjustments and the COGM/COGS formulas above.

Notes on transcript completeness

  • The transcript ends mid-explanation of journal entry allocation (Entry 6+), but provides clear coverage for Entries 1–5 and the conceptual framework for moving costs through the system.

  • The instructor emphasizes the practical application of the journal entries and the flow of costs, plus a preview of Chapter 2 topics (nine journal entries total in the chapter).