ACC406 Chapter 5 Publisher Notes

Chapter 5: Job-Order Costing

Learning Objectives

• Understand key concepts related to job-order costing. This includes the importance of accurate tracking of costs associated with individual jobs to enhance financial reporting and decision-making.

• Distinguish between job-order costing and process costing. Recognize the differences in application based on the nature of the production process, whether products are made to order or on a continuous basis.

• Compute the predetermined overhead rate and assign overhead to units/services. Mastery of this computation is vital for accurately predicting production costs.

• Identify source documents for job-order costing. Understanding these documents is essential for accurate cost accumulation and reporting.

• Describe cost flows in job-order costing. Insight into how costs move through accounts will support effective cost management.

• Prepare journal entries related to job-order costing. Knowledge of the necessary journal entries will aid in proper accounting practices.

• Allocate support department costs to producing departments. This involves understanding how to distribute overheads fairly to ensure accurate costing.

CPA Competencies

• Evaluate management information requirements (Competency 3.1.1). Ensure that management has the necessary data for informed decision-making.

• Document and assess business processes and systems (Competency 3.1.2). Regular documentation helps in audit trails and process improvements.

• Identify ethical and privacy issues related to IT (Competency 3.1.4). Understand the implications of data management in accounting settings.

• Develop or evaluate data for operational plans (Competency 3.2.1). Analyze costs to support robust operational strategy development.

• Evaluate cost classifications for ongoing operations (Competency 3.3.1). Proper classification ensures correct costing and budgeting.

• Perform sensitivity analysis (Competency 3.5.1). Assess how variations in cost drivers affect overall profitability.

Importance of Unit Costs

• Manufacturing Firms: Unit costs are critical for inventory valuation, determining income, and making informed pricing and production decisions. High accuracy in unit costs supports better financial stability.

• Service Firms: For service organizations, accurate unit costing is needed to evaluate profitability and understand the financial viability of new services, ensuring sustainable growth.

Job-Order vs. Process Costing

• Job-Order Costing:

  • Utilized by firms producing unique products or services tailored to specific customer requirements.

  • Costs are accumulated by job, allowing for detailed tracking of specific production expenses.

  • The unit cost is calculated by dividing total job costs by the number of units produced, ensuring an accurate gauge of production efficiency.

• Process Costing:

  • Applied by firms that mass-produce identical or highly similar products that cannot be distinguished from one another.

  • Costs are aggregated by department, facilitating simpler tracking of costs incurred throughout production stages.

  • Unit cost is computed by dividing total process costs by total units produced, which is typically more streamlined than job-order costing.

Cost Accumulation in Job-Order Costing

• Production Costs: Both direct materials and direct labor are identifiable and traceable to specific jobs, aiding in accurate costing and revenue recognition.

• Overhead Methodologies:

  • Normal Costing: Utilizes estimates to allocate overhead based on predetermined rates, which reflects more predictable budgeting but may introduce inaccuracies if estimates vary significantly from actual costs.

  • Actual Costing: Involves the use of real costs incurred, ensuring accuracy but can lead to inefficiencies and delays due to the retrospective nature of data utilization.

Steps in Normal Costing

1. Predetermined Overhead Rate Calculation:

   • The overhead rate is calculated as Estimated annual overhead divided by Estimated activity level, which creates a benchmark for applied costs.

2. Application of Overhead:

   • Applied overhead is calculated as Predetermined overhead rate multiplied by Actual activity, which allows for timely inclusion of overhead in job costs.

3. Reconciliation of Overhead:

   • This step involves identifying variances between actual expenses and applied overhead, which is critical for accurate financial reporting.

Overhead Reconciliation Process

• Applied Overhead:

  • Tracked and accumulated throughout the fiscal year, contributing to total product costs to reflect true economic conditions.

• Variance Analysis: Calculating the difference between applied and actual overhead focuses on cost management.

• Excess Calculations:

  • Underapplied Overhead: Impacts financial statements by increasing Cost of Goods Sold (COGS), portraying a reduction in profitability.

  • Overapplied Overhead: Adjustments are made to reduce COGS, possibly inflating the perceived profitability in financial statements.

Job-Order Cost Sheet and Source Documents

• Job-Order Cost Sheet: Maintains a detailed account of costs incurred for each job and acts as a subsidiary ledger to Work in Process (WIP) accounts.

• Materials Requisition Form: Essential for assigning direct material costs accurately to particular jobs, ensuring precise allocation.

• Time Ticket: Records the direct labor hours spent on each job, crucial for evaluating the labor costs involved.

Accounting for Costs

• Cost Flows: Understand how direct materials and labor are accounted for:

  • Credited to Work in Process.

  • Overhead applied to specific jobs through predetermined rates creating transparency in job costing.

• Finished Goods: Jobs are transferred from WIP to Finished Goods upon completion, impacting inventory valuation and COGS calculations.

• Cost of Goods Sold: Accurately reflects the expense related to jobs sold within a reporting period, which is vital for strategic decision-making.

Nonmanufacturing Costs

• Includes period costs such as selling and administrative expenses, which are generally not assigned to products, highlighting the distinction between manufacturing and fallen operational costs.

Job-Order Costing in Service Firms

• Service firms utilize job-order costing, treating each client engagement as a unique job, helping them manage costs and profitability per individual service.

Appendix A: Journal Entries for Job-Order Costing

• Key steps include purchasing raw materials, applying labor and overhead costs, completing jobs, and ultimately recording sales transactions to reflect revenue generation.

Appendix B: Cost Assignments

• Distinguishes between producing departments and support departments while explaining various methods for cost assignment: direct, sequential, and reciprocal methods to ensure proper allocation and reporting.