Cost and Management Accounting

CHAPTER-II: Classification, and Analysis of Costs and Related Cost Concepts and Terminologies

I. LEARNING OBJECTIVES

1. Define and illustrate a cost object

2. Distinguish between direct costs and indirect costs

3. Explain variable costs and fixed costs

4. Interpret unit costs cautiously

5. Distinguish among manufacturing companies, merchandising companies, and service-sector companies

6. Describe the three categories of inventories commonly found in manufacturing companies

7. Distinguish inventoriable costs from period costs

8. Explain why product costs are computed in different ways for different purposes

9. Describe a framework for cost accounting and cost management

Different cost concepts and terms are often used in accounting reports. Managers who understand these
concepts and terms are able to:
(a) Best use the information provided, and
(b) Avoid misuse of that information.
Communication among managers is greatly facilitated by there being common understanding on
the meaning of cost concepts and terms. This chapter discusses cost concepts and terms
found in both internal and external uses of accounting information.

Cost and Cost Object

Cost-Accountants define cost as a resource sacrificed or forgone to achieve a specific objective. It is usually
measured as the monetary amount that must be paid to acquire goods and services. An actual cost is the cost
incurred (a historical cost) as distinguished from budgeted or forecasted costs.
Cost Object-is any thing for which a separate measurement of costs is desired. To guide their decisions,
managers want to know how much a particular thing (such as a product, machine, service, or process) costs.
EX. Product, service, project, customer, brand category, activity department etc
A costing system typically accounts for costs in two basic stages- accumulation and then assignment.
Cost accumulation- is the collection of cost data in some organized way by means of an accounting system.
E.g. organizations that manufacture consumer commodities accumulate the costs incurred in producing
the commodities.
Cost assignment- is a general term that encompasses both (1) tracing accumulated costs to a cost object, and
(2) allocating accumulated costs to a cost object.
 E.g. -Cost may be assigned to a department to facilitate decisions about
departmental efficiency.
-Cost may be assigned to a product or a customer to facilitate product-profitability analysis

Classification of costs
Cost classification is the process of grouping costs according to their common traits.

Direct costs and Indirect costs

Direct costs of a cost object- are related to the particular cost object and can be traced to it in an economically
feasible (cost-effective) way.
E.g. -The salary of a manager of production department is a direct cost of that
department.
-The cost of office supplies used in the loan department is a direct cost of that department.
The term cost- tracing is, therefore, used to describe the assignment of direct costs to the particular cost object.
Indirect costs of cost objects-are related to the particular cost object but, can not be traced to it in an
economically feasible (cost-effective) way.
E.g. - Cost of quality-control personnel who conduct taste and content tests on
multiple soft drink products bottled at a Pepsi plant is an indirect cost of Pepsi soft drink.
 -The cost of general advertising by the bank, which is allocated to the loan
department.
The term cost allocation is, therefore, used to describe the assignment of indirect costs to the particular cost
object.
Cost driver-is a characteristic of an event or activity that causes costs to be incurred by that event or activity
-It is a factor, such as the level of activity or volume, that causally affects costs (over a given
time span).That is, a cause-and –effect relationship exists between a change in the level
of activity of volume and a change in the level of the total costs of that cost object i.e. the
higher the correlation between the cost and the cost driver, the more accurate will be the resulting
understanding of cost behavior.
E.g.-The cost driver of variable cost is the level of activity or volume whose change causes the
(variable) costs to change proportionately.
-The number of vehicles assembled is a cost driver of the cost of steering wheels.
- In manufacturing companies, the cost of assembly labor would be driven by the quantity of products
manufactured as well as the number of parts in each product.

-The cost of material handling labor would be driven by materials related factors such as the
quantity and cost of raw material used, the number of parts in various products, and the number
of raw-material shipments received

Variable costs, fixed costs and mixed cost behaviors

From a planning and control standpoint, perhaps the most useful way to classify costs is by behavior. Cost
behavior means how a cost will react or respond to changes in the level of business activity. As the activity
level rises and falls, a particular cost may rise and fall or may remain constant. For planning purposes, the
manager must be able to anticipate which of these will happen, and if a cost can be expected to change, he or
she must know by how much. To provide this information, costs are classified into two categories-variable and
fixed.
Variable costs-are costs that vary in total, in direct proportion to changes in the level of activity or cost driver
i.e. if activity increase by n%, total variable cost also increase by n%, but the per unit cost remains constant.
‘‘Activity’’ can be expressed in many ways, such as units produced, units sold or purchased, miles driven,
hours worked, and so forth.
E.g. Direct material cost, direct labor cost, commission paid to sales personnel (at $30 per commodity
sold), cost of natural gas to heat factory, wages paid to employees who assemble the goods in the assembly
department.

Exhibit 2-1 displays a graph of a variable cost. As this graph shows, total variable cost increases
proportionately with activity. When activity doubles, from 10 to 20 units, total variable cost doubles, from
$1,000 to & 2,000. However, cost associated with each unit of activity is & 100, whether it is the first unit, the
fourth, or the eighteenth. To summarize, as activity changes, total variable cost increases or decreases
proportionately with the activity change, but unit variable cost remains the same.
 Exhibit 2-1: variable cost

Total variable cost

$3,000

$2,000

&1,000

Activity (or cost driver)

10 20 30

Tabulation of variable cost

Activity
(Cost driver) variable cost per unit Total variable cost

1-----------------------$100----------------------------------------$100
4----------------------- 100-------------------------------------------400
18--------------------- -100-----------------------------------------1800
30---------------------- 100-----------------------------------------3000

Fixed costs-are costs that remain unchanged in total regardless of variation in the level of activity (or
cost driver), for a given relevant range. If activity increases or decreases by n% within the given relevant
range, total fixed cost remains the same; but the per unit fixed cost changes.
E.g. Salary of plant manager, monthly rental cost of equipment and /or house, depreciation of machines
used to produce furniture’s at $10,000 per year and the like.
Exhibit 2-2: Fixed cost

Total fixed cost

$1,500

10 20 30 Activity (or cost driver)

 Tabulation of fixed cost

Activity Fixed cost per unit Total fixed cost

(Or cost driver)

1----------------------------$1,500.00---------------------------$1,500
2-------------------------------750.00-----------------------------1,500
5-------------------------------300.00-----------------------------1,500
10-----------------------------150.00------------------------------1,500
11-----------------------------136.36------------------------------1,500
20-------------------------------75.00------------------------------1,500
21-------------------------------71.43------------------------------1,500
30-------------------------------50.00------------------------------1,500

Mixed costs some costs have both variable and fixed characteristics. These costs are often called mixed costs or
semi-variable or semi-fixed costs. Mixed costs occur because the total cost relationship with the activity base
termed a cost function has an element that is constant (or fixed) to activity volume change, and an element that
is variable to activity volume changes. For example, the rental charge for a mobile telephone might be birr 50
per month plus some other variable costs.

Controllable and Uncontrollable costs

Another cost classification that can be helpful in cost control involves the controllability of a cost item by a
particular manager. If a manager can control or heavily influence the level of a cost, then that cost is classified
as a controllable cost of that manager. Costs that a manager cannot influence significantly are classified as
uncontrollable costs of that manager.
The important question here is not, who control the costs but, who is in the best position to influence the level
of a cost item? Some costs may be controllable in the long run, but not in the short run.

Manufacturing organization cost terms

To assist managers in planning and control, managerial accountants classify costs by the functional area of the
organization to which costs relate. Some examples of functional area are manufacturing, service production,
merchandise, marketing, administration, and research and development.

Manufacturing-sector companies purchase materials and components and convert them into different finished
goods. Examples are automotive companies, food processing companies, textile companies, companies that
produce different drinks and the like.
Manufacturing costs are further classified into the following three categories: direct material, direct labor,
and manufacturing overhead costs.

Direct material costs- are the acquisition costs of all materials that eventually become part of the cost object
(work in process and finished goods),and that can be traced to the cost object in an economically feasible way.
Acquisition cost of direct materials includes freight-in (inward delivery) charges, sales taxes, custom duties and
the like.
Direct manufacturing labor costs – includes the compensation of all manufacturing labor that can be traced to
the cost object in an economically feasible way. Such costs includes costs of salaries, wages, fringe benefits
paid to personnel’s who work directly on the manufacturing of products.

Manufacturing overhead costs (Indirect manufacturing costs)- are all manufacturing cost that are
considered part of the cost object, units finished or in process, but that cannot be traced to that cost object in an
economically feasible way. These costs include three types of costs: indirect material, indirect labor, and other
manufacturing costs (manufacturing overhead costs).
Indirect material-The costs of materials that are required for the production process but do not become an
integral part of the finished product are classified as indirect- material costs.

Indirect labor-the costs of personnel who do not work directly on the product, but whose services are necessary
for the manufacturing process, are classified as indirect labor costs. Such personnel include production
department supervisors, custodial employees, security guards and the like.
Other Manufacturing costs-all other manufacturing costs that are neither material nor labor costs, are classified
as manufacturing overhead costs. These costs include depreciation of plants and equipments, property taxes,
insurance, and utilities such as electricity, supplies, as well as the cost of operating service departments.

Product costs (inventoriable costs) vs period costs-An important issue in both managerial and financial
accounting is the timing with which the costs of acquiring assets or services are recognized as expenses. An
expense is defined as the cost incurred when an asset is used up or sold for the purpose of generating revenues.
The terms product cost and period cost are used to describe the timing with which various expenses are
recognized.
Product or inventoriable costs-are all cost of a product that are regarded as an asset when they are incurred and
then become cost of goods sold when the product is sold. For manufacturing sector companies, all
manufacturing costs are inventoriable.Costs incurred for direct material, direct manufacturing labor, and
indirect manufacturing costs create new assets, first work-in process, and then finished goods.

For merchandizing sector companies, inventoriable cost are the costs of purchasing the goods that are resold in
their same form. These costs are the costs of the goods themselves and any incoming freight costs for those
goods. For service sector companies, since there is no inventory of services, there are no inventoriable costs.

Period costs-are all costs in the income statement other than cost of goods sold. These costs are treated as
expenses of the period in which they are incurred because they are presumed not to benefit future periods (or
because there is not sufficient evidence to conclude that such benefit exists).These costs are identified with the
period of time in which they are incurred. As such, period costs are not included as part of the cost of either
purchased or manufactured goods.
For manufacturing sector companies, period costs include all non manufacturing costs.
For merchandising companies, period costs include all costs not related to the cost of goods purchased for
resale in their same form.
For service-sector companies, since there is no inventoreable cost, all their costs are period costs.

Some examples of period costs are- research and development costs, Selling /marketing/ and administrative
expenses such as salary expense, advertising expenses, sales commission expenses, depreciation expenses,
supplies expense, interest expenses, and the like.
Exhibit 2-3: A summary of product and period costs

Types of Product costs (also called period cost (also called Treatments
Company inventoriable costs) noninventoriable costs)
These costs are placed in an
Merchandising Costs associated with inventory account until the
Company purchased inventory goods are sold. When sale
from suppliers takes place, the costs
are then
taken to expense as cost of
goods sold.

Manufacturing Direct materials These costs are

placed in
Companies Direct labor inventory accounts until the
Manufacturing overhead associated goods are comple-
(consists of all costs of ted and sold. When sale
production other than takes place, the costs are
direct material and direct labor. then taken (released) to
expense as cost of goods
sold.
Merchandising, selling expenses:
manufacturing, Sales personnel’s salaries These costs are
and service Depreciation on sales taken directly to
companies equipment, insurance on expenses accounts.
Sales equipments, etc. They are classified
Administration expenses: as operating
Secretarial salaries expenses and
Depreciation on office deducted from
Equipment, insurance on gross margin.
office equipment etc.

Prime costs and Conversion costs-These two terms are used in manufacturing companies. Prime costs are all
direct manufacturing costs i.e. the combination of direct material and direct manufacturing labor costs.
Conversion costs are all manufacturing costs other than direct material costs. It is the combination of
manufacturing labor costs and manufacturing overhead costs. These costs are incurred to transform direct
materials into finished goods.
Exhibit 2-4: Summary of manufacturing cost terms

COST CLASSIFICATIONS IN MANUFACTURING COMPANIES

Inventory classification of manufacturing companies and their cost flows
Manufacturing –sector companies purchase materials and components and convert them in to different finished
goods. They typically have one or more of the following three types of inventories:

1. Direct material inventory-direct materials and in stock and awaiting use in the manufacturing process.

2. Work-in process inventory-Goods partially worked on but not yet fully completed. They are also called
work in progress.
3. Finished goods inventory- Goods fully completed but not yet sold.

Merchandising-sector companies purchases and then sell tangible products with out changing their basic form.
They hold only one type of inventory, which are the products in their original purchased form. Service-sector
companies provide only services or intangible products to their customers and hence do not hold inventories of
tangible products for sale.
Exhibit 2-5: Summary of manufacturing costs flows and their classification

Balance sheet Income statements

Direct materials
Inventoreable costs
Costs or product Work in Revenues
Costs process
Direct labor costs
Deduct
Manufacturing overhead Goods completed
costs (cost of goods manufactured)

When sales
Finished Occur Cost of goods sold
goods (an expense)
Balance sheet inventory
Accounts (Assets)
Equals

Gross margin

Deduct

R&D costs,
marketing,
administrative, and
Period costs other expenses

Operating income
Some formulas to compute manufacturing costs
 i) Cost of goods = Beginning finished + cost of goods - Ending finished
sold goods inventory manufactured goods inventory

ii) Cost of direct = Cost of beginning + Cost of purchase - Cost of ending direct
materials used direct materials direct materials materials inventory
Inventory

Exhibit 2-6: Summary of merchandising cost flows and their cost classification

Balance sheet Income statement

Revenues

Deduct

Cost of goods
Inventoreable Merchandise Merchandise When sales occur sold (an
cost purchase inventory expense

Equals

Gross Margin

Deduct

Design costs, Operating

costs such as purchasing
department costs,
Period costs marketing costs,
distribution costs,
customer service costs
and other period costs.

Equals

Operating Income

Comparative Financial Statements of Manufacturing and Merchandising Companies

 PANEL-A: COMPARATIVE INCOME STATEMENTS
ABC- Manufacturing Company
Income Statement
For the year ended December 31, 2024(in thousands)

Revenues---------------------------------------------------------------------------------------------xx
Cost of goods sold:
Beginning finished goods, January-1, 2014----------------- xx
Add: Cost of goods manufactured (see exhibit 2-7) ---------------xx
Cost of goods available for sale-------------------------------- xx
Less: Ending finished goods, December-31, 2014----------------- (xx)
Cost of goods sold during the year------------------------------------------------------ (xx)
Gross margin (or gross profit) ----------------------------------------------------------- xx
Less: Operating expenses--------------------------------------------------------------------------(xx)
Operating income--------------------------------------------------------------------------- xx

XYZ-Merchandising Company
Income Statement
For the year ended December 31, 2024 (in thousands)

Sales------------------------------------------------------------------------------------------------------ xx
Cost of goods sold:
Beginning inventory--------------------------------------------------------------xx
Add: Net cost of purchase-----------------------------------------------------------xx
Cost of goods available for sale-------------------------------------------------xx
Less: Ending inventory cost December 31, 2001------------------------------- (xx)
Cost of goods sold during the year---------------------------------------------------------------------- (xx)
Gross margin----------------------------------------------------------------------------------------------- xx
Less: Operating expenses:
Selling expenses----------------------------------------------------xx
Administrative expenses------------------------------------------xx
Total operating expenses--------------------------------------------------------------------- (xx)
Net Income----------------------------------------------------------------------------------------------- xx

Exhibit 2-7
 ABC- Manufacturing Company
Schedule of cost of Goods Manufactured
For the year ended December 31, 2014 (in thousands)

Direct materials:
Beginning inventory, January 1, 2014………………… xx
Add: net Purchases of direct materials…………………xx
Cost of direct material available for use………………. xx
Less: Ending inventory, December 31, 2014……………xx

Cost of direct materials used during the year 2014…………………………………. xx

Direct manufacturing labor………………………………………………………. xx

Indirect manufacturing (MOH) costs:

Indirect manufacturing labor…………………………. xx
Supplies……………………………………………….. xx
Heat, light and power……………………………….. xx
Depreciation-plant building…………………………… xx
Depreciation-plant equipment…………………………. xx
Miscellaneous expenses………………………………. xx
Total indirect manufacturing costs of the year………………………………………… xx
Total manufacturing costs incurred during the year……………………………… xx
Add beginning work-in- process inventory, January 1, 2014………......................... xx
Total manufacturing costs up to date……………………………………………… xx
Deduct ending work-in-process inventory, December 31, 2014 ………………… xx
Cost of goods manufactured …………………….. ………………………………… xx
PANEL-B: COMPARATIVE PARTIAL BALACE SHEET (CURRENT ASSETS SECTION)

Merchandising Company
Current Asset:
Cash-----------------------------------------------------------$ 10,000
A single inventory Accounts receivable------------------------------------------ 60,000
Account consisting Merchandise inventory------------------------------------- 150,000
Of goods purchased prepaid expenses--------------------------------------------- --5,000
From suppliers Total current Assets-----------------------------------------$225,000

Manufacturing Companies

Current Assets:
Cash-----------------------------------------------------$15,000
Accounts receivable-----------------------------------100,000
Inventories:
Three inventory accounts Raw materials-----------------$15,000
Consisting of materials to be Work in process---------------60,000
used in production, goods Finished goods--------------175,000 250,000
partially manufactured,
and goods completely Prepaid expenses----------------------------------------10,000
manufactured. Total current assets--------------------------$375,000

Non manufacturing costs –many other functional cost classifications are used besides manufacturing
costs. Some of the most important ones are:
- Merchandise costs
- Marketing costs
-Administrative costs
-Research and development costs
- Others
Merchandise costs –are the costs incurred by retail and wholesale firms to acquire merchandise for resale.
Merchandise costs include the purchase cost of the goods plus transportation costs.

Marketing costs- includes the costs of selling goods or services and the costs of distribution. Selling costs (or
order –getting costs) include salaries, commissions and travel costs of sales personnel, and the costs of
advertising and promotion. Distribution costs (or order-filling costs) refer to the costs of storing, handling, and
shipping finished products.

Administrative costs- refer to all costs of running the organization as a whole. The salaries of top-management
personnel and the costs of the accounting, legal, and public relation activities are examples of administrative
costs.

Research and development costs-include all costs of developing new products and services. Such costs
becoming increasingly important as international competition increases and as high-technology firms make up a
growing segment of the economy. The costs of running laboratories, building prototypes of new products and
testing new products are all classified as research and development (or R & D) costs.
Service organizations and their cost concepts

The use of direct materials is not common in service companies unlike the case of manufacturing companies.
This is because, direct materials are used to build products, but since service companies do not build products,
direct materials are not usually a significant cost input. Exception would be fuel for transportation and utility
services.
Likewise, service concerns do not have direct labor in the normal sense of the term. This is not to say that
service firms do not employ labor to serve customers directly. A hospital employs nurses, a university employs
professors, a hotel employs desk clerks, and an airline employs pilots and so on. These people are not typically
referred to as direct labor, even though they may provide direct service to the customer. Since direct materials
and direct labor are not found in service companies, that leaves mostly overhead resources. Thus the overhead
used in services companies includes most of the costs to perform the services for the customer.

The distinction between product and period costs are generally not repaired for the service companies. The
reason is that there is no inventory in the service companies. The period/product cost distinction was developed
in order to value inventory for determining income. Since service companies have no inventory, the cost of
providing the service is entirely expensed in the period the service is provided. Therefore, the costs shown on
the income statement of service companies usually consists wholly of period costs.
Service companies may need to determine service costs in order to price various services. For example, a
trucking company needs to know the cost to move a shipment from one location to another in order to
determine appropriate pricing.

Economic characteristics of costs

In addition to accounting cost classifications, such as product costs and period costs, managerial accountants
also employ economic concepts in classifying costs. Such concepts are often useful in helping accountants
decide what cost information is relevant to the decisions faced by the organization’s managers. Some of the
most important economic cost concepts are:

 Opportunity costs
 Out-of- pocket costs
 Sunk costs
 Differential costs
 Marginal costs and Average costs

Opportunity costs-An opportunity cost is defined as the benefit that is sacrificed when the choice of one action
precludes taking an alternative course of action. E.g. if beef and fish are the available choices for dinner, the
opportunity cost of eating beef is the forgone pleasure associated with eating fish.

Out-of pocket costs- are those that require the payment of cash or other assets as a result of their incurrence.
The out of pocket costs associated with office equipment order is consists of the manufacturing costs required to
produce the equipments.
Sunk costs- are costs that have been incurred in the past. Consequently, they do not affect future costs and
cannot be changed by any current or future action. Examples of such costs include the acquisition cost of
equipment previously purchased, the manufacturing cost of inventory on hand, and the like.
Differential costs- A differential cost is the amount by which the cost differs under two alternative actions. It is
also known as incremental costs. Suppose for example that Hawassa University is considering two alternative
means of providing accommodation for academic stuffs.
i) To provide a house and transport allowance and get the stuffs reside else where out side the
University compound. Assume that the total monthly cost to be incurred by the university under
this alternative is Br 150,000
ii) To provide all stuff with accommodation within the university compound and pay no house and
transport allowances. Let say that the total monthly cost to be incurred by the university under
this alternative is estimated to be Br 100,000.

The monthly differential cost of accommodating the stuff by the university would therefore be:

Cost of providing house and transport allowance Br 150,000

Cost of accommodating the stuff in the university compound 100,000
Monthly differential cost 50,000

Marginal costs and Average costs- marginal cost is the extra cost incurred when one additional unit produced.
The additional cost incurred to assemble one additional machinery by assembly department is the marginal cost
of assembling the machinery. The average cost per unit is the total cost for whatever quantity is manufactured,
divided by the number of units manufactured.

NB Many deferent cost concepts have been explored in this chapter. An important task of the managerial
accountant is to determine which of these cost cosncepts is most appropriate in each situation. The
accountant attempts to structure the organization’s accounting information system to record data that
will be useful for different purposes. The benefits of measuring and classifying costs in a particular way
are realized through the improvements in planning, control, decision making and other management
activities that the information facilitates.
Another important task of the managerial accountant is to weigh the benefits of providing information
against the costs of generating, communicating, and using that information. Moreover the management
accountants are expected to decide on amount of information to be provided. This is because, to process
more information may lead to information overload, the case where managers face a problem of
properly identifying important facts out of what is available.

CHAPTER THREE
 JOB ORDER COSTING SYSTEM

INTRODUCTION
Companies frequently adopt one of the two costing systems to assign costs to products
or services. These are:
1. Job order costing system: is a type of cost system that provides for a separate
record of the cost of each particular quantity of product that passes through the
factory. Job order costing system is commonly used by companies with products
that are unique and divisible. In this system, costs are assigned to distinct unit,
batch or lot of product or service. Job is a task for which resources are expended in
bringing a distinct product or service to market
Examples of business that use job order costing includes
 Construction companies
 Furniture manufacturers
 Printing firms
 Repair shops
 Service giving organization
 Garages etc.
2. Process costing system: is used for manufacturing processing which produce a
single product or single mix of products continuously for an extended period of
time. In this system, the cost of a product or service is obtained by using broad
averages to assign costs to mass of similar units produced for general sale and not
for any specific customers.
Companies that use process costing system are:
 Cement factories
 Petroleum refineries
 Flour companies
 Beer factories
 Textile factories
 Beverage companies
Difference between job order costing and process costing system
Base of comparison Job order costing Process costing
Type of product Diversified Homogeneous products
heterogeneous and produced continuously
unique products
Cost accumulation By job for a specified By department or cost
number of unit center for a specified
period of time
Cost per unit Cost accumulated by Cost accumulated by
job, divided by unit job cost centers divided by
equivalent unit of
production during a
period of time
Reporting By job By cost center or
department
Most companies have costing system that are neither pure job costing nor pure process
costing rather they combine elements of both job costing and process costing. This is
called hybrid costing system

Source of documents for job order costing

Source documents are the original record that supports journal entries in accounting
system. The key source document in job order costing system is job cost sheet (job cost
record) this document records and accumulates all the cost (direct material, direct labor
and MOH cost) assigned to a specific job.
Source documents also exist for individual items in a job
Material requisition record: is used to record material used on a specific job
Material requisition record
Record No.--------------- date
--------------
Job No.-------------------
Number description quantity Unit cost Total cost
1 XX1 100 $4 $400
2 ZZ4 20 $10 200
3 YY5 70 $5 350

ACCOUNTING PROCEDUER FOR JOB ORDER COSTING

Job order costing system requires a subsidiary ledger for each job order and general
ledger (controlling account) for the total amount. Entries in subsidiary ledger will be
made frequently and summarized in control account in weekly or monthly interval.
Major accounting procedures in job order costing system
 Receiving job order and purchase of raw materials
 Transferring raw material to work in process
 Recording labor to work in process
 Recording actual manufacturing over head cost incurred
 Allocating manufacturing over head cost work in process
 Transferring work in process to finished good
 Transferring finished goods to customers.
Manufacturing over head cost is incurred for the benefit of all jobs produced during a
period and can not be related to any particular job. As manufacturing over head costs
are incurred, they are accumulated as manufacturing overhead control account. Some
manufacturing costs such as utility will not be known until the end of the period. Hence,
rather than holding a finished good job until all costs can be attributed to it, it is
necessary to develop a method of allocating manufacturing over head cost to the job
completed. This is called normal costing. In normal costing direct material and direct
labor costs are directly traced to the job completed but MOH cost is allocated to it using
budgeted rate and actual allocation base. To determine budgeted rate:
 Estimate manufacturing overhead cost for the year.
 Choose allocation base such as labor hour, direct labor cost or machine hour.
 Estimate the allocation base for the year
  Calculate the budgeted rate using the formula.(see page 4)
Manufacturing-Overhead costs-It is relatively simple to trace direct-material and
direct labor costs to production jobs, but manufacturing overhead is not easily traced to
jobs. By definition, manufacturing overhead is a heterogeneous pool of indirect
production costs, which bears no obvious relationship to individual jobs or units of
products, but must be incurred for production to take place. Therefore, it is necessary to
assign manufacturing-overhead costs to jobs in order to have a complete picture of
product costs. This process of assigning manufacturing overhead costs to production
jobs is called overhead application /or overhead allocation / or sometimes
overhead absorption/

Exhibit 3-8: Summary of overhead concepts

The amount of overhead cost that management
Estimated overhead cost estimate to be incurred. This estimate is made
Before the period or at the beginning of the period
in order to compute predetermined overhead rate.

Actual overhead cost The amount of overhead cost

that is actually incurred during
a period (as shown by payments The deference
for utilities, rents, and so on.) between these
amounts
Applied overhead The amount of overhead cost represents
that is added(applied)to work under or
in process. This amount is over
applied
computed by applying overhead
actual activity during
the period by the predetermined
overhead rate

Actual costing- Allocate direct material and direct labor costs to cost objects on the
bases of actual direct-cost rate(s) and actual quantity of direct-cost input(s). Overhead
costs are allocated to cost object on the basis of actual overhead rate computed at the
end of the period and actual amount of cost deriver used
Normal costing- allocate direct material and direct labor cost on the bases of actual
direct cost rate(s) and actual quantity of direct-cost input(s). Overhead costs are
allocated to cost object on the basis of predetermined /budgeted/ overhead rate
computed at the beginning of the period and actual quantity of cost-allocation
base(s).The summary is given as follows.

Actual costing Normal costing

Direct costs - Actual direct-cost rate(s) × - Actual direct-cost rate(s) ×
Actual quantity of direct-cost Actual quantity of direct-cost
Input(s) input(s)

Indirect costs -Actual indirect-cost rate(s) × - Budgeted indirect-cost rate(s) ×

 Actual quantity of cost-allocation Actual quantity of cost-allocation
base(s). base(s)
Allocation of overhead costs- for product costing to be useful, information must be
provided to managers on a timely basis. Suppose the cost-accounting department waited
until the end of an accounting period so that the actual costs of manufacturing overhead
could be determined before applying overhead costs to the firm’s products. The result
would be very accurate overhead application and decision based in such information
could be better i.e. better pricing and control decisions may result from more accurate
product costs. However, the information might be useless because it was not available to
managers for planning, control, and decision making at the appropriate time. Do to this
fact many opportunities may be missed and late responses may be given to events.
Thus, managers and management accountants must weigh the costs and benefits of this
information.
- It might be tempting to solve the overhead rate problem by using an actual rate and
recomputed the rate frequently to provide more timely information. This is generally
because of the numerator and denominator factors such as the following.

Numerator factors (indirect cost pools)

- The shorter the period, the greater the influence of seasonal patters
eg Cost of heating is higher in the winter than it is in the summer.
Cost of ventilator is higher in the summer than in winter.
- Non seasonal erratic costs such as cost incurred in a particular month that
benefit operation during future month’s e.g. Repair and maintenance
of equipment, vacation and holiday pay.
The denominator reason (quantity of the allocation base)
- Some indirect costs such as costs of supplies may be variable with
respect to the cost-allocation base, whereas other indirect costs are
fixed( for example, property taxes and rent)
Thus, it is possible to smooth out fluctuation in the overhead rate and the
numerator and denominator related variations by computing the rate over a long time
such as one year period and so.

Actual overhead rate Predetermined overhead rate

- More accurate, but - Less accurate, but more
untimely information timely information

Each entails costs and benefits

that must be considered

Predetermined overhead rate-As most management accountants recommend, and as

most organizations do, apply overhead to products on the basis of estimates made at the
beginning of the accounting period. The accounting department chooses some measure
of productive activity to use as the basis for overhead application. In the case of
traditional approaches, this could be volume based cost drive (or activity base) such
direct labor hours, direct-labor cost, machine hours, number of miles traveled and the
like

As estimate is made of (1) the amount of manufacturing overhead costs that will be
incurred during a specified period of time and (2) the amount of the cost driver that will
be used or incurred during the same time period, then a predetermined overhead
rate is computed as follows:
Predetermined = Budgeted total manufacturing overhead cost for the period
Overhead rate Budgeted total amount of cost driver (activity base)
For example, suppose that R-printing co. has chosen machine hours as its cost driver
(activity- base), and estimated that its total overhead cost to work on two distinct jobs,
job-1,and job-2 for the next year will amount to $90,000 and that the total machine
hours required for the two jobs will be 10,000 hours. Then, its predetermined overhead
rate is computed as follows:

Predetermined overhead rate = $90,000 = $9.00 per machine hours.

10,000 hours
Applying overhead costs- The predetermined overhead rate is used to apply
manufacturing overhead costs to production jobs/ normal costing/. The actual quantity of
the cost driver (or activity base) required by a particular job is multiplied by the
predetermined overhead rate to determine the amount of overhead cost applied to the
job. For example, suppose that R-printing co. job number one (Job-1), consists of
1,000 brochures that requires a total of three machine hours. The overhead applied to
the job is computed as follows:

Predetermined overhead rate---------------------------------$9

Machine hours required by job-1------------------- --------×3
Overhead applied to job-1-----------------------------------$27

The $27 of applied overhead will be added to Work-in-Process Inventory and recorded on
the job-cost sheet for job-1. The accounting entry made to add manufacturing overhead
to Work-in-Process Inventory may be made daily, weekly, monthly and so, depending on
the time required to process production jobs. Before the end of the accounting period,
entries should be made to record all manufacturing costs incurred to date in Work-in-
Process Inventory. This is necessary to properly value work in process on the balance
sheet.

Work-in-process control-is the account used to record direct material and direct labor
cost used / put/ in to production. As direct materials are used, they are charged to
individual job records, which are subsidiary ledger accounts for the Work-in Process
control account in the general ledger account. Its balance increases when indirect costs
are applied to production.
Manufacturing overhead control- is the account used to record the actual costs
incurred during the period in all the individual overhead categories such as indirect
material, indirect labor, and other indirect costs. It has a normal debit balance i.e. it
increases when actual indirect costs are incurred and decreases when indirect costs are
applied to production process on the basis of the predetermined overhead rate.
Manufacturing overhead applied-is the account used to record the manufacturing
overhead allocated during the period to individual jobs on the bases of the budgeted rate
multiplied by actual amount /number/unit/ allocation base such as direct manufacturing
labor-hours. It is a contra-account to manufacturing overhead account.
Disposing of factory overhead balances-If the actual overhead had been less than or
more than the applied overhead, then, there will be overhead balances that should be
disposed as of the end of the accounting period.
If actual overhead is less than applied overhead, the difference would have been called
over applied overhead or over allocated overhead.
If the actual overhead is more than applied overhead, then, the difference is called
under applied Overhead or under allocated overhead.
In any ways, companies have three alternatives to dispose the overhead balances at the
end of the period. These are:
(1) Adjusted allocation rate approach- this approach restate all entries in
the general and subsidiary ledgers by using actual cost rates than
budgeted cost rates. First the indirect cost rate is computed at the end of
the year. Then, every job to which indirect costs were allocated during
the year has its amounts recomputed using the actual indirect-cost rate
rather than the budgeted indirect cost rate. This will give the best
accuracy, and decisions based on accurate information could be sound
and more important. But unless computer system is applied, it will be
complicated and costly.
(2) Write-off to cost of Goods sold Approach-as in the case of most
companies, the over or under applied overhead costs may be closed into
cost of goods sold.
a) For under applied overhead balance, by debiting Cost of
Goods sold accounts and crediting Manufacturing overhead account
by the amount of the difference or by debiting cost of goods sold by the
amount of the difference and debiting Manufacturing overhead applied
account by its balance and crediting Manufacturing overhead control
account by the total amount of its balance i.e.

Cost of goods sold----------------------------------xxx

Manufacturing overhead applied---------------- -xxx
Manufacturing overhead control--------------xxx

b)For over applied overhead balance, by crediting Cost of Goods sold

account and debiting to manufacturing overhead applied account by the
amount of the difference or by crediting cost goods sold by the amount of
the difference, crediting manufacturing overhead control account by its
balance and debit manufacturing overhead applied account by its balance.
i.e. Manufacturing over head applied-------------------------xxx
Cost of goods sold------------------------------------------------xxx
Manufacturing overhead control------------------------------- xxx
 (3) Proration Approach-is the distribution of overhead balances among
ending work in process, finished goods, and cost of goods sold accounts.
Materials inventories are not allocated any manufacturing overhead
costs, so they are not included in this spreading of under-or over
allocated overhead among proration. To this effect, companies may use
the amount of the current period’s applied overhead remaining in each
account as the base for the proration procedure.
Suppose that AB-Manufacturing company produces two products X and Y. Assume
that the total actual overhead costs incurred by the company and the total overhead
costs applied by the company during the year 2002 were $19,400 and $18,000
respectively. The current period before adjustment overhead balance allocated to Work-
in-Process, Finished Goods Inventory and Cost of Goods sold accounts are $9,000,$3,000
and $6,000 respectively.
The under applied overhead balance = $19,400- $18,000 = $400

The company can prorate the balance of $400 among the three accounts as
follows.
Total year end overhead balances of the three accounts (before adjustment) = $9,000 +
$3,000 + $6,000 = $18,000. Thus, the amount allocated to each account should be:
Work-in process = $9,000 × $400 = $200
$18,000
Finished goods inventory = $3,000 × $400 = $ 66.67
$18,000
Cost of goods sold = $6,000 × $400 = $133.33
$18,000
The entry for this case should be:
Work-in process inventory------------------200
Finished goods inventory-----------------66.67
Cost of goods sold------------------------133.33
Manufacturing overhead control--------------400

This approach gives us a more accurate figure of work in process, finished goods, and
cost of goods sold, but it is still not as simple as write off to cost of goods sold methods.

NB-In all of the above cases /approaches/, the balances of manufacturing Overhead
control and Manufacturing Overhead applied accounts should be reduced to zero after
the factory overhead balances are removed through adjustment and ready to
accumulate the overhead costs of the next accounting period.
 In choosing among the three approaches, managers should be guided by how the
resulting information will be used.
-If managers desire to develop the most accurate records of individual job costs for
profitability analysis purposes, the adjustment allocation-rate approach is preferred.
- If the purpose is confined to reporting the most accurate inventory and cost of goods
sold figures, proration approach on the manufacturing overhead-allocated component
in the ending balances should be used.
-If the amount of under or over allocated balances is small-in comparison to total
operating income, or some other measure of materiality, the write off to cost of
goods sold method(the simples method) could be used. This approach can be reliable in
today’s business environment where the concept of JIT is applicable.
To illustrate the procedures used in job-order costing, we will examine the accounting
entries made by Alpha-manufacturing co. during November 2014. The company uses
machine hours to allocate overhead costs to the individual jobs. It has worked on two
production jobs during the month.
Job-1: 80 deluxe wooden canoes
Job-2: 80 deluxe aluminum fishing boats
The company undertaken the following activities/transaction during the month of November
Transaction-1: Acquisition of direct materials
4000-square feet of rolled aluminum sheet metal were purchased on account for $10,000. The purchase is
recorded with the following journal entry.
Raw-material Inventory----------------------10,000
Accounts payable------------------------------10,000

Transaction-2: Use of direct material

On November -1, the following material requisitions were filed.

Requisition number-001 (for job-1) ---------8,000 board feet of lumber, at $2 per

board foot, for a total of $16,000
Requisition number-002 (for job-2) --------7,200 square feet of aluminum sheet metal,
at $2.50 per square foot, for a total of $18,000

The following journal entry records the release of these raw materials to production.

Work-in-process inventory---------------34,000
Raw-material inventory--------------------34,000

Transaction-3: Use of indirect material

On November 15, the following material requisition was filed.
Requisition-003: 5-gallons of bonding glue, at $10 per gallon, for a total cost of $50

Manufacturing overhead-------------------50
Manufacturing supplies inventory----------50

Since only small amounts of bonding glue are used in the production of all classes of
boats manufactured by the company, the costs incurred is small, and no attempt is
made to trace the cost of glue to specific jobs. Instead, glue is considered an indirect
material, and its cost is included in manufacturing overhead. The company accumulates
all manufacturing-overhead cost in Manufacturing Overhead account. All actual overhead
cost are recorded by debiting the account when indirect materials are requisitioned,
when indirect-labor costs are incurred , when utility bills are paid, when depreciation is
recorded on manufacturing equipment, and so on.

Transaction-4: Use of direct labor

At the end of November, the cost-accounting department used the labor time tickets
filed during the month to determine the following direct-labor costs of each job.
Direct labor: Job-1----------------$9,000
Direct labor: Job-2--------------12,000
Total direct labor-----------------$21,000
The journal entry used to record these costs should be

Work-in-process Inventory---------------21,000
Wages payable--------------------------------21,000
Transaction-5: Use of indirect labor
The analysis of large time card undertaken on November-30 also revealed the
following use of indirect labor that is not charged to either of the products specifically,
amounts to $14,000.
This cost is comprised of the production supervisor’s salary and the wages of various employees who spent
some of their time on maintenance, general cleanup duties and salary of guards and store keepers during
November.
Manufacturing overhead--------------------14,000
Wages Payable------------------------------------14,000

No entry is made on any job cost sheet, since indirect-labor costs are not traceable to
any particular job. In practice, journal entries (4) and (5) are usually combined into one
compound entry as follows:

Work in process inventory------------------21,000

Manufacturing overhead---------------------14,000
Wages payable------------------------------------35,000
Transaction-6: Other manufacturing over head costs
During November, the company incurred the following other manufacturing overhead
cost besides the indirect materials and indirect labors costs.

Rent on factory building (expired prepaid rent) ------------ $3,000

Depreciation on equipment-------------------------------------5,000
Utilities (electricity, water, telephone) ----------------------- 4,050
Property taxes----------------------------------------------------2,000
Insurance (amount expire during the month) -----------------1,000
Total -----------------------------------------------------------$15,050

The following compound entry is made on November-30, to record these costs.

Manufacturing overhead------------------------15,050
Prepaid Rent----------------------------------------------3,000
 Accumulated depreciation-Equipment--------------- -5,000
Accounts Payable (utilities and property tax) -------- 6,050
Prepaid Insurance----------------------------------------1,000

Application of manufacturing overhead

Various manufacturing-overhead costs were incurred during November, and these costs
were accumulated by debiting the Manufacturing-Overhead accounts. However, no
manufacturing-overhead cost have yet been added to Work- in-Process Inventory or
recorded on the job-cost sheets. The application of overhead to the firm’s products is
based on a predetermined overhead rate. This rate computed by the accounting
department at the beginning of the period. (Refer to page-14 to 15)

Transaction-7: Allocation of overhead costs

Factory machine-usage records indicate the following usage of machine hours during
November.
Machine hour used: Job-1 ----------------------------- 1, 200 hours
Machine hour used: Job-2-------------------------------2,000 hours
Total machine hours-------------------------------------3,200 hours
The total manufacturing overhead applied to Work-in-Process Inventory during
November is calculated as follows (refer page 5 for predetermined rate)

Machine hour x Predetermined Manufacturing

Overhead rate overhead applied
Job-1 1,200 × $9.00 = $10,800
Job-2 2,000 × $9.00 = $18,000
Total manufacturing overhead applied $28,800
The following journal entry is made to apply manufacturing overhead to Work-in-Process
Inventory.

Work-in-Process Inventory ----------------------28,800

Manufacturing overhead---------------------------------28,800

NB. As the following time line shows, three concepts are used in accounting for

overhead. Overhead is budgeted at the beginning of the accounting period, it is

applied during the period, and actual overhead is measured at the end of the period.

Beginning of End of
Accounting period accounting period
TIME

Budgeted overhead
(and calculation of Applied Actual
Predetermined overhead overhead
Overhead rate)

Transaction-8: Selling and administrative costs

During November, Alpha-manufacturing co. incurred the following selling and
administrative costs.

Rental of sales and administrative offices--------------------------$1,500

Salaries of sales personnel--------------------------------------------4,500
Salaries of management----------------------------------------------8,000
Advertising------------------------------------------------------------1,000
Office supplies used--------------------------------------------------- 300
Total-----------------------------------------------------------------$14,800

Since these are not manufacturing costs, they are not added to Work-in-Process
Inventory. Selling and administrative costs are period costs, not product costs. They are
treated as expenses of the accounting period. The following journal entry is made

Selling and Administrative Expenses---------------------14,800

Wages Payable---------------------------------------------------12,000
Accounts payable-------------------------------------------------1,000
Prepaid Rent------------------------------------------------------1,500
Office Supplies inventory------------------------------------------300

Transaction-9: Completion of production job

Job-2 was completed during November, whereas job-1 remained in process. The job
sheet indicates that the total cost of job-2 was $48,000. The following journal entry
records the transfer of these job costs from Work-in-Process Inventory to finished goods
inventory.

Finished goods inventory--------------------48,000

Work-in- Process inventory-------------------48,000

Transaction-10: Sales of goods

Sixty deluxe aluminum fishing boats manufactured in job-2 were sold for $900 each
during November. The cost of each unit sold was $600 as shown on the job cost sheet.
The following journal entries were made

a) Accounts Receivable------------------54,000
Sales Revenue-----------------------------54,000

b) Cost of goods sold-----------------------36,000

Finished goods inventory-----------------36,000
The reminder of the manufacturing cost of job-2 remains in Finished –goods inventory
until some subsequent accounting period when the units are sold. Therefore the cost
balance for job-2 remaining in inventory is $12,000 (20 units remaining times $600 per
unit.)

Transaction-11: Disposition of overhead balances

During November, Alpha-Manufacturing co. incurred total actual manufacturing-
overhead costs of $29,050, but only $28,800 of overhead was applied to Work-in-Process
Inventory. The amount by which the company’s actual overhead exceeds applied
overhead, called under applied overhead, and is calculated below.

Actual manufacturing overhead*----------------------------------$29,050

Applied manufacturing overhead+-------------------------------- 28,800
Under applied overhead---------------------------------------------$ 250

The company disposes its overhead balances at the end of the year by directly writing
the amount to cost of goods sold during the period. Accordingly, the following journal
entry is made by the company. This entry reduces the balance of Manufacturing
Overhead accounts to zero and increase the balance of cost of goods sold account by
$250.

Cost of goods sold------------------------------250

Manufacturing Overhead control--------------250

Schedule of cost of goods sold

Schedule of cost of goods sold for Alpha-manufacturing Company is displayed in exhibit
3-9 .This schedule shows the November cost of goods sold and detailed the changes in
Finished-Goods Inventory during the month.

Exhibit 3-9: Schedule of cost of goods manufactured

Alpha-Manufacturing company
Schedule of cost of Goods Manufactured
For the month of November, 2014
Direct material:
Raw-material inventory, November-1-----------------------$30,000
Add: November purchase of raw material-------------------10,000
Raw material available for use-------------------------------$40,000
Deduct: Raw-material inventory, November-30--------------6000
 Raw material used-------------------------------------------------------------- $34,000
Direct labor----------------------------------------------------------------------------------21,000
Manufacturing overhead:
Indirect materials---------------------------------------------- $50
Indirect labor----------------------------------------------------14,000
Rent on factory building--------------------------------------- 3,000
Depreciation on equipment-------------------------------------5,000
Utilities------------------------------------------------------------4,000
Property taxes---------------------------------------------------- 2,000
Insurance----------------------------------------------------------1,000
Total actual manufacturing overhead-------------------- $29,050
Deduct: Under applied overhead------------------------- 250*
Overhead applied to work in process-------------------------------------------- 28,800
Total manufacturing costs------------------------------------------------------ $83,800
Add: Work in process inventory, November-1-------------------------------- 4,000
Subtotal---------------------------------------------------------------------------- $87,800
Deduct: Work in process, November-30, --------------------------------------- 39,800
Cost of goods manufactured---------------------------------------------------- $48,000
 The schedule of cost of goods manufactured lists the manufacturing costs applied to Work in
Process. Therefore, the under applied overhead of $250 must be deducted from total actual
overhead to arrive at the amount of overhead applied to work in process during November. If there
had been over applied overhead, the balance would have been added to total actual manufacturing
overhead.
Exhibit 3-10: Schedule of Cost of Goods Sold

Alpha-Manufacturing company
Schedule of cost of goods sold
For the Month of November, 2014
Finished goods inventory, November-1------------------------------------$12,000
Add: Cost of goods manufactured*-------------------------------------------48,000
Cost of goods available for sale--------------------------------------------- $60,000
Deduct: Finished-goods inventory, November-30------------------------ 24,000
Cost of goods sold (before adjustment) ------------------------------------$36,000
Add: Under applied overhead +--------------------------------------------- 250
Cost of goods sold (adjusted for under applied overhead) ------------ -$36,250
* The cost of goods manufactured is obtained from the schedule of cost goods manufactured in exhibit 3-9.
+ The company closes overhead balances to cost of goods sold account. Hence the $250 balance in under
applied overhead is added to cost of goods sold for the month.
Exhibit 3-11: Income Statements
Alpha-Manufacturing company
Income statement
For the Month of November, 2014
Sales revenue----------------------------------------------------------------------$54,000
Less: Cost of goods sold*------------------------------------------------------- 36,250
Gross margin----------------------------------------------------------------------$17,750
Selling and administrative expenses--------------------------------------------- 14,800
Income before taxes---------------------------------------------------------------$ 2,950
Income tax expenses------------------------------------------------------------ 1,420
Net Income----------------------------------------------------------------------- $1,530
*The cost of goods sold is obtained from the schedule of cost of goods sold
in exhibit 3-10.

Posting journal entries to the ledger

All of the journal entries in the Alpha-Manufacturing illustration are posted to the ledger
in exhibit 3-12 as follows. An examination of these T-accounts provides a summary of the
cost flows discussed throughout the illustration.
Exhibit 3-12: Ledger accounts for Alpha-Manufacturing Company’s illustration.
Accounts Receivable Raw material Inventory Wages Payable
10,000 Bal.
Bal. 11,000 Bal. 30,000 34,000 (2) 21,000 (4)
(10a) 54,000 (1) 10,000 14,000 (5)
12,000 (8)

Prepaid Insurance Work-in-Process Inventory Office Supplies inventory

Bal. 4,000 48,000 (9) Bal. 900 300 (8)
Bal. 2,000 1,000 (6) (2) 34,000
(4) 21,000
(7) 28,800 Accumulated Depreciation-
Prepaid Rent equipment
Finished Goods inventory
Bal. 5,000 Bal. 12,000 36,000 (10b) 105,000 Bal.
3,000 (6) (9) 48,000 5,000 (6)
1,500 (8)

Accounts payable Manufacturing Overhead

Manufacturing supplies 3,000 Bal. (3) 50 28,000 (7)
Inventory 6,000 (6) (5) 14,000
10,000 (1) (6) 15,000
Bal. 750 50 (3) 1000 (8)
250 (11)

Selling and administrative

Cost of Goods sold Expenses Sales Revenues
(10b) 36,000 54,000 (10a)
(11) 250 (8) 14,800

* The number in parentheses relates T-account entries to the associated journal entries. The given
balances are the November-1 account balances.

Exercise 3.1: the following budgeted data is given for XYZ textile factory for the year
2004
 Estimated MOH cost-------------------------------$450,000
Estimated no of shirts produced--------------------200,000shirts
Estimated DM cost for the year---------------------$300,000
Estimated DL cost -----------------------------------$900,000
Estimated DL hours ---------------------------------300,000hrs
Estimated machine hours ----------------------------90,000hrs
Compute the predetermined MOH rate on the following allocation base
1. physical out put method
2. direct material cost base
3. direct labor base
4. direct labor hours base
5. machine hours base
Assume all information in above and the following in above and the following additional
information
Actual data for job 201 is given below
Actual shirts completed for job 201 -----2,000 shirts
Actual DM used --------------------------$30,000
Actual DL cost ----------------------------$20,000
Actual DL hours---------------------------400hrs
Actual machine hours----------------------240hrs
Determine the total cost of job 201 under each of the five bases of allocation
Exercise 3.2: A corporation uses job order cost system. The factory overhead rate
estimated for the year 2014 was $8 per DL hour; the inventory account had the following
balances on Dec. 1
Raw material-------------------------- $7,000
WIP (job210) ---------------------------$6,500
FG (job209) -----------------------------$7,000
During December, the following events occurred
1. Material purchased on account $18,000
2. Direct materials and factory supplies were issued as follows:
 job 211---------------------$4,500
 job212----------------------$5,300
 job213----------------------$6,200
 indirect materials ----------$1,800
3. the December direct cost were:
 job 210------------------------150 hrs@ $6per hour
 job 211------------------------400 hrs@ $6per hour
 job 212------------------------350 hrs@ $6per hour
 job 213------------------------100 hrs@ $6per hour
4. factory indirect labor for December was $2,400
5. other overhead cost incurred during December
 Utility paid in cash----------------------$2,500
 Factory deprecation---------------------$ 1,000
 Repair and maintenance ----------------$500
 Total $4,000
6. job 210,211and 212 were completed and transferred to FG
 7. job 209 and 211 were sold on account for120% of cost
Required:
1. Journalize the above transactions
2. determine the under or over applied overhead
Exercise 3.3 Robinson manufacturing company uses a job order costing system. Its job
order costing system has two direct costs (DM and DL) and one indirect cost category on
January 1, 2004, the following inventories are available
 Raw material ------------------$10,000
 WIP----------------------------$5,000
 Finished goods ----------------$15,000
Robinson budgeted the 2004 manufacturing overhead to be $1,280,000 and the budget
quantity of machine hours (allocation base) are 16,000 machine hours.
The following transaction occurs during the month of January
1. Purchase of material (direct and indirect), $89,000on account
2. raw material sent to manufacturing plant floor is $85,000out of which $4,000 is
indirect material
3. manufacturing labor wages liability incurred is $54,000out of which $15,000is
indirect
4. The actual machine hours used in the period were 1,000 machine hours. The
manufacturing over head is allocated using this actual machine hour.
5. additional manufacturing over head cost incurred during the month is $75,000 this
cost consists of utility and repairs,$23,000 insurance expired $2,000, depreciation
expense $50,000
6. cost of finished goods of eight individual jobs completed and transferred out is
$188,800
7. finished goods costing $180,000 was sold for $300,000on cash
Required:
a) journalize the above tr5ansactions
b) post using t-account
c) compute the under or over applied MOH cost
d) close the amount using direct write-off to cost of good sold

Exercise 3.4 ABC Company uses normal costing with single manufacturing overhead
cost pool and machine hours as the cost allocation base. The followings data are for
2004.
 Budgeted manufacturing overhead ---------------------------$4,800,000
 Overhead allocation base ---------------------------------------machine hour
 Budgeted machine hour ----------------------------------------$80,000
 Actual manufacturing over head incurred----------------------$4,900,000
 Actual machine hour ---------------------------------------------$75,000
Machine hour’s data and the ending balance (before peroration of under or over applied
MOH cost) are4 as follows
Actual machine hours End of year balance
Cost of goods sold 60,000 8,000,000
Finished goods 11,000 1,250,000
 Work in process 4,000 750,000
Required:
a) Compute the budgeted manufacturing overhead rate for 2004
b) Compute the under or over applied MOH cost
c) Close the amount using
I. Direct write of to cost of goods sold
II. Prorate based on ending balance of WIP,CGS and FG
III. Prorate based on the allocated MOH cost amount in the ending balance of WIP,CGS and
FG