Managerial Accounting: An Introduction To Concepts, Methods, And

Uses

Chapter 2Measuring Product Costs

Maher, Stickney and Weil

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Learning Objectives (Slide 1 of 3)

Understand the nature of manufacturing costs.

Explain the need for recording costs by department and assigning costs to products.

Understand how the Work-in-Process account both describes the transformation of inputs into outputs in a company and accounts for the costs incurred in the process.

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Learning Objectives (Slide 2 of 3)

Compare and contrast normal costing and actual costing.

Know various production methods and the different accounting systems each requires.

Compare and contrast job costing and process costing systems.

Compare and contrast product costing in service organizations to that in manufacturing companies.

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Learning Objectives (Slide 3 of 3)

Understand the concepts of customer costing and profitability analysis.

Identify ethical issues in job costing. Recognize components of just-in-time

(JIT) production methods and understand how accountants adapt costing systems to them.

Know how to compute end-of-period inventory book value using equivalent units of production.

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Manufacturing Costs Include three major categories:

Direct materials Easily traced to a product

Direct labor Labor of workers who transform materials

into a finished product Manufacturing Overhead

All other costs of transforming materials into a finished product

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Relation Between Departmental Costing and Product Costing(Slide

1 of 3)

Manufacturing costs are first assigned to departments or responsibility centers A responsibility center is any

organizational unit with its own manager e.g., divisions, territories, plants

Aids in planning and performance evaluation

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Relation Between Departmental Costing and Product Costing(Slide

2 of 3)

Direct MaterialsDirect LaborManufacturing

Overhead

Product A

Product B

Assembly Dept.

Finishing Dept.

Record Costs for Performance

Evaluation

Assign CostsTo Products

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Relation Between Departmental Costing and Product Costing(Slide

3 of 3)

Actual manufacturing costs recorded in departments can be compared to standard or budgeted amounts Differences, called variances, can be

investigated further Costs are then assigned to products

Useful in managerial decision making such as evaluating product profitability

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Model of Cost Flows

Beg.Inv. Direct

Mat. Direct

Labor Overhea

dEnd.Inv.

WIP-Dept.1WIP-

Dept.2

Finished Goods

Inventory

Cost of Goods Sold

Transfer to Dept.2

Added MLOin Dept. 2

Costs Allocated to Units Finished This Period

Beg. Inv.

End. Inv.

Costs of UnitsSold ThisPeriod

Balance Sheet Accounts Income Statement Accounts

Mktg. &Admin.

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Basis Cost Flow Equation

Beginning Balance + Transfers In= Transfers Out + Ending Balance

Transfer In to Work-In-Process include: Materials Labor Overhead

Equation is useful in determining reasonableness of inventories

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Cost Measures (Slide 1 of 2)

Normal Costing--commonly used to assign costs to products Assigns actual direct materials and

direct labor plus “normal” manufacturing overhead

Overhead is applied to units produced using an application rate estimated before the accounting period begins

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Cost Measures (Slide 2 of 2)

Actual Costing--assigns actual overhead to products Actual overhead may vary for reasons

unrelated to production activity resulting in product cost fluctuations unrelated to production activity

Normal costing tends to smooth out these fluctuations

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Applying Overhead Costs Normal costing works as follows:

1. Select a cost driver2. Estimate overhead and the level of

activity for the accounting period3. Compute the predetermined

manufacturing overhead rate4. Apply overhead to production by

multiplying the predetermined overhead rate times the actual activity

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Overhead Rate Computation

Predetermined manufacturing overhead rate is calculated as follows:

Estimated Manufacturing Overhead =

Normal (or Estimated) Activity Level

Predetermined Overhead Rate

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Example-Overhead Rate Computation

Plantimum Builders estimates that next year variable overhead will be $100,000 and direct labor will be 50,000 hours The predetermined overhead rate for next

year will be:

$100,000 = $2.00 Per Direct Labor Hour

50,000 DLHs

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Cost Systems Effective cost systems must have

the following characteristics: Decision focus Provide different cost information for

different purposes Pass the cost-benefit test

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Production Methods and Accounting Systems

Type Production Accounting SystemType ProductJob Job Costing Customized (e.g., Custom Homes)

Operations Operation Costing Mostly (e.g., Cars) Standardized

Continuous Flow Process Costing StandardizedProcessing (e.g., Oil Refinery)

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Job Costing Collect costs for each “unit”

produced Typically used by companies

producing customized products or “jobs”

Examples: print shops, customized construction companies, defense contractors

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Process Costing Company accumulates costs in a

department or production process Those costs are spread evenly over

units produced Essentially, computes an average cost

per unit Examples: manufacture of soft drinks,

paint, chemicals

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Operation Costing A hybrid of job and process costing

Typically used when production involves a standardized method of making a product that is performed repeatedly

Products may share common production methods but differ in details

Examples: Clothing, computers, furniture

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Service Organizations Flow of costs is similar to that of a

manufacturing company Providing a service requires labor,

overhead, and sometimes materials (called supplies)

Costs are collected by the job or client Provides info for cost control,

performance evaluation, and future pricing decisions

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Ethical Issues in Job Costing

Improprieties in job costing generally arise from: Misstating stage of completion Charging costs to the wrong job

May be an attempt to avoid the appearance of cost overruns

Misrepresenting the costs of jobs Causes problems when job is billed on a

cost-plus-fee basis

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Just-In-Time (JIT) Methods Attempt to obtain materials or

provide finished goods just in time Reduces or eliminates inventories and

related carrying costs May allow production costs to be

recorded directly to Cost of Goods Sold (COGS)

May involve use of “Backflush Costing” Used to transfer costs back to inventories when

production costs are initially recorded as COGS

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Spoilage and Quality of Production

Normal waste is typically included in the cost of work performed If waste is not “normal” it may be

included in an expense account called “Abnormal Spoilage”

Companies concerned about quality production may not treat any waste or spoilage as normal

Prevents these costs from being buried in production costs

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Computing Costs of Equivalent Production

Five steps required to compute costs of products, ending inventory, and finished goods1. Summarize flow of physical units2. Compute equivalent units3. Summarize costs to be accounted for4. Compute unit costs5. Compute cost of goods completed and

transferred out and cost of ending inventory of WIP

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If you have any comments or suggestions concerning this PowerPoint Presentation for Managerial Accounting, An Introduction To Concepts, Methods, And Uses, please contact:

Dr. Donald R. Trippeer, CPA donald.trippeer@colostate-pueblo.edu

Colorado State University-Pueblo