Three manufacturing costs
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Direct material cost: Consist of all those material that can be identified with a specific product. Example: wood used in manufacturing of a table. Direct labor cost :

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Three manufacturing costs

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Three manufacturing costs

Direct material cost:

Consist of all those material that can be identified with a specific product. Example: wood used in manufacturing of a table.

Direct labor cost :

Consist of all those cost that can be specifically traced or identified with a particular product. Example: wages of workers working on that table.

Overhead (indirect) cost:

overhead refers to the cost pool used to accumulate all indirect manufacturing costs. Indirect costs are allocated to the cost object using of cost allocation method. Example: heat, light and power for the factory, rent on factory building, property taxes on factory building, and all kind of depreciation.

Three manufacturing costs


Factory overhead

Overhead consists of many individual cost items. These are costs that can’t be measured or traced for a specific product. Factory overhead costs are both fixed and variable. The factory overhead controlling account is debited when costs are incurred and credited when factory overhead is applied to various job orders. i.e indirect material and labor, utility costs, depreciation of equipment and salaries of factory administrative personnel.

Factory Overhead


Plant wide blanket overhead rates

The most simplistic traditional costing system assigns indirect costs to cost objects using a single overhead rate for the organization as a whole. The terms blanket overhead rate or plant-wide rate are used to describe a single overhead rate that is established for the organization as a whole.

Plant-wide (blanket) overhead rates


Job order costing

A job is a production run for a specific product. A relatively small number of units generally comprise a job. Job order costing system record actual and estimated production costs in the formal accounting system leading to manufacturing statements.

Construction firms use a variation of job order costing. Some overhead is applied to each job so that the contractor can recoup its general production costs which apply to all jobs but which are not traceable to any specific job.

Job Order Costing


Benefits of job costing

You will know on an ongoing basis which projects are profitable and which ones aren’t.

You will be able to get paid on a timely basis as you complete the job.

You can avoid committing resources to projects.

If you manufacture products:

You will know what it cost to make each item

You will be able to set selling prices that cover your costs and earn a fair profit

You will know what product lines to expand because they’re profitable, and what product line to drop because they’re unprofitable.

Benefits of job costing


General approach to job costing

Identify the job that is chosen cost object

The cost object can be chosen through the job cost record. Companies keep a job cost record for every specific job. A job cost record, also called a job cost sheet records and accumulates all the costs assigned to a specific job, starting when work begins.

General approach to job costing


Three manufacturing costs

Identify the Direct costs of the job:

Robinson identified two direct manufacturing cost categories,

direct material and direct manufacturing labour. Example can be seen for the direct costs for the specific job.

Select the cost allocation bases to use for allocating indirect cost to the job.

Indirect costs can’t be allocated to a specific product. It will be impossible to complete a job without incurring indirect cost such as supervision, manufacturing engineering, utilities and repairs. Multiple cost allocation bases are used to allocate a indirect cost because different indirect cost have different cost drivers. Example : depreciation or repair of machines is closely related to machine hours so machine hours can be used as a cost driver.


Three manufacturing costs

Identify the indirect cost associated with each cost allocation base.

Now that the allocation bases has been identified, all indirect cost are now identified for that allocation base. In our example from the Robinson company they use indirect manufacturing costs to machinery hours used.

Compute the rate per unit of each cost allocation base used to allocate indirect costs to the job.

Actual manufacturing overhead costs

Actual manufacturing overhead rate =

Actual total quantity of cost allocation base

$1215000

Actual manufacturing overhead rate =

27000 direct manufacturing labor hours

$45 per direct manufacturing labor hour

=


Three manufacturing costs

Compute the indirect costs allocated to the job.

Indirect cost allocated to a job=

actual quantity of each different allocation base x indirect cost rate of each allocation base

Compute the total cost of the job by adding all direct and indirect costs assigned to the job.

Total cost= Direct cost + Indirect cost


Three manufacturing costs

JOB-COST RECORD

JOB NO:

WPP 298

CUSTOMER:

Western Pulp and Paper

Date Started:

Feb. 3, 2006

Date Completed:

Feb. 28, 2006

DIRECT MATERIALS

Materials

Requisition No.

Unit

Cost

Date

Received

Quantity

Used

Total

Costs

Part No.

Feb. 3, 2006

2006: 198

MB 468-A

8

$ 14

$ 112

Feb. 3, 2006

2006: 199

TB 267-F

12

63

756

$4,606

Total

DIRECT MANUFACTURING LABOR

Labor-Time

Record No.

Hourly

Rate

Period

Covered

Employee No.

Hours

Used

Total

Costs

Feb. 3-9, 2006

LT 232

551-87-3076

25

$ 18

$ 450

Feb. 3-9, 2006

LT 247

287-31-4671

5

19

95

$1,579

Total

MANUFACTURING OVERHEAD

Allocation-Base

Units Used

Cost pool

Category

Allocation-

Base Rate

Total

Costs

Date

Allocation-Base

Dec. 31, 2006

Manufacturing

Direct Manufacturing

88 hours

$ 45

$ 3,960

Labor-Hours

$ 3,960

Total

$ 10,145

TOTAL MANUFACTURING COST OF JOB


Three manufacturing costs

MATERIALS-REQUISITION RECORD

Materials-Requisition Record No:

2006: 198

Feb. 3, 2006

Unit Total

Cost Cost

Date:

Quantity

8

Job No.:

Part

No.

MB 468-A

WPP 298

Part

Description

Metal

Brackets

$14 $112

Issued By:B. Clyde

Received By: L. Daley

Date:

Date:

Feb. 3, 2006

Feb. 3, 2006


Three manufacturing costs

Panel 2Material

Requisition

Number Description Quantity Rate Amount47624 Bar steel 720 lbs $11.50 $8,280.00

Stock 3”

A35161 Subassemblies 290 units 38.00 $11,020.00

Total direct materials cost $19,300.00

Panel 1Job Number: J4369 Date: July 6, 2000Customer: Michigan MotorsProduct: Automobile engine valves (Valve #L181)Engineering Design Number: JDR-103Number of Units: 1,500


Three manufacturing costs

Panel 3Dates Number Hours Rate Amount

8/2, 8/3, 8/4, 8/5 M16 24 $28.00 $672.00

8/2, 8/3, 8/4, 8/5 M18, M19, M20 64 26.00 1,664.00

8/6, 8/7, 8/8, 8/9, 8/10 A25, A26, A27 120 18.00 2,160.00

8/6, 8/7, 8/8, 8/9, 8/10 A32, A34, A35 60 17.00 1,020.00

Total direct labor cost 268 $5,516.00

Panel 4 Support Cost Amount

117 Machine hours @ $40 per hour $ 4,680.00

268 Direct labor hours @ 36 per hour 9,648.00

Total overhead cost $14,328.00


Three manufacturing costs

Concept of Costing System

Cost Assignment

Direct

costs

Cost

Object

Cost Tracing

Indirect

costs

Cost Allocation


Assigning direct and indirect costs

A cost allocation is the process of assigning costs when a direct measure does not exist for the quantity of resources consumed by a particular cost object. Example: consider an activity such as receiving incoming materials. Assuming that the depreciation of the machine is strongly related to the number of hours machine was used. The basis that is used to allocate costs to cost objects is called an allocation base or cost driver.

Two types of systems can be used to assign indirect costs to cost objects. They are traditional costing system and activity-based-costing(ABC) systems.

Assigning direct and indirect costs


Three manufacturing costs

Cost Allocations and Cost Tracing

Direct

costs

Cost tracing

Traditional costing systems

Cost

objects

Indirect

costs

Cost allocations

ABC systems


Three manufacturing costs

Traditional Costing Systems

Overhead cost accounts

(for each individual category of expenses)

First stage allocations

Cost

center

1

(Normally departments)

Cost

center

2

(Normally departments)

Cost

center

N

(Normally departments)

Second stage

allocations

(Direct labour or

machine hour)

Cost objects (Products, services and customers)

Direct

cost


An illustration of the three stage process for a traditional costing system

Applying the three-stage allocation process requires the following four steps:

Assigning all manufacturing overheads to production and service cost centres;

Reallocating the cost assigned to service cost centres to production cost centres;

Computing separate overhead rates for each production cost centre;

Assigning cost centre overheads to products or other chosen cost objects.

An illustration of the three-stage process for a traditional costing system


Three manufacturing costs

Traditional Costing System

Levels of Sophistication

Simplisticsystems

  • Inexpensive to operate

  • Extensive use of arbitrary cost allocations

  • Low levels of accuracy

  • High cost of errors


Three manufacturing costs

Service

dept

S1

S4

S2

S3

Conceptual view of the separate department overhead rates

Producing

dept

DM

DL

FO

DM

DL

FO

DM

DL

FO

Cost

objects

Cost

objects

Cost

objects

Cost

objects

Cost

objects

Cost

objects


Stage 1 assigning all manufacturing overhead to production and service departments

Common cost are allocated to all the departments. Some cost can be directly related such as salary of the engineer working in the service quality department, however other need to be allocated using an allocation base.

Basis of allocation

Cost

Area

Number of employees

Value of items of plant and

machinery

Property taxes, lighting and heating

Employee-related expenditure:

works management, works canteen, payroll office

Depreciation and insurance of plant and machinery

Stage1 : Assigning all manufacturing overhead to production and service departments.


Three manufacturing costs

Stage2 :Reallocating the cost assigned to service cost centers to production cost centers.

the next step is to reallocate the costs that have been assigned to service cost centres to production cost centres. Service departments or support department are those departments that exist to provide services of various kinds of other units within the organization. For example, the costs of the cafeteria can be reallocated to the production cost center by using number of workers in the factory as the allocation base.

There are three methods in reallocating the cost from service to production departments.

DIRECT METHOD

STEP METHOD

ALGEBRIC METHOD


Three manufacturing costs

Diagram of 3 diff, allocation methods

Service department

Producing department

X

A

Part 1

Direct method

B

Y

X

A

Part 2

Step method

B

Y

X

A

Part 3

Algebraic

method

B

Y


Stage 3 assigning cost center overheads to products or other chosen cost objects

In the final step is to allocated the overheads to products passing through the production centers. Volume base allocation is used to assign the overhead costs to the products. Example, number of units produced, number of machine hours used.

Stage 3: Assigning cost center overheads to products or other chosen cost objects.


Three manufacturing costs

The annual costs for the Enterprise Company which has three production centres (two machine centres and one assembly centre) and two service centres (materials procurement and general factory support) are as follows:

(£)

(£)

Indirect wages and supervision

Machine cenres: X

Y

Assembly

Materials procurement

General factory support

Indirect materials

Machine centres: X

Y

Assembly

Materials procurement

General factory support

Lighting and heating

Property taxes

Insurance of machinery

Depreciation of machinery

Insurance of buildings

Salaries of works management

1 000 000

1 000 000

1 500 000

1 100 000

1 480 000

6 080 000

500 000

805 000

105 000

0

10 000

1 420 000

500 000

1 000 000

150 000

1 500 000

250 000

800 000

4 200 000

11 700 000


Three manufacturing costs

The following information is also available:

Area

Occupied

(sq. metres)

Number

Of

employees

Direct

Labour

hours

Book

Value of

Machinery

(£)

Machine

hours

Machine shop: X

Y

Assembly

Stores

Maintenance

8 000 000

5 000 000

1 000 000

500 000

500 000

10 000

5 000

15 000

15 000

5 000

300

200

300

100

100

1 000 000

1 000 000

2 000 000

2 000 000

1 000 000

1000

15 000 000

50 000

Details of total material issues to the production centres are as follows:

(£)

4 000 000

3 000 000

1 000 000

Machine shop X

Machine shop Y

Assembly

8 000 000


Three manufacturing costs

OVERHEAD ANALYSIS SHEET

Production centres

Service centres

Machine

centre X

(£)

Machine

centre Y

(£)

Materials

procurement

(£)

General

factory support

(£)

Total

(£)

Assembly

(£)

Item of

expenditure

Basis of

allocation

Indirect wage and

supervision

Indirect materials

Lighting and

heating

Property taxes

Insurance of

machinery

Depreciation of

machinery

Insurance of

buildings

Salaries of works

management

Reallocation of

service centre

costs

Materials

procurement

General factory

support

Machine hours and direct

labour hours

Machine hour overhead rate

Direct labour hour overhead rate

Direct

Direct

Area

Area

Book

value of

machinery

Book

value of

machinery

Area

Number of

employees

(1)

Value of

materials

issued

Direct

labour

hours

(2)

6 080 000

1 420 000

500 000

1 000 000

150 000

1 500 000

250 000

800 000

1 000 000

500 000

100 000

200 000

80 000

800 000

50 000

240 000

1 000 000

805 000

50 000

100 000

50 000

500 000

25 000

160 000

1 100 000

150 000

300 000

5 000

50 000

75 000

80 000

1 480 000

10 000

50 000

100 000

5 000

50 000

25 000

80 000

1 500 000

105 000

150 000

300 000

10 000

100 000

75 000

240 000

11 700 000

2 970 000

2 690 000

2 480 000

1 760 000

1 800 000

880 000

450 000

660 000

450 000

220 000

900 000

1 760 000

1 800 000

11 700 000

4 300 000

3 800 000

3 600 000

2 000 000

1 000 000

2 000 000

£2.15

£3.80

£1.80


Three manufacturing costs

Reallocation of

Service centre

costs

Materials

procurement

General factory

support

Machine hours and direct

labour hours

Machine hour overhead rate

Direct labour hour overhead rate

Value of

materials

issued

Direct

labour

hours

(2)

880 000

450 000

660 000

450 000

220 000

900 000

1 760 000

1 800 000

11 700 000

4 300 000

3 800 000

3 600 000

2 000 000

1 000 000

2 000 000

£2.15

£3.80

£1.80


Three manufacturing costs

cost centre overheads

cost centre direct labour hours or machine hours

£4 300 000

Machine centre X =

= £2.15 per machine hour

2 000 000 machine hours

£3 800 000

Machine centre Y =

= £3.80 per machine hour

1 000 000 machine hours

£3 600 000

Assembly department =

= £1.80 per direct labour hour

2 000 000 direct labour hours


Three manufacturing costs

£

Product A

Direct costs (100 units x £100)

Overhead allocations

Machine center A (100 units x 5 machine hours x £2.15)

Machine center B (100 units x 10 machine hours x £3.80)

Assembly (100 units x 10 direct labour hours x £1.80)

Total cost

Cost per unit (£16 675/100 units) = £166.75

10 000

1 075

3 800

1 800

16 675

£

Product B

Direct costs (200 units x £200)

Overhead allocations

Machine center A (200 units x 10 machine hours x £2.15)

Machine center B (200 units x 20 machine hours x £3.80)

Assembly (200 units x 20 direct labour hours x £1.80)

Total cost

Cost per unit (£66 700/200 units) = £333.50

40 000

4 300

15 200

7 200

66 700


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