MANAGEMENT ACCOUNTING

1. MANAGEMENT ACCOUNTING Cheryl S. McWatters, Jerold L. Zimmerman, Dale C. Morse

2. Management Accounting Absorption costing systems(Planning and control) Chapter 10

3. Objectives • Identify different types of production systems and corresponding adsorption costing systems • Understand a job-order cost system • Identify how costs flow through different accounts • Calculate over- and under-absorbed overhead • Account for over- and under-absorbed overhead • Use ABC to allocate overhead in a job-order system • Use multi-stage allocation methods and departmental cost pools to allocate overhead • Calculate product costs using process costing

4. Cost of GoodsManufactured InventoryValuation Product Costing Proceduresin Organizations Absorption costing is theprocess of allocatingvariable and fixedoverhead costs to products AbsorptionCosting

5. Product Costing Proceduresin Organizations Job-orderSystem Process System Distinct jobs or batches of units Costs accumulated separately by job Examples of job order costs: • Batches of window wiper motors • Building construction Service industry examples • Processing a loan application • Law suit

6. Product Costing Proceduresin Organizations Job-orderSystem Process System Mass production in continuous-flow processes Costs cannot be directly traced to each unit of product Typical process cost applications: Petrochemical refinery Paint manufacturer Paper mill

7. Direct materials Direct materials Direct materials Direct labour Direct labour Direct labour Job-Order Costing Manufacturing overhead (OH) Applied to each job using a predetermined rate Traced directly to each job The Job Combinations of common resources, machines, supervisors, shipping, docks and plant space Traced directly to each job

8. Job-Order Cost Sheet The primary document for tracking the costs associated with a given job is the job-order cost sheet Information includes material, time cards, machine hours and shipping

9. Materials usedmay be eitherdirect orindirect Job-Order CostingDocument Flow Summary Job-Order Cost Sheets Direct materials MaterialsRequisition Manufacturing Overhead Account Indirect materials

10. An employee’stime may be eitherdirect or indirect Job-Order CostingDocument Flow Summary Job-Order Cost Sheets Direct Labor Employee Time Ticket Manufacturing Overhead Account Indirect Labor

11. Job-Order CostingDocument Flow Summary IndirectLabor EmployeeTime Ticket OtherActual OHCharges Manufacturing Overhead Account AppliedOverhead Job-Order Cost Sheets MaterialsRequisition IndirectMaterials

12. Job-Order Cost Sheet

13. Features of Job-Order Costing • All direct costs of manufacturing the job are traced directly to the job • Each job is charged for some indirect manufacturing overhead • At least one allocation base is used to distribute overhead costs to jobs • The application rate for overhead is set at the beginning of the period • Reported product costs are average , not variable or marginal costs

14. Cost Flows Through the Accounts The job sheet is the underlying source document in the job order cost system Costs are recorded through the use of bar codes, RFID, chips and hand held computers The accounting system tracks costs to each job and enters costs onto a work in progress inventory account

15. Cost Flows Through the Accounts Finished goods Labour Total factory labour Direct Labour Cost of units sold Indirect Labour Work in Process Overhead Cost of units completed Other items: insurance, taxes, depreciation Overhead absorbed OH rate x machine hours Cost of goods sold Materials All materials and supplies Direct Materials Indirect Materials

16. Allocating Overhead to Jobs • Define the cost objects • Accumulate indirect costs in cost pools • Choose an allocation base • Estimate an application rate • Allocate indirect costs based on use of the allocation base Recall from Chapter 9 the overhead allocation steps

17. Over- and Under-Absorbed Overhead Over-absorbed overhead Under-absorbed overhead

18. Over- and Under-absorbed Overhead Numerical Example A tool manufacturer used machine hours to allocate overhead costs. The company expects to use 1,000 machine hours during the month and overhead costs are expected to be £100,000. An application rate of £100,000/1,000 Machine Hours is used If the actual overhead costs during the month are £90,000 and the actual machine hours are 900, what is the difference between applied and actual overhead There is no difference

19. Over- and Under-absorbed Overhead Numerical Example A tool manufacturer used machine hours to allocate overhead costs The company expects to use 1,000 machine hours during the month and overhead costs are expected to be £100,000. An application rate of £100,000/1,000 Machine Hours is usedIf the actual overhead costs during the month are £98,000 and the actual machine hours are 950, what is the difference between applied and actual overhead The overhead is under-absorbed

20. Over- and Under-absorbed Overhead If the actual usage of the allocation base is less than predicted , less overhead costs are allocated than the predicted amount. This causes under-absorbed overhead Over-absorbed overhead occurs if the actual usage of the allocation base is greater than the predicted usage of the allocation base

21. Over- and Under-absorbed Overhead Numerical Example A bicycle manufacturer estimates the company will use 3,000 direct labour hours. The company estimates that fixed costs will be €30,000 and variable costs will be€20/direct labour hour At the end of the year the company finds that it estimated fixed overhead and variable overhead per direct labour hour correctly, but used 4,000 direct labour hours The overhead is over-absorbed

22. Accounting for Over- and Under-Absorbed Overhead Three basic approaches • Adjust cost of goods sold • Prorate among work-in-process, finished goods, and cost of goods sold or • Recalculate the application rate and apply to all the jobs during the period Recalculation is costly and inefficient, but may be required for cost reimbursement contracts

23. Over & Under-Absorbed Overhead Numerical Example At the end of the accounting period, a window manufacturer has the following account balances The amount of overhead allocated to these accounts was £20,000, based on an application rate of £5 per direct labour hour, but the actual overheads were £25,000

24. Over & Under-Absorbed OverheadNumerical Example Adjustments if the under-absorbed overhead is completely allocated to cost of goods sold The under-absorbed overhead is £25,000 - £20,000 = £5,000

25. Over & Under-Absorbed OverheadNumerical Example Adjustments if the under-absorbed overhead is prorated The actual number of direct labour hours The actual application rate is £6.25/DLH

26. Over & Under-Absorbed OverheadNumerical Example

27. Accounting for Over- and Under-Absorbed Overhead

28. Multiple Stage Allocation Process Up to this point, we have assumed that overhead costs are accumulated in a single cost pool and allocated using a single allocation base Overhead Cost Pool Application Rate Products

29. Multiple Stage Allocation ProcessNumerical Example A printing company receives an order to print 20 books. The company uses 10 reams of paper at £15 per ream and 20 covers at £5 per cover. 15 hours of labour at £15 per hour were used. Overhead is allocated based on ABC

30. Multiple Stage Allocation ProcessNumerical Example Job-order cost sheet and decision on price to charge

31. Multiple Stage Allocation Process • Improves planning and control • Activity Based Costing (ABC) is one method of using multiple allocation bases • Often allocates general overheads to departments and then allocates departmental costs to products and services

32. Multiple Stage Allocation Process Overhead Cost Pool 1 Overhead Cost Pool 2 Overhead Cost Pool 3 Overhead Cost Pool 4 Separate Application Rates Department A Department B Department C Dept. Application Rates Dept. Application Rates Products

33. Process Costing Identical units of product are producedin a continuous flow through a series of manufacturing steps or processes Costs are assigned to completed units transferred out of the process and to incomplete units remaining in the process Simple to do and less costly than job-order costing

34. Process Costing Costs are accumulated for a period of timefor products in work-in-process inventory Equivalent units is a concept expressing these partially completed products as a smaller number of fully completed products

35. + = Equivalent Units Two one-half completed products are equivalent to one completed product 8,000 units 70% completeare equivalent to 5,600 complete units

36. Components of Equivalent Units • Work to complete beginning work-in-process • Work on units that are both started and completed during the period • Work on units that are started (but not completed) during the period

37. Equivalent UnitsNumerical Example A computer workstation manufacturer began an completed 500 workstations during the period Another 50 workstations were worked on during the period. On average these units were 60% completed. There was no beginning work-in-process. Manufacturing costs were €5,000,000 The average cost per workstation is €5,000,000/530 = €9,434

38. Calculating and Using Equivalent Units of Production To calculate the cost perequivalent unit for the period: Cost perequivalent unit Costs for the periodEquivalent units for the period =

39. Equivalent Units Numerical Example A television manufacturer had 1,000 units in work-in-progress that were 30% completed at the end of last year This year the remaining 70% of the work on the 1,000 units was completed and 10,000 more units were started and completed. In addition 500 units were started this period and are 60% completed. Manufacturing costs were £2,000,000 The cost per equivalent unit is £2,000/11,000 = £181.81

40. Management Accounting Absorption costing systems (Planning and control) End of Chapter 10