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\f23/09/2016 Chapter 4 Product costing systems Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-1 Outline Product costing Different costs for different purposes Designing product costing systems Flow of costs in manufacturing businesses Allocating overhead costs to products Accounting for manufacturing overhead Types of product costing systems Job costing Process costing Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-2 1 23/09/2016 Product costing Product costing systems - Accumulate product-related costs to assign to the organisation's final products - Product-related costs are called production costs - Upstream costsresearch and development, product design, supply - Downstream costsmarketing, distribution, customer service Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-3 The Product costing system Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-4 2 23/09/2016 Different product costs for different purposes Only production costs are included in product costs for external reporting purposes For managerial decisions, product costs may include upstream, manufacturing and downstream costs Current or future product costs - Current product costs - Estimates of future product costs (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-5 Different product costs for different purposes (cont.) Types of costs to be included in product costs for managerial decisions depends on - The type of managerial decision to be made - Whether the decision has short-term or long-term implications - Managers' personal preferences Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-6 4-6 3 23/09/2016 Relevance of product cost measures to management decisions Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-7 Different product costs for different purposes (cont.) Frequency of provision of product cost information - Infrequently for long-term decisions - More regularly for cost control and inventory valuation Product costs may differ over - The range of costs included - Current or future costs - Frequency information is required Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-8 4 23/09/2016 Designing product costing systems Identify the managers' needs Identify where product cost information may come from Cost and benefits of providing various types of cost estimates Businesses sometimes use product costs developed for external reporting for managerial decision making Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-9 Flow of costs in manufacturing businesses For inventory valuation in external financial reports only manufacturing costs are assigned to products, as required by Australian accounting standards Manufacturing costs consist of three components - Direct material (DM) - Direct labour (DL) - Manufacturing overhead (MOH) (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-10 5 23/09/2016 Flow of costs in manufacturing businesses Manufacturing costs flow through several ledger accounts (RM, MOH, WIP, FG, COGS) - Raw materials inventory - Work in process inventory - Finished goods inventory - Cost of goods sold expense - Profit and loss account Copyright 2012 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Management Accounting: Information for managing and creating value 6e Slides prepared by Kim Langfield-Smith Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-11 4-11 Flow of costs in manufacturing businesses (cont.) Australian accounting standards require that upstream and downstream costs are expensed in the period in which they are incurred - May be included in product costs where relevant to managers' decision making Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-12 6 23/09/2016 Flow of costs through manufacturing accounts Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-13 Allocating overhead costs to products Estimating the cost of a product Some resources are consumed directly by products and are traced directly to each product Overhead costs are essential to production but as they have no observable relationship with the product they need to be allocated to products (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-14 7 23/09/2016 Job costing- estimating MOH using overhead rates- why? Actual overhead for the period is not known until the end of the period. Some of the OH costs cannot be traced directly to the product produced or service provided Using a predetermined rate makes it possible to estimate job costs sooner http://img2.imgtn.bdimg.com/it/u=2277442222,2923869572&fm=21&gp=0.jpg Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-15 4-15 Allocating overhead costs to products (cont.) Step 1: Aggregate overhead costs into cost pools Step 2: Identify the overhead cost driver Step 3: Calculate a predetermined (or budgeted) overhead rate per unit of cost driver Step 4: Apply manufacturing overhead costs to products Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-16 8 23/09/2016 Direct and indirect costs of products Step 1 & 2 Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-17 Predetermined/Budgeted Overhead Rate Per Unit Budgeted OverheadBudgeted level of cost driver Step 3 Eg. Budgeted overhead for the coming year is $1,000,000, the number of direct labour hours worked is identified as the overhead cost driver and it is expected that 200,000 direct labour hours will be worked in the coming year. Predetermined OH per unit= $1,000,000200,000= $5 per direct labour hour Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-18 4-18 9 23/09/2016 Step 4: If producing a product required 10 direct labour hours, then the amount of overhead applied to the product would be: = $5 per direct labour hour 10 direct labour hours = $50 Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-19 Accounting for manufacturing overhead Two types of manufacturing overhead are recorded in an accounting system Actual manufacturing overhead - Accumulated as they are incurred throughout the accounting period Applied manufacturing overhead - Overheads applied to work in process inventory using a predetermined overhead (cont.) rate Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-20 10 23/09/2016 Accounting for manufacturing OH Debit Credit Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-21 4-21 Accounting for manufacturing overhead (cont.) At the end of an accounting period, total actual manufacturing overhead may not equal total applied manufacturing overhead Two alternatives for disposing underapplied or overapplied overhead: - Close the underapplied or overapplied overhead to cost of goods sold. - Prorate/ distribute proportionately the underapplied or overapplied overhead to COGS, WIP and finished goods inventory. Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-22 11 23/09/2016 Overapplied and Underapplied MFOH Summary If Manufacturing Overhead is UNDERAPPLIED (Applied OH is less than actual OH) OVERAPPLIED (Applied OH is greater than actual OH) Alternative 1 Alternative 2 Allocation Close to Cost of Goods Sold INCREASE Work in Process Finished Goods Cost of Goods Sold INCREASE Cost of Goods Sold DECREASE Work in Process Finished Goods Cost of Goods Sold DECREASE Cost of Goods Sold Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-23 4-23 Types of product costing systems Conventional product costing systems range from job costing to process costing Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-24 12 23/09/2016 Types of product costing systems Job costing - Manufacturing costs traced to individual jobs - Products produced are significantly different and may be produced in distinct jobs/batches Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-25 Job Costing Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-26 4-26 13 23/09/2016 Process costing Production costs traced to process or department and averaged across all units produced Mass production or repetitive processes environment Process costing involves - Estimating the cost of production processes - Calculating the average cost per unit - Sequential processes Some product costing systems have features of both job costing and process costing Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-27 Process Costing Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-28 14 23/09/2016 Continuum of conventional costing systems Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-29 Comparison of job costing and process costing Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-30 15 23/09/2016 Job Order Process Receive Orders from Customers Schedule Jobs Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e Begin Production Order Materials 4-31 Flow of Costs in a Job Costing System (illustration2-9, Jiambalvo, 2001, pg.39) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-32 16 23/09/2016 Job Costing System Costs are accumulated individually on a 'per job' basis Each job is a cost object Cost of job is maintained in subsidiary ledger account- the job cost sheet Job cost sheet shows details of the costs of DM, DL and MOH used to compete the job. Generated by a computer software package Each job will have its own separate job cost sheet Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-33 Job costing Bill of materialslists all the materials required for a job Material requisition formauthorises the movement of raw materials from the warehouse to the production department Job cost sheetsummarises the costs of direct material, direct labour and manufacturing overhead for a particular (cont.) job Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-34 17 23/09/2016 Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-35 4-35 Job costing (cont.) Purchase of materials Raw material inventory Accounts payable xxxx xxxx (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-36 18 23/09/2016 Job Costing Document Flow Direct Materials Materials Materials Materials Requisition Materials Requisition Requisition Requisition Job-Cost Job-Cost Job-Cost Job-Cost Sheets Sheets Sheets Sheets Manufacturing Overhead Indirect Materials Account Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-37 4-37 Material Requisition A document authorises the movement of raw materials from the warehouse to the production department. (WIP) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-38 4-38 19 23/09/2016 Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-39 Job costing (cont.) Transferring direct material to jobs Work in process inventory xxxx Raw material inventory xxxx (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-40 20 23/09/2016 Job costing (cont.) Use of indirect material in production Manufacturing overhead xxxx Manufacturing supplies inventory xxxx (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-41 Employee Time Sheet Copyright 2012 McGraw-Hill Australia Pty Ltd Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd PowerPoint slides to accompany Management Accounting: Information for Accounting, managing and Langfield-Smith, Thorne, Smith, Hilton Management 7e creating value 6e Slides prepared by Kim Langfield-Smith 4-42 4-42 21 23/09/2016 Time Sheets A document that indicates the employee, the hours worked, the account and the job to be charged, and the total labour cost. Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-43 Job Costing Document Flow Direct Labour Employee Employee Employee Time Sheet Employee Time Sheeton Time Sheet Time Sheet Job-Cost Job-Cost Job-Cost Job-Cost Sheets Sheets Sheets Sheets Indirect Labour Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e Manufacturing Overhead Account 4-44 4-44 22 23/09/2016 Job costing (cont.) Charging direct labour to jobs Work in process inventory xxxx Wages payable xxxx (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-45 Job costing (cont.) Accounting for indirect labour Manufacturing overhead xxxx Wages payable xxxx Accounting for OH costs Manufacturing overhead xxxx Prepaid rent xxxx Depreciation on equipment xxxx (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-46 23 23/09/2016 Job costing (cont.) Application of OH Work in process inventory xxxx Manufacturing overhead xxxx Completion of production job Finished goods inventory xxxx Work in process inventory xxxx (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-47 Job costing (cont.) Sale of goods Accounts receivable Sales revenue xxxx xxxx Cost of goods sold xxxx Finished goods inventory xxxx (cont.) Copyright 2015 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Thorne, Smith, Hilton Management Accounting, 7e 4-48 24 23/09/2016 Job costing (cont.) Underapplied overhead (Actual>Applied) Cost of goods sold xxxx Manufacturing overhead xxxx MOH - Control 120 100 Or the reverse entry if overhead is overapplied (Actual