Unit 2: Job Costing
Manufacturing companies assign direct materials, direct labor, and overhead costs to their products. Direct materials and direct labor costs are easily identified and assigned. Overhead costs, however, are not so simple to assign to individual job orders. In this unit, you'll discover a couple of methods upon which companies rely when they need to calculate and allocate overhead costs to jobs.
Job costing systems can do more than simply track the costs of each job. Companies also use these systems to track revenue and the resulting profit for each job. Also, a job costing system can be used to identify areas of concern by comparing the cost estimate prepared before starting the job with information on the completed job cost sheet. This type of analysis often leads to changes in the production process and revised estimates for future jobs.
Completing this unit should take you approximately 7 hours.
Upon successful completion of this unit, you will be able to:
- describe how job costing systems assign direct material costs, direct labor costs, and manufacturing overhead costs to jobs;
- use a job costing system to track costs and evaluate profitability for each job;
- demonstrate how the plant-wide, departmental, and activity-based methods each allocate manufacturing overhead costs; and
- use activity-based costing to make business and management decisions.
2.1: What is a Job Cost System?
- Merchandising companies track inventory costs. Manufacturing companies track production costs. Read the chapter introduction, then click "Next Section" to read section 2.1. In these two sections, you will learn about the importance of tracking production costs at every level of production for both job costing and process costing methods.
Watch this series of four videos that give several good examples of job order costing.
2.2: Direct Material, Direct Labor, Factory Overhead
Read section 2.2 to learn how to assign direct material and direct labor costs. Companies are careful to track both direct and indirect materials and labor, but only the direct resources are assigned immediately to production costs.
Indirect materials and indirect labor are part of manufacturing overhead costs, but so are lots of other costs associated with a manufacturing operation. Read section 2.3 to learn about applying overhead to the cost of production with a pre-determined factory overhead rate.
Read section 2.4. Service organizatons have similar objectives to manufacturing companies when it comes to tracking expenses. Certainly, they may rely less on direct materials for their product, but it's crucial for a service organization to track labor and overhead to be sure they're charging their customers appropriately!
Read section 2.5, and apply what you've learned so far to Custom Furniture's business. Review the financial statements and determine whether or not they're profitable. Will you see where they have room for improvement? Note that the end of chapter exercises are optional.
2.3: Allocating Overhead Costs
Read the Chapter 3 introduction, and then click "Next Section" to read section 3.1. Like Custom Furniture Company, SailRite Company, a maker of fine sail boats, is earning less profit than expected. Because SailRite makes many boats but only two models, job costing is not an appropriate costing system. Activity-based costing (ABC) is another method to allocate costs.
Direct labor and direct materials are allocated the same regardless of which system is used. Manufacturing overhead, however, which is an indirect manufacturing cost, can be allocated a number of different ways. Each way results in different total cost for the same product. the goal is to find a system of allocation that best approximates the amount of overhead costs required for each product.
ABC allocates overhead based on the activities that are driving the costs. The four steps to apply ABC are relatively straightforward. The key is to determine the appropriate cost driver for each activity. Note that job costing, process costing, and ABC use the same pool of costs. They are just three different ways of analyzing and allocating the cost pool.
At the end of "3.3: Using Activity-Based Costing to Allocate Overhead Costs", which you'll read soon, be sure to find out what is going wrong at SailRite and what two management actions or decisions could remedy the lower-than-expected profit.
Read section 3.2. Overhead costs are a significant part of production costs. Managers try to assign overhead costs (including indirect materials, indirect labor, rent, utilities, ect) to jobs as closely as possible to the dollar amount of resources these jobs consume. Managers might choose from the plant-wide allocation, department allocation, or the activity-based allocation.
Read section 3.3. There are five steps to the activity-based method of allocating overhead costs. Practice the steps until you're comfortable with them!
2.4: Practical Uses of ABC Costing
Read section 3.4. Don't let the terms confuse you! Activity-based management is simply a management technique that requires an analysis of activity-based costing for decision making.
Read section 3.5. Service organizations benefit from activity-management, as well!