Unit 2 Study Guide: Cost Management

Review these three videos which discuss several themes the learning outcomes below address:

2a: Distinguish between job order costing and process costing.

Manufacturers choose a costing method that allows them to accurately calculate the cost of goods manufactured and sold.

    • Define job order costing and process costing.
    • What costing method assigns manufacturing costs to unique items?
    • What costing method assigns manufacturing costs to batches of identical products?

Review Differentiating Job Costing from Process Costing from Managerial Accounting. Table 2.1 Job Costing Versus Process Costing presents compares job order and process costing.

2b: Describe how direct materials and direct labor costs are assigned to job orders.

In job order costing, raw materials are requisitioned that will be used to produce goods.

    • What type of journal entry records the requisition of raw materials used as direct materials?
In job order costing, workers who contribute to the direct manufacture of a product (whose time is easily tracked to a job order) are classified as direct labor.

    • What type of journal entry records the hours of direct labor spent on a particular job order?

Accountants use a job order cost sheet to record costs as they accumulate manufacturing costs for each job.

    • Define a job order cost sheet.
    • List three components of costs recorded on a job order cost sheet.
    • Describe the effect of debiting work in process for direct materials and direct labor on a job order cost sheet.

Review how manufacturers prepare job order cost sheets in How a Job Costing System Works from Managerial Accounting.

Review Figure 2.3 which presents an example of a job order cost sheet.

Figure 2.3 Job Cost Sheet for Custom Furniture Company

Figure 2.3 presents an example of a job order cost sheet.

2c: Explain how manufacturing overhead costs are assigned to job orders.

Accountants consider a predetermined overhead rate normal costing.

    • Define predetermined overhead rate.
    • Define normal costing.
    • Identify four reasons companies use normal costing, which uses a predetermined overhead rate, rather than apply overhead costs directly to a work in process account.

Review the benefits of normal costing in How a Job Costing System Works from Managerial Accounting.

Indirect materials, indirect labor, and all other manufacturing costs (that are not direct materials or direct labor), are recorded as manufacturing overhead.

    • Define indirect and direct materials, and indirect and direct labor.
    • What type of journal entry records manufacturing overhead costs?

Manufacturers use a predetermined manufacturing overhead rate to calculate their overhead costs.

    • How do managers calculate the predetermined manufacturing overhead rate?
    • What is an example of estimated total manufacturing costs a company would use for the numerator of their equation to calculate the predetermined manufacturing overhead rate?
    • What is an example of an estimated total activity base a company would use for the denominator of their equation to calculate the predetermined manufacturing overhead rate?

For example, a manufacturer may estimate total manufacturing overhead costs for the year at $100,000. If they also estimate the number of direct labor hours for the year to be 10,000 hours, they can divide $100,000 by 10,000 hours to arrive at a predetermined manufacturing overhead rate of $10 per direct labor hour.

The company will multiply that rate by the number of actual direct labor hours worked and debit work in process with a credit to manufacturing overhead for the result.

Here is the standard equation for calculating predetermined manufacturing overhead:

Predetermined manufacturing overhead rate = Estimated total manufacturing costs / Estimated total activity base

Accountants debit the manufacturing overhead account for actual costs.

    • What types of costs do companies identify as overhead costs?

Accountants credit the manufacturing overhead account for costs that were calculated using the predetermined overhead rate.

    • Why should accountants apply overhead to individual job orders with a predetermined manufacturing overhead rate?
    • Why is the manufacturing overhead account also called a clearing account?

Managers debit the manufacturing overhead account throughout the production process for actual costs. They credit this account whenever the accountant applies estimated overhead to the work-in-process account.

Consequently, the manufacturing overhead account will have a debit or credit balance at the end of production since it is nearly impossible to estimate all of the exact costs for production.

      • A debit balance represents underapplied overhead costs. This means actual overhead costs ended up being higher than the overhead costs that were applied using a predetermined manufacturing overhead rate.
      • A credit balance represents overapplied overhead costs. This means actual overhead costs ended up being lower than the overhead costs that were applied using a predetermined manufacturing rate.
    • Name the journal entry to close underapplied overhead to cost of goods sold.
    • Name the journal entry to close overapplied overhead to cost of goods sold.

Service organizations use job order costing to track costs by customer.

    • Define a service organization.
    • How does job order costing differ for manufacturing and service organizations?

Review the manufacturing overhead account in How a Job Costing System Works from Managerial Accounting.

Review Figure 2.7 which provides an example of journal entries for the job order costing method.

Figure 2.7 Custom Furniture Company’s Journal Entries for May

Figure 2.7 provides an example of journal entries for the job order costing method.

2d: Use a job order costing system to track costs and evaluate profitability for each job order.

Companies use job order costing systems to track costs for individual job orders which are used to calculate the profitability of individual job orders.

    • Why should managers prepare accurate estimates of costs associated with individual job orders and evaluate the accuracy of those estimates?

Review Figure 2.10 which compares estimated with actual costs.

Figure 2.10 Job Cost Estimates Versus Actual Results for Custom Furniture Company

Figure 2.10 compares estimated with actual costs.

2e: Explain why organizations allocate overhead costs to products.

Accountants use a predetermined overhead rate to allocate overhead costs to make it easier to apply costs that are difficult to trace to the production of a single job order.

    • Name three reasons managers should allocate overhead costs to products.

Review three reasons for using a predetermined overhead rate to allocate manufacturing overhead costs in Why Allocate Overhead Costs? from Managerial Accounting.

2f: Compare and contrast allocating overhead costs using a plant-wide rate, department rates, and activity-based costing.

Cost pools are necessary to allocate costs using a plant-wide overhead rate, departmental overhead rate, and activity-based costing.

    • Define plant-wide rate, department rates, and activity based costing.
    • Define cost pool.
    • Why do accountants use a cost pool to allocate costs with a plant-wide overhead rate?
    • Why do accountants use multiple cost pools to allocate departmental overhead costs?
    • Why do accountants use multiple cost pools to allocate overhead costs according to levels of individual activities?

Review how to determine plant-wide and department rates in Approaches to Allocating Overhead Costs from Managerial Accounting.

Review how to determine cost pools for activity-based costing in Using Activity-Based Costing to Allocate Overhead Costs from Managerial Accounting.

2g: Use the five steps of activity-based costing to determine product costs.

Managers use activity-based costing to identify and trace costs related to specific production activities.

Activity-based costing includes five steps to assign product costs.

      • Step 1: Identify all of the activities performed during the production process. Define activity-based costing and provide an example of the type of activity we are referring to here.
      • Step 2: Identify the costs associated with each activity in step one. Why do managers use cost pools in step two?
      • Step 3: Identify necessary cost drivers. Explain what this means.
      • Step 4: Calculate a predetermined overhead rate for each activity. Describe how this formula works.
      • Step 5: Apply the costs of overhead by multiplying the predetermined overhead rate by the actual activity in the cost driver. Explain what this means.

Review these definitions in How Does an Organization Use Activity-Based Costing to Allocate Overhead Costs? from Managerial Accounting.

Review the five-step process accountants use to determine and apply costs in activity-based costing in Using Activity-Based Costing to Allocate Overhead Costs from Managerial Accounting.

Review Figure 3.7 which compares activity-based costing to plant-wide costing.

Figure 3.7 Activity-Based Costing Versus Plant-wide Costing at SailRite Company

Figure 3.7 compares activity-based costing to plant-wide costing.

Review Figure 3.9 which reviews the three methods of applying overhead.

Figure 3.9 The Three Methods of Overhead Allocation

Figure 3.9 reviews the three methods of applying overhead.

2h: Define activity-based management.

Managers conduct a three-step process for activity-based management to improve efficiency and profitability.

    • Define and describe the three-step process managers use for activity-based management.

Review this three-step process in Using Activity-Based Management to Improve Operations from Managerial Accounting.

2i: Apply activity-based costing and activity-based management to service organizations.

Service organizations benefit from using activity-based costing and management processes.

    • Define and describe the five-step process managers use for service organizations.

Review the five-step process in Using Activity-Based Costing (ABC) and Activity-Based Management (ABM) in Service Organizations from Managerial Accounting.

2j: Compare and contrast job order costing and process costing.

Managers use costing to track the costs of unique or individual costs for manufacturing job orders. They use process costing to track costs to manufacture batches of similar or identical products.

    • How is calculating product costs for job order and process costing similar and different?
    • How is determining unit costs for job order and process costing similar and different?
    • How is tracking inventory for job order and process costing is similar and different?

Review these definitions in Comparison of Job Costing with Process Costing from Managerial Accounting. Be sure to review Table 4.1 A Comparison of Process Costing and Job Costing.

2k: Identify how product costs flow through accounts using process costing.

Process costing records the costs of direct materials, direct labor, and overhead in a Work-in-Process account for each production department.

    • Name the journal entry to record direct labor costs in a process cost system.
    • Name the journal entry to record direct material costs in a process cost system.
    • Name the journal entry to apply manufacturing overhead costs based on a predetermined overhead rate in a process cost system.

In addition to costs for direct materials, direct labor, and overhead, production departments move costs from one department to the next as products are transferred during the production process.

    • Name the journal entry that records costs as products are transferred from one work-in-process department to another work-in-process department.
    • Name the journal entry that records the flow of products from work-in-process departments to finished goods inventory.
    • Name the journal entry that records the flow of products from finished goods inventory to cost of goods sold.

Review How Is Process Costing Used to Track Production Costs? from Managerial Accounting.

Review Figure 4.2 which illustrates the flow of costs in process costing with t-accounts.

 Figure 4.2 Flow of Product Costs in a Process Costing System

Figure 4.2 illustrates the flow of costs in process costing with t-accounts.

2l: Define equivalent unit.

As units in production are transferred between work-in-process departments, they have varying stages of completion with respect to direct materials, direct labor, and overhead.

    • Define equivalent unit.
    • How do accountants calculate equivalent units for partially completed units?

Review the method of calculating equivalent units of production in Determining Equivalent Units from Managerial Accounting.

2m: Use four steps to assign costs to products using the weighted average method.

Accountants use costs per equivalent unit to assign costs to: 1. units left in work-in-process at the end of the period, and 2. completed units that were transferred out of work-in-process during the period.

    • Explain the difference between using the weighted-average method and the first-in, first-out method of assigning costs.

Review The Weighted Average Method from Managerial Accounting.

"Costs are assigned to completed units transferred out and units in ending work-in-process inventory using a four-step process," states Managerial Accounting.

Step 1: Presents a summary of the physical flow of units and a computation of equivalent units for direct materials, direct labor, and overhead.

    • Identify the two categories used to summarize the physical flow of units.
    • Describe how to convert these two categories into equivalent units for direct materials, direct labor, and overhead.

 Step 1. Figure 4.4 Flow of Units and Equivalent Unit Calculations for Desk Products’ Assembly Department

Step 1. Figure 4.4 Flow of Units and Equivalent Unit Calculations for Desk Products’ Assembly Department:

Step 2: Presents a summary of the costs of production for direct materials, direct labor, and overhead for each department.

    • Identify the two categories of costs managers must take into account.

Step 2. Figure 4.5 Summary of Costs to Be Accounted for in Desk Products’ Assembly Department

Step 2. Figure 4.5 Summary of Costs to Be Accounted for in Desk Products’ Assembly Department:

Step 3: Presents a calculation of costs per equivalent unit.

    • Explain how to calculate a cost per equivalent unit for direct materials, direct labor, and overhead.

Step 3. Figure 4.6 Calculation of the Cost per Equivalent Unit for Desk Products’ Assembly Department

Step 3. Figure 4.6 Calculation of the Cost per Equivalent Unit for Desk Products’ Assembly Department:

Step 4: Presents an assignment of costs.

    • Describe the method of assigning costs to units transferred out.
    • Describe the method of assigning costs to units remaining in ending work-in-process.

Step 4. Figure Assigning Costs to Products in Desk Products’ Assembly Department

Step 4. Figure Assigning Costs to Products in Desk Products’ Assembly Department

Review these four steps in The Four Key Steps of Assigning Costs from Managerial Accounting.

2n: Prepare a production cost report for a processing department.

A cost of production report presents a formal summary of the four steps performed to assign production costs to completed units transferred out, and partially completed units left in ending work-in-process inventory.

    • Describe how to prepare a cost of production report.
    • Briefly describe the limitations of a cost of production report.
Review these four steps in The Four Key Steps of Assigning Costs from Managerial Accounting.

Unit 2 Vocabulary

      • Activity
      • Activity-based costing
      • Activity-based management
      • Allocate
      • Allocation base
      • Appraisal cost
      • Cost driver
      • Cost hierarchy
      • Cost of goods sold
      • Cost of production report
      • Cost per equivalent unit
      • Cost pool
      • Department allocation
      • Equivalent units
      • External failure cost
      • Internal failure cost
      • Job order
      • Job order cost sheet
      • Job order costing system
      • Materials requisition form
      • Non value-added activities
      • Normal costing
      • Overapplied overhead
      • Overhead applied
      • Overhead costs
      • Plant-wide allocation
      • Predetermined overhead rate
      • Prevention cost
      • Process costing system
      • Raw materials
      • Service organization
      • Timesheet
      • Transferred-in costs
      • Underapplied overhead
      • Units to be accounted for
      • Value-added activities
      • Weighted-average method
Last modified: Wednesday, July 17, 2019, 5:44 PM