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Cost and Management Accounting

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Cost & Management Accounting (MGT-402)
VU
LESSON# 18
JOB ORDER COSTING SYSTEM
It has been explained that a cost accounting system is composed of two sub-systems:
(i)
A system of recording and summarizing costs and
(ii)
A costing system.
Costing system means "the ascertainment of costs ", It includes determination of total cost as well as
unit cost. A costing system determines and reports to management total and unit cost of product
or project of service with details of cost components
Costing is compulsory for satisfying at least three important needs of management.
I. Unit cost must be known to assist the management in making price decisions.
II. Ascertainment of cost at every stage of production is important for exercising control over
costs.
III. In order to operate a system of accounting for costs, management needs to know cost of
materials, labor and overhead to be charged to work in process, cost of work completed
and transferred to finished goods and the cost of goods sold so that necessary debit and
credit entries can be passed.
Choice of a Costing System
Job Order Costing or Process Costing?
What type of costing system an accounting entity should adopt? It depends upon:
(1)
Nature of operations and
(2)
Information needs of management.
Take the example of a construction company that produces houses in response to customers'
orders and according to their specifications. All the times, the company remains engaged in the
construction of many houses at different sites for different customers. Such a company definitely
wants to know the cost incurred on each house separately so that customers' can be billed properly
and profit (or loss) on each contract may be ascertained. Here the nature of operations is such that
each house is clearly distinguishable from the other and separate calculation of cost for each house
is desirable and practically possible. This company will employ job costing system.
On the other hand take the example of a company producing cement. All of the bags of cement
produced are quite similar. Here separate calculation of cost of cement supplied to each
customer is neither desirable nor feasible. The company can calculate cost per bag of cement
produced by dividing total cost incurred during the accounting period by total number of bags
produced during the period.
Accordingly, the company can fix the price per bag and bill each customer according to the
number of bags supplied to him. This company will use process costing system.
Job costing and process costing are two basic types of costing systems and can be viewed
as two ends of a spectrum or range. In practice we find companies employing either one of
these two or some combination of features of the two both of these at the same time. For
example, a ready made garments manufacturer employs process costing to accumulate and
determine the cost of free size shirts produced by him in large quantity. At the same time he
uses job costing to accumulate the cost of waiters' uniforms supplied to a hotel under a
contract.
Job costing may be defined:
The costing system that separately accumulates costs incurred to produce each job in a situation where each job is
distinguishable from the other throughout the production process.
The job may be a single unit or a multi unit batch, a contract or a project, program or a service. Job
costing is employed by organisations possessing following characteristics:
1. Production is generally in response of customers' orders.
2. Every order has its own manufacturing specifications. Therefore, every job is different from the
other and requires different amounts materials, labor and overhead.
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3. Each job is clearly distinguishable from the other at all stages production process which makes
job-wise accumulation of possible.
4. Job-wise accumulation of cost is desirable and/or necessary for and profit determination and
5. Each job is generally of high value.
Following are the examples of organisations employing job costing include:
a) Accounting firms
b) Civil engineering
c) Furniture manufacturing
d) Medical care
e) Printing press
f) Ship-building
g) Advertising agencies
h) Computer programming
i) Jewellery manufacturing
j) Movie studios
k) Repair shops
As the costs are accumulated separately for each job, therefore, job costing requires considerable
amount of clerical work. Where production is carried in different departments of a factory,
department wise cost accumulation is also necessary for performance evaluation of departmental
management. In this way clerical work is further increased. Consequently, job costing is more
expensive as compared with process costing. Job costing is also called specific order costing or
production order costing.
Job order costing procedures
Most of the times, organisations employing job order costing are required to submit quotation
before finalization of customer's order. Therefore, naturally, the first step in job order costing is to
prepare an estimate of cost likely to be incurred to produce the job. The estimation is done by
coordination of sales, designing and production departments. On the basis of estimated cost price
is quoted. When customer's order has been initialized production planning and control
department takes the first step towards execution of the order.
On receipt of production order, cost accounting department prepares a job cost sheet for each
job. Job cost sheet may be defined as a document used for accumulating costs incurred to produce a job.
Design and contents of job cost sheet vary widely depending on customs of manufacturing
operations and information needs of management.
However, generally, a job cost sheet is designed to show the following information:
1. Job number
2. Name of the customer
3. Description and specifications of the job
4. Date of commencement of production
5. Date of completion of job.
6. Direct materials cost incurred on the job
7. Direct labor cost incurred on the job
8. Factory overhead applied to the job
9. Total cost of the job
10. Selling and administration expenses chargeable to the job
11. Sales price of the job
12. Profit (or loss) on the job
13. Where the job consists of a batch, the quantity produced and unit cost
14. Where cost estimates are prepared before production, estimated cost should also be shown for
comparison and efficiency evaluation.
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Job cost sheet is one of the basic documents used in job order costing. Upto the time the job is
incomplete; job cost sheet serves as a subsidiary record .for work in process control account and is placed in
work in process subsidiary ledger. On completion of job, the relevant job cost sheet is removed
from work in process subsidiary ledger.
Now it reveals the cost of completed job and serves as source document for debiting finished goods
account (or completed jobs control account) and for crediting work in process account.
Then it is placed in finished goods subsidiary ledger and serves as subsidiary record .for finished goods
account. When completed job is shipped to the customer, relevant job cost sheet serves as source
document for debiting cost of goods sold account and for crediting finished goods account. Then it
is placed in cost of goods sold subsidiary ledger where the same job cost sheet serves as subsidiary
record for cost of goods sold account.
Manufacturing process is, most of the times, divided into departments. This departmentalization
is the logical result of different types of operations performed to produce a product. For example,
furniture manufacturing is divided into cutting, assembling and finishing and polishing
departments; readymade garments manufacturing is divided into cutting, stitching finishing and
packing departments.
These departments are regarded as cost centers. Cost Centre means a division or segment for which a
separate individual is made responsible .for incurrence of cost. Accumulation of cost for each department is
necessary to achieve better control over cost. In job order costing it is necessary to identify cost
not only with the department but also with the relevant job.
Direct materials, direct labor and factory overhead to be charged to each job and to each
department are recorded in the following manners:
Direct Materials: Every materials requisition issued to secure direct materials bears the name of
department and job number for which materials are required. Periodically (weekly or fortnightly
etc) a summary of materials requisitions is prepared. Materials requisition summary analyses cost
of materials issued and ascertains cost of materials chargeable to each department and to each job.
Indirect materials issued cannot be associated with particular jobs, therefore, these are summarised
only by department. Instead of posting each individual materials issue to job cost sheets, the
periodic totals are recorded on relevant job cost sheets.
The periodic grand total are debited to work in process and factory overhead -control accounts and
credited to materials control account.
Direct Labor: Primary labor cost data are accumulated on Job Time Tickets. Job time tickets
contain names of departments and job numbers for which labor time is used. A labor cost analysis
sheet is prepared periodically that analyses the direct labor cost by departments and by jobs. As
indirect labor cost cannot be identified with particular jobs, therefore, labor cost analysis sheet
analyses it only by departments. The periodic totals are posted to job cost sheets and debited to
work in process and factory overhead control accounts.
Factory Overhead: Factory overhead is applied to jobs on the basis of predetermined
departmental factory overhead applied rates. Factory overhead is also periodically applied to the
jobs and entered in job cost sheets. Total applied factory overhead is debited to work in process
control account and credited to factory overhead applied account.
Practice Question
Job Order Costing. Shah Taj Engineering Works on April 5, 2006 started production of 100 lawn
mower of model EG- 72 ordered by Capital Development Authority. Islamabad, vide Order No.
2119-M dated April 1, 2006 at a price of Rs. 3,600 per lawn mower.
Production Planning Department allotted Job No. J-832-LM and instructed the factory to
complete production by April 20, 2006. However, the factory completed production on April 18,
2006.
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On April 11, weekly Materials Requisitions Summary. No. MRS-16 and weekly Labor Cost
Analysis Sheet No.LAS-16 showed following charges to Job No. J-832-LM.
.
Department 101
Department 102
Direct materials
Rs. 58,500
11,700
Direct labor
Rs. 13,500
15,750
(900 hours)
Materials Requisitions Summary No. MRS-17 and Labor Cost Analysis Sheet No. LAS-17
prepared on April 18 revealed following direct costs for the job.
Department 101
Department 102
Direct materials
Rs.71,500
Rs. 14,300
Direct labor
Rs. 16,500
Rs. 19,250
(1100 hours)
In department 101 factory overhead is applied @ 50% of direct labor cost and in department 102
@ Rs. 12 per direct labor hour. Marketing and administration expenses chargeable to the job were
respectively 7.5 % and 5% of the sale price. The lawn mowers were delivered to customer on April
22, 2006
Required:
(i) Prepare a Job Cost Sheet for Job No. J-832-LM.
(ii) Assuming that J-832-LM was the only job worked on during the two weeks period, pass
account entries in General Journal form to record:
(a) Cost incurred on the job:
(b) Completion of the job; and
(c) Sale of the job.
Solution
SHAH TAJ ENGINEERING WORKS LIMITED
JOB COST SHEET FOR JOB NO. J-832-LM
Customer's Name:
Capital Development Authority. Islamabad.
Order No. 2119-M Dated 02-04-2006 Description Lawn Mowers Model EG- 72
Total Cost Rs. 260.000 No. of units. 100Date Started 05-04-2006
Date wanted 20-04-2006 Date Completed 18-04-2006 Unit Sales Price Rs. 3,600 Unit Cost Rs.
2,600
DIRECT MATERIALS
Date
Mat. Req. Sum. Department 101
Department 102
Total
No
11-04-2006
MRS-16
Rs. 58,500
11,700
70,200
18-04-2006
MRS-17
71,500
14,300
85,800
Total
130,000
26,000
156,000
DIRECT LABOR
Date
Lab
Analysis Department 101
Department 102
Total
Sheet No.
11-04-2006
LAS-16
Rs. 13,500
15,750
29,250
18-04-2006
LAS-17
16,500
19,250
35,750
Total
30,000
35,000
65,000
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FACTORY OVERHEAD APPLIED
Date
Department 101
Department 102
Total
D.L
Rate
Amount
D.L
Rate
Amount
Cost
Hours
11-04-2006
13,500
50%
6,750
900
12
10,800
17,750
18-04-2006
16,500
50%
8,250
1,100
12
13,200
21,450
Total
15,000
24,000
39,000
Total Production Cost
Direct material cost
156,000
Direct labor cost
65,000
Factory overhead cost
39,000
260,000
Income Statement
Sales price 100 units @ Rs. 3,600
360,000
Cost of production
260,000
Gross profit
100,000
Operating expenses
Marketing Expenses (Rs. 360,000 x 7.5%)
27,000
Administration Expenses (Rs. 360,000 x 5%) 18,000
45,000
Net Income/profit
55,000
Problem Questions
Q. 1
Arman Advertisers on November 15, 2006 received an order from Pheasent Cosmetics Limited for
manufacturing and installation of a huge neon sign for a contract price of Rs. 180,000. Job No.
676-PN was allotted and manufacturing was begun on November 21, 2006 .The costs are charged
to the jobs periodically by means of weekly summaries.
Following costs were related to Job No. 676-PN
WEEK ENDED
Nov. 23
Nov. 30
Dec.7
Dec. 14
Rs.
Rs.
Rs.
Rs.
Direct materials
13,300
24,800
16,400
12,600
Direct labor
1,800
12,400
20,100
14,200
Factory overhead is applied @ 25% of prime cost. The Job was completed on December 14, 2006
Selling expenses are applied to the job @ 3 % of contract price and administration expenses @ 2%
of contract price.
Required: Prepare a job cost sheet containing above information
Q. 2
In order to submit quotation for air conditioning of Hina Shopping Centre, management of Indus
Electrical Industries made following estimates:
Direct materials Rs. 280,000;
Direct labor Rs. 120,000;
Predetermined overhead applied rate is 50% of direct labor cost;
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Predetermined rates for charging marketing and administration expenses are respectively 3% and
2% of the contract price.
On the basis of above estimates contract price was quoted as Rs. 575,000
The quotation was accepted by the owners of Hina Shopping Centre and the order was finalized
on October 6, 2006.
Job No. 1617 was assigned to the order and the work was started on October 12, 2006. Weekly
materials requisition summaries and labor cost analysis sheets showed following charges to Job
No. 1617.
Date
Direct Material
Direct labor
October 17
Rs. 120,000
Rs. 46,000
October 24
Rs. 96,000
Rs. 44,000
October 31
Rs. 60,000
Rs. 48,000
The job was completed on October 31. However, the time allowed for completion of job was upto
November 4.
Required
(i)
Prepare job cost sheet for Job No. 1617.
(ii)
Assuming that Job No. 1617 was the only job worked on during the above period, pass
entries in general journal form to record production and sale of the job. Job was accepted by the
customer on November 4 and cash received for the contract price.
Q. 3
Hussain Engineering Co. Ltd. produces machines as per customer's specifications. The following
data pertains to Job Order No. K 101:
Customer: Azam Banking Co.
Date Started: 06-08-2006.
Customer Order No. C 467.
Date Finished: 20-08-2006.
Dated: 31-07-2006. Total Cost of manufacture?
Sales Price?
Description: 6 Banking Machines.
Week End 13/08
Week End 20/08
Materials used. Dept. A.
Rs. 4,800
Rs. 2,600
Direct labor rate. Dept. A.
Rs 40 per hour
Rs. 40 per hour
Labor hours used, Dept. A.
1,200
800
Direct labor rate, Dept. B.
Rs 42 per hour
Rs. 42 per hour
Labor hour uses, Dept. B.
600
280
Machine hours. Dept. B.
400
240
Applied factory overhead Dept. A. Rs. 20/labor hr.
Rs. 20/labor hr.
Applied factory overhead Dept. B Rs. 18/machine hr
Rs.18/machine hr
Marketing and administrative costs are charged to each order @ 20% of the cost to manufacture
Required:
a)
Prepare a job order cost sheet
b)
Calculate sales price of the job, assuming that it has been contracted with a
markup of 40%
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Table of Contents:
  1. COST CLASSIFICATION AND COST BEHAVIOR INTRODUCTION:COST CLASSIFICATION,
  2. IMPORTANT TERMINOLOGIES:Cost Center, Profit Centre, Differential Cost or Incremental cost
  3. FINANCIAL STATEMENTS:Inventory, Direct Material Consumed, Total Factory Cost
  4. FINANCIAL STATEMENTS:Adjustment in the Entire Production, Adjustment in the Income Statement
  5. PROBLEMS IN PREPARATION OF FINANCIAL STATEMENTS:Gross Profit Margin Rate, Net Profit Ratio
  6. MORE ABOUT PREPARATION OF FINANCIAL STATEMENTS:Conversion Cost
  7. MATERIAL:Inventory, Perpetual Inventory System, Weighted Average Method (W.Avg)
  8. CONTROL OVER MATERIAL:Order Level, Maximum Stock Level, Danger Level
  9. ECONOMIC ORDERING QUANTITY:EOQ Graph, PROBLEMS
  10. ACCOUNTING FOR LOSSES:Spoiled output, Accounting treatment, Inventory Turnover Ratio
  11. LABOR:Direct Labor Cost, Mechanical Methods, MAKING PAYMENTS TO EMPLOYEES
  12. PAYROLL AND INCENTIVES:Systems of Wages, Premium Plans
  13. PIECE RATE BASE PREMIUM PLANS:Suitability of Piece Rate System, GROUP BONUS SYSTEMS
  14. LABOR TURNOVER AND LABOR EFFICIENCY RATIOS & FACTORY OVERHEAD COST
  15. ALLOCATION AND APPORTIONMENT OF FOH COST
  16. FACTORY OVERHEAD COST:Marketing, Research and development
  17. FACTORY OVERHEAD COST:Spending Variance, Capacity/Volume Variance
  18. JOB ORDER COSTING SYSTEM:Direct Materials, Direct Labor, Factory Overhead
  19. PROCESS COSTING SYSTEM:Data Collection, Cost of Completed Output
  20. PROCESS COSTING SYSTEM:Cost of Production Report, Quantity Schedule
  21. PROCESS COSTING SYSTEM:Normal Loss at the End of Process
  22. PROCESS COSTING SYSTEM:PRACTICE QUESTION
  23. PROCESS COSTING SYSTEM:Partially-processed units, Equivalent units
  24. PROCESS COSTING SYSTEM:Weighted average method, Cost of Production Report
  25. COSTING/VALUATION OF JOINT AND BY PRODUCTS:Accounting for joint products
  26. COSTING/VALUATION OF JOINT AND BY PRODUCTS:Problems of common costs
  27. MARGINAL AND ABSORPTION COSTING:Contribution Margin, Marginal cost per unit
  28. MARGINAL AND ABSORPTION COSTING:Contribution and profit
  29. COST VOLUME PROFIT ANALYSIS:Contribution Margin Approach & CVP Analysis
  30. COST VOLUME PROFIT ANALYSIS:Target Contribution Margin
  31. BREAK EVEN ANALYSIS MARGIN OF SAFETY:Margin of Safety (MOS), Using Budget profit
  32. BREAKEVEN ANALYSIS CHARTS AND GRAPHS:Usefulness of charts
  33. WHAT IS A BUDGET?:Budgetary control, Making a Forecast, Preparing budgets
  34. Production & Sales Budget:Rolling budget, Sales budget
  35. Production & Sales Budget:Illustration 1, Production budget
  36. FLEXIBLE BUDGET:Capacity and volume, Theoretical Capacity
  37. FLEXIBLE BUDGET:ANALYSIS OF COST BEHAVIOR, Fixed Expenses
  38. TYPES OF BUDGET:Format of Cash Budget,
  39. Complex Cash Budget & Flexible Budget:Comparing actual with original budget
  40. FLEXIBLE & ZERO BASE BUDGETING:Efficiency Ratio, Performance budgeting
  41. DECISION MAKING IN MANAGEMENT ACCOUNTING:Spare capacity costs, Sunk cost
  42. DECISION MAKING:Size of fund, Income statement
  43. DECISION MAKING:Avoidable Costs, Non-Relevant Variable Costs, Absorbed Overhead
  44. DECISION MAKING CHOICE OF PRODUCT (PRODUCT MIX) DECISIONS
  45. DECISION MAKING CHOICE OF PRODUCT (PRODUCT MIX) DECISIONS:MAKE OR BUY DECISIONS