Job Order Costing System:

After studying this chapter you should be able to:

1. Distinguish between process costing and job order costing and identify companies that would use each costing method.

2. Identify the documents used in job order costing system.

3. Compute predetermined overhead rates and explain why estimated overhead costs (rather than actual overhead costs) are used in the costing process.

4. Understand the flow of costs in a job order costing system and prepare appropriate journal entries to record costs.

5. Apply overhead cost to work in process (WIP) using a predetermined overhead rate.

6. Prepare a schedule of cost of goods manufactured and cost of goods sold.

7. Prepare T-accounts to show the flow of costs in a job order costing system.

8. Explain the implications of basing the predetermined overhead rate on activity at capacity rather than on estimated activity for the period.

Definition and Explanation of Job Order Costing System:

A job order costing system is used in situations where many different products are produced each period. For example clothing factory would typically made many different types of jeans for both men and women during a month. In a job order costing system, costs are traced to the jobs and then the costs of the job are divided by the number of units in the job to arrive at an average cost per unit.

Job order costing system is also extensively used in service industries. Hospitals, law firms, movie studios, accounting firms, advertising agencies and repair shops all use a variety of job order costing system to accumulate costs for accounting and billing purposes. The details here deal with a manufacturing firm, the same concept and procedures are used by many service organizations.

The record keeping and cost assignment problems are more complex in a job order costing system when a company sells many different products and services than when it has only a single product or service. Since the products are different, the costs are typically different. Consequently, cost records must be maintained for each distinct product or job. For example an attorney in a large criminal law practice would ordinarily keep separate records of the costs of advising and defending each of her clients. And a clothing factory would keep separate track of the costs of filling orders for particular styles, sizes, and colors of jeans. A job order costing system requires more effort than a process costing system. Companies classify manufacturing costs into three broad categories:(1) direct materials, (2) direct labor, (3) manufacturing overhead. (See manufacturing and non-manufacturing costs page) As we study the operation of a job costing system, we will see how each of these three types of costs is recorded and accumulated.

Measuring Direct Materials Cost in Job Order Costing System:

At the beginning of production process  a document known as "bill of materials" is used for standard products. A bill of materials is a document that lists the type and quantity of each item of materials needed to complete a unit of standard product. In case where it is not possible to use a bill of materials because the product is not a standard product the production staff determines the materials requirements from the blueprints submitted by the customer. Click here to read full Article.

Measuring Direct Labor Cost in Job Order Costing System:

Direct labor cost is handled in much the same way as direct materials cost. Direct labor consists of labor charges that are easily traced to a particular job. Labor charges that cannot be easily traced directly to any job are treated as part of manufacturing overhead. The later category of labor cost is known as indirect labor and includes tasks such as maintenance, supervision, and cleanup. Workers use time tickets to record the time they spend on each job and task. At the end of the day, the time tickets are gathered and accounting department enters the direct labor hours and costs on individual job cost sheets. Click here to read full Article

Application of Manufacturing Overhead:

Manufacturing overhead must be included with direct labor on the job cost sheet since manufacturing overhead is also a product cost. However, assigning manufacturing overhead to units of product can be a difficult task. There are three reasons for this:

1. Manufacturing overhead is an indirect cost. This means that it is either impossible or difficult to trace these costs to a particular product or job.
2. Manufacturing overhead consists of many different items ranging from the grease used in machines to the annual salary of production manager.
3. Even though output may fluctuate due to seasonal or other factors, manufacturing overhead costs tend to remain relatively constant due to the presence of fixed costs.

Given these problems, about the only way to assign overhead costs to production is to use an allocation process. Click here to read full Article.

Job Order Costing System--The Flow of Costs:

To understand the flow of costs in job order costing system, we shall consider a single month's activity for a company, a producer of product A and product B. The company has two jobs in process during April, the first month of its fiscal year. Job 1, of 1000 units of product A was started in march. By the end of march, $30,000 in manufacturing costs had been recorded for the job 1. Job 2 an order for 10,000 units of product B was started in April. Click here to read full article.

Multiple Predetermined Overhead Rates:

When a single predetermined overhead rate is used for entire factory it is called plant wide overhead rate. This is fairly common practice--particularly in smaller companies. But in large companies, multiple predetermined overhead rates are often used. Click here to read full article

Problems of Overhead Application:

We need to consider two complications relating to overhead application. These are:

1. Under-applied overhead and over-applied overhead calculation.
2. Disposition of any balance remaining in the manufacturing overhead account at the end of a period.

Predetermined Overhead Rate and Capacity:

Companies typically base their predetermined overhead rates on the estimated, or budgeted, amount of allocation base for the upcoming period. This is the method that is used in the chapter, but it is practice that is recently come under severe criticism. Click here to read full article.

Recording Non-manufacturing Costs:

In addition to manufacturing costs, companies also incur marketing and selling costs. These costs should be treated as period expenses and charged directly to the income statement and therefore should not go into the the manufacturing overhead account. Click here to read full Article.

Recording Cost of Goods Manufactured and Sold:

When a job has been completed, the finished out put is transferred from the production department to the finished goods. warehouse. By this time, the accounting department will have charged the job with direct materials and direct labor cost and manufacturing overhead will have been applied using the predetermined overhead rate. Click here to read full article.

Job Order Costing in Services Companies:

Job order costing is also used in service organizations such as law firms, movie studios, hospitals, and repair shops, as well as manufacturing companies. In a law firm, for example, each client represents a "job," and the costs of that job are accumulated day by day on a job cost sheet as the client's case is handled by the firm. Click here to read full article.

Use of Information Technology in Job Order Costing:

Bar code technology can be used to record labor time--reducing the drudgery in that task and increasing accuracy. Bar codes also have many other uses. In a company with a well-developed bar code system, the manufacturing cycle begins with the receipt of a customer's order in electronic form.

Advantages and Disadvantages of Job Order Costing System:

One of the primary advantages of job order costing system is that the management team has ready access to all the costs incurred for each job being completed. This allows the team to examine each cost incurred, finding out why it happened, and determine how it can be controlled better in the future, thereby contributing to better ongoing levels of profitability. Click here to read full article.

Job Order Costing Discussion Questions and Answers

Job Order Costing Exercises

Case Studies

 

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