CHAPTER 3
Job Costing
Dr. Hisham Madi
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Basic Costing Terminology
 Because of the complexity of most manufacturing operations,
companies need to establish a system to track costs so they can
properly determine product costs
 Cost objects are anything for which a measurement of cost is
desired
 Direct costs of a cost object are costs that can be traced to that
cost object in an economically feasible way
 Indirect costs of a cost object are costs that cannot be traced in
an economically feasible way
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Basic Costing Terminology
 Cost pool—a grouping of individual indirect cost items
 Cost-allocation base—a systematic way to link an
indirect cost or group of indirect costs to cost objects
 For example, let’s say that direct labor hours cause indirect
costs to change. Accordingly, direct labor hours will be used
to distribute or allocate costs among objects based on their
usage of that cost driver
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Costing Systems
 Management uses two basic types of costing systems to assign
costs to products or services
 A job-costing system, or a job-order system, is used by a
company that makes a distinct product or service called a job.
The product or service is often a single unit. The job is
frequently the cost object. Costs are accumulated separately for
each job or service.
 A process-costing system is used by a company that makes a
large number of identical products. Costs are accumulated by
department and divided by the number of units produced to
determine the cost per unit.
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Costing Approaches
 Actual costing—allocates:
 Indirect costs based on the actual indirect-cost rates times
the actual activity consumption
 Normal Costing—allocates:
 Indirect costs based on the budgeted indirect-cost rates
times the actual activity consumption
Both methods allocate direct costs to a cost object the same way:
by using actual direct-cost rates times actual consumption
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Costing Approaches Summarized
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Seven-Step Job Costing
 A seven-step approach is used to assign costs to an individual
job
Step 1: Identify the Job that Is the Chosen Cost Object
The source documents (original records that support journal entries in an
accounting system) such as the job-cost sheet, the material-requisition record,
and the labor-time record assist managers in gathering information about the
costs incurred on a job.
A job-cost record, also called a job-cost sheet, records and accumulates all the
costs assigned to a specific job, starting when work begins
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Step 2: Identify the Direct Costs of the Job. Most manufacturing operations
have two direct cost categories—direct materials and direct manufacturing
labor.
Direct materials, materials-requisition record, which contains information
about the cost of direct materials used on a specific job
Direct manufacturing labor: labor-time sheet, which contains information
about the amount of labor time used for a specific job in a specific department
Sample Job Cost Source Documents
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Seven-Step Job Costing
Step 3: Select the Cost-Allocation Bases to Use for Allocating Indirect
Costs to the Job. Because these costs cannot be traced to the job, they must be
allocated in a systematic manner.
Step 4: Identify the Indirect Costs Associated with Each Cost-Allocation
Base. Hopefully, a cause-and-effect relationship can be established between the
costs incurred and the cost-allocation base (or cost driver)
Step 5: Compute the Rate per Unit of Each Cost-Allocation Base Used to
Allocate Indirect Costs to the Job. Budgeted manufacturing overhead rate =
Budgeted manufacturing overhead costs/Budgeted total quantity of cost
allocation base.
Step 6: Compute the Indirect Costs Allocated to the Job. Multiply the actual
quantity of each different allocation base by the indirect cost rate for each
allocation base
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Seven-Step Job Costing
Step 7: Compute the Total Cost of the Job by Adding All Direct and
Indirect Costs Assigned to the Job.
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Example; Job Costing
Step 1: Identify the Job That Is the Chosen Cost Object.The cost
object in the Robinson Company example is Job WPP 298,
manufacturing a paper-making machine for Western Pulp and
Paper.
Step 2: Identify the Direct Costs of the Job.Robinson identifies two
direct-manufacturing cost categories: direct materials and direct
manufacturing labor.
Step 3: Select the Cost-Allocation Bases to Use for Allocating
Indirect Costs to the Job
Robinson, however, chooses direct manufacturing labor-hours as
the sole allocation base for linking all indirect manufacturing costs
to jobs
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Example; Job Costing
Step 4: Identify the Indirect Costs Associated with Each CostAllocation Base. Because Robinson believes that a single costallocation base—direct manufacturing labor-hours—can be used to
allocate indirect manufacturing costs to jobs, Robinson creates a
single cost pool called manufacturing overhead costs.
In 2011, budgeted manufacturing overhead costs total $1,120,000
Step 5: Compute the Rate per Unit of Each Cost-Allocation Base
Used to Allocate Indirect Costs to the Job
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Example; Job Costing
Step 6: Compute the Indirect Costs Allocated to the Job.
Manufacturing overhead costs allocated to WPP 298 equal $3,520
($40 per direct manufacturing labor-hour × 88 hours)
Step 7: Compute the Total Cost of the Job by Adding All
Direct and Indirect Costs Assigned to the Job
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Job
Costing
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Job Costing
Overview
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Actual Costing
 The difference between costing a job with normal costing and
actual costing is that normal costing uses budgeted indirect-cost
rates, whereas actual costing uses actual indirect-cost rates
calculated annually at the end of the year
 The following actual data for 2011 are for Robinson’s
manufacturing operations:
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Actual Costing
Step 1: identifies WPP 298 as the cost object;
Step 2: calculates actual direct material costs of $4,606, and
actual direct manufacturing labor costs of $1,579.
Step 3: Robinson uses a single cost-allocation base, direct
manufacturing labor-hours, to allocate all manufacturing
overhead costs to jobs.
Step 4: Robinson groups all actual indirect manufacturing
costs of $1,215,000 into a single manufacturing overhead cost
pool
Step 5: the actual indirect-cost rate
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Actual Costing
Step 6; under an actual-costing system,
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Actual Costing
Step 7: the cost of the job under actual costing is $10,145,
calculated as follows
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Flow of Costs Illustrated
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Journal Entries
 Journal entries are made at each step of the production process.
 The purpose is to have the accounting system closely reflect the
actual state of the business, its inventories, and its production
processes.
 All product costs are accumulated in the work-in-process control
account.
 Direct materials used
 Direct labor incurred
 Factory overhead allocated or applied
 Actual indirect costs (overhead) are accumulated in the
manufacturing overhead control account.
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Journal Entries
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Journal Entries
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Journal Entries
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General Ledger in a Job Cost Environment
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Subsidiary Ledger for Materials, Labor, and Manufacturing Department Overhead
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Subsidiary Ledger for Individual Jobs
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Accounting for Overhead
 Recall that two different overhead accounts were used in the
preceding journal entries:
 Manufacturing overhead control was debited for the
actual overhead costs incurred
 Manufacturing overhead allocated was credited for estimated
(budgeted) overhead applied to production through the workin-process account.
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Accounting for Overhead
 Actual costs will almost never
Accordingly, an imbalance situation
overhead accounts.
 If Overhead Control > Overhead
Underallocated Overhead
 If Overhead Control < Overhead
Overallocated Overhead
equal budgeted costs.
exists between the two
Allocated, this is called
Allocated, this is called
 This difference will be eliminated in the end-of-period adjusting
entry process, using one of three possible methods
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Three Methods for Adjusting Over/Underapplied
Overhead
Adjusted Allocation-Rate Approach
 First, the actual manufacturing overhead rate is computed at the
end of the fiscal year.
 Then, the manufacturing overhead costs allocated to every job
during the year are recomputed using the actual manufacturing
overhead rate
 Finally, end-of-year closing entries are made
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Three Methods for Adjusting Over/Underapplied Overhead
Proration Approach
 spreads underallocated overhead or overallocated overhead
among
ending work-in-process inventory, finished goods
inventory, and cost of goods sold
 Assume the following actual results for Robinson Company in
2011:
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Three Methods for Adjusting Over/Underapplied Overhead
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Three Methods for Adjusting Over/Underapplied Overhead
 The journal entry to record this proration is as follows:
 If manufacturing overhead had been overallocated, the
Work-in-Process Control, Finished Goods Control, and Cost of
Goods Sold accounts would be decreased (credited) instead of
increased (debited)
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Three Methods for Adjusting Over/Underapplied Overhead
 Some companies use the proration approach but base it on the
ending balances of Work- in- Process Control, Finished Goods
Control, and Cost of Goods Sold before proration
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Three Methods for Adjusting Over/Underapplied Overhead
Write-Off to Cost of Goods Sold Approach
 Under this approach, the total under- or overallocated
manufacturing overhead is included in this year’s Cost of Goods
Sold
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Choosing among approaches
Which of these three approaches is the best one to use?
In making this decision, managers should be guided by
 the causes for underallocation or overallocation
 and the purpose of the adjustment
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Variations from Normal Costing: A Service-Sector Example
 Job costing is also very useful in service industries such as
accounting and consulting firms, advertising agencies, auto repair
shops, and hospitals
 In an accounting firm, each audit is a job.
 direct labor costs of the professional staff—audit partners, audit
managers, and audit staff—are traced to individual jobs.
 The costs of secretarial support, office staff, rent, and depreciation
of furniture and equipment are indirect costs because these costs
cannot be traced to jobs in an economically feasible way
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Variations from Normal Costing: A Service-Sector Example
 actual direct-labor costs—the largest component of total costs—
can be difficult to trace to jobs as they are completed
 the actual direct-labor costs may include bonuses that become
known only at the end of the year (a numerator reason)
 the hours worked each period might vary significantly depending
on the number of working days each month and the demand from
clients (a denominator reason).
 A company will use budgeted rates for some direct costs and
budgeted rates for indirect costs.
 All budgeted rates are calculated at the start of the fiscal year
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Variations from Normal Costing: A Service-Sector Example
For 2011, Donahue budgets total direct-labor costs
$14,400,000, total indirect costs of $12,960,000, and total
direct (professional) labor-hours of 288,000. In this case,
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of
Variations from Normal Costing: A Service-Sector Example
Suppose that in March 2011, an audit of Hanley Transport, a client
of Donahue, uses 800 direct labor-hours.
 Donahue calculates the direct-labor costs of the Hanley Transport
audit by multiplying the budgeted direct-labor cost rate, $50 per
direct labor-hour, by 800, the actual quantity of direct labor-hours
 The indirect costs allocated to the Hanley Transport audit are
determined by multiplying the budgeted indirect-cost rate (90%)
by the direct-labor costs assigned to the job ($40,000)
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