Chapter 4
Product costing systems
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
Product costing systems
 Product costing systems
accumulate product-related costs and use
procedures to assign them to the final products
In some businesses upstream and downstream
costs are regarded as product-related
 Product costs are the input to the product
costing system
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Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
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Different product costs for
different purposes
 Product costs can include upstream,
manufacturing and downstream costs
 Inclusion of various costs depends on the
time frame and type of decision to be made
 Managers’ needs for product cost
information will vary depending on the type
of decision to be made and managers’
personal preferences
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Different product costs for
different purposes
 Cost for inventory valuation for eternal
reporting must include only manufacturing
costs
 For long-term decision about products a
wider definition may be used
 Product costs are used to value inventory,
for short-term and strategic decision
making, for planning and controlling costs
and for cost reimbursement
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Different product costs for
different purposes
 Current or future product costs?
Current product costs are relevant for inventory
valuation
Future product costs may be relevant for input
into some decisions
 Frequency of cost information?
Infrequently for long-term decisions, or even
short-term decisions
More regularly for inventory valuation
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Designing product costing
systems
 Identify the managers’ needs
 All product cost information may not come
from a single product costing system
 Cost and benefits of various alternative
systems must be assessed
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Flow of costs in
manufacturing businesses
 When used for inventory valuation,
manufacturing costs only are assigned to
products, in line with Australian accounting
standards
 Manufacturing costs consist of
Direct material
Direct labour
Manufacturing overhead
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Flow of costs in
manufacturing businesses
 Several manufacturing ledger accounts
Raw materials inventory,
Work in process inventory,
Finished goods inventory,
Cost of goods sold expense, and
Profit and loss account
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Allocating overhead costs
to products
 To estimate the cost of a product we need
to identify the cost of resources used to
produce the product
 Some resources are consumed directly, and
are traced directly to each product
 Overhead costs are essential to production,
but have no observable relationships to the
product  need to be allocated
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Allocating overhead costs
to products
 Identify the overhead cost driver
 Calculate a predetermined (or budgeted)
overhead rate per unit of cost driver
 Apply manufacturing overhead costs to
products at the budgeted (or
predetermined) overhead rate, multiplied
by the quantity of cost driver consumed by
the product
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Accounting for
manufacturing overhead
 Actual manufacturing overhead
Manufacturing overhead costs incurred in
production
Charged to the manufacturing overhead account
 Applied manufacturing overhead
Estimate of the overhead resources used to
manufacture a product
Applied to products using a predetermined
overhead rate
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Accounting for
manufacturing overhead
 Disposing of underapplied or overapplied
overhead at the end of the accounting
period…
Close the underapplied or overapplied to cost of
goods sold, or
Prorate to cost of goods sold, work in process
inventory and finished goods inventory
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Accounting for
manufacturing overhead
 Most firms close underapplied or
overapplied overhead at the end of the year
only
 Do not close monthly as monthly
fluctuations will average out over a year
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
17
Types of product costing
systems
 Job costing
Manufacturing costs traced to individual jobs
Products are produced in distinct jobs/batches
which are significantly different
Printers, furniture manufacturers, machinery
manufacturers
Many service firms—lawyers, accountants,
consulting engineers
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
18
Types of product costing
systems
 Process costing
Production costs traced to process/department,
and averaged across all units produced
Mass production or repetitive environment
Petrol production, processed food, chemical and
plastics manufacturers
Repetitive services – routine processing of
cheques by banks, handling of license
applications by government departments
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
19
Types of product costing
systems
 Process costing involves …
Estimate the cost of production processes, and
Calculate the average cost per unit by dividing
the cost of the process by the number of units
produced
The costs of products that are produced in one
department are transferred into the next
department
 Some product costing systems have
features of both job costing and process
costing
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Job costing
 Bill of materials: lists all the materials
required for a job
 Material requisition forms - authorise the
movement of raw materials from the
warehouse to the production department
 Job cost sheet - summarises the costs of
direct material, direct labour and
manufacturing overhead for a particular job
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
22
Job costing
 Purchase of materials
Raw material inventory
Account payable
xxxx
xxxx
 Transferring direct material to jobs
Work in process inventory
xxxx
Raw material inventory
xxxx
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
23
Job costing
 Use of indirect material
Manufacturing overhead
xxxx
Manufacturing supplies inventory
xxxx
 Charging direct labour to jobs
Work in process inventory
Wages payable
xxxx
xxxx
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
24
Job costing
 Accounting for indirect labour
Manufacturing overhead
Wages payable
xxxx
xxxx
 Accounting for manufacturing expenses
Manufacturing overhead
xxxx
Prepaid rent
xxxx
Depreciation on equipment
xxxx
…etc
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
25
Job costing
 Application of manufacturing overhead
Work in process inventory
xxxx
Manufacturing overhead
xxxx
 Completion of production job
Finished goods inventory
Work in process inventory
xxxx
xxxx
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
26
Job costing
 Sale of goods
Accounts receivable
Sales revenue
Cost of goods sold
Finished goods inventory
xxxx
xxxx
xxxx
xxxx
continued
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
27
Job costing
 Underapplied and overapplied overhead
Manufacturing overhead
xxxx
Indirect material
xxxx
Indirect labour
xxxx
Depreciation on equipment
xxxx
…etc
Cost of goods sold
xxxx
Manufacturing overhead
xxxx
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
28
Process costing
 The approach taken in process costing
depends on
The existence of WIP inventory at the end of
the accounting period
Their degree to which products are identical in
their consumption of direct material and specific
production processes
 Simple forms of process costing assume no
WIP inventory
Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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Copyright  2003 McGraw-Hill Australia Pty Ltd, PPTs t/a Management Accounting: An
Australian Perspective 3/e by Langfield-Smith, Thorne & Hilton
Slides prepared by Kim Langfield-Smith
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