CHAPTER
3
Product Cost Flows and
Business Organizations
Learning Objective 1
Understand the
difficulty, yet
importance, of
having accurate
product cost
information.
Assignment of Product Costs
Product Cost
Easily
assigned to
products.
Easily
assigned to
products.
Difficult to
assign to
products.
Direct
Materials
Costs
Direct
Labor
Costs
Manufacturing
Overhead
Costs
- Expenditure
and use
usually match
production.
- Expenditure
and use
usually match
production.
- Total costs not known
until the end of the
period.
- Not usually assigned
to specific products.
- “Lumped” costs don’t
match production
very well.
Product Cost Systems
Why does management needs
accurate product cost information?
Product Cost Systems
What does accurate information allow
management to do?
Learning Objective 2
Explain the flow of
goods and services
in a manufacturing
organization and
follow the
accumulation of
product costs in its
accounting system.
Review the Time Line of Business
Measuring Cost
To accurately measure product
costs, accountants must:
Outline the Flow of Cost in a
Manufacturing Process
Determining Cost
What are
some
difficulties in
determining
costs of
manufactured
products?
Costs of Manufacturing Products
Discuss the Nature of Raw Materials.
Direct materials
Example: Direct Materials Costs
Venus Vehicles purchased $2 million of steel for its
new line of cars. What is the journal entry?
Half the new steel is requested from the warehouse for
production. What is the journal entry?
Indirect materials ($250,000 of glue and bolts) are requisitioned
from the storeroom. What is the journal entry?
Costs of Manufacturing Products
Discuss the Nature of Direct Labor.
Direct labor
Direct Labor Costs and Example
Time clocks, computer entries, time sheets—
- All allow production personnel to identify
specific jobs worked on.
This information is revealed on the job cost sheet.
Labor costs can be direct or indirect.
Payroll records report direct labor of $50,000 and
indirect labor of $50,000. Record the direct labor.
Record the indirect labor.
Costs of Manufacturing Products
Discuss the Nature of Factory Overhead.
Manufacturing
overhead
Describe Characteristics of
Manufacturing Overhead Costs
Describe the Two-Step Process to
Apply Manufacturing Overhead to
Products
Step One
Step Two
Determining Manufacturing
Overhead Rate
Steel Works estimates annual variable
manufacturing overhead costs of $10,000 and
fixed manufacturing overhead of $20,000. What is
the predetermined overhead rate if the company
expects to use the machines 10,000 hours?
Determining Manufacturing
Overhead Rate
Steel Works used 10 machine hours in the
production of Job No. 12. Using the $3.00
predetermined overhead rate, what overhead
costs will be applied to manufacturing overhead
(MOH) for this job? What is the journal entry to
apply this MOH to Job No. 12?
Transferring Completed Products to
Finished Goods Inventory & then
Selling the Products
Steel Works used $100 in direct materials in Job No.
12’s production as well as 10 hours of direct labor at
$20 per hour. Using a job cost sheet, determine the
job’s total cost. Now that the job is complete,
prepare the entries for its transfer to Finished
Goods and its sale.
Learning Objective 3
Understand the process of
accounting for overhead.
Actual versus Applied
Manufacturing Overhead
Actual Overhead
 Actual annual manufacturing overhead costs.
 Needed for accurate determination of income.
 Recorded as debit to Manufacturing
Overhead.
Applied Overhead
 Amount of overhead applied to products
using the predetermined overhead rate.
 Recorded as credit to Manufacturing
Overhead.
Disposition of Over- and
Underapplied MOH
Manufacturing Overhead
Actual
Applied
Manufacturing Overhead
Actual
Applied
10
20
(Cost of job is overstated)
20
10
(Cost of job is understated)
Overapplied Manufacturing
Overhead:
The excess of applied
overhead costs over actual
overhead costs for a period.
Underapplied Manufacturing
Overhead:
The excess of actual
overhead costs over applied
overhead costs for a period.
Treating Applied Overhead
Two methods for treating over- and
underapplied MOH:
- Close over- or underapplied overhead directly to Cost
of Goods Sold.
- Easier and more commonly used, especially if amount
is small.
- Debit MOH, Credit COGS.
- Allocate over- or underapplied manufacturing overhead
to Work-in-Process Inventory, Finished Goods
Inventory, and Cost of Goods Sold on the basis of the
ending balances in these three accounts.
- More accurate; any difference is allocated
proportionately.
- More complicated; requires detailed calculations.
Learning Objective 4
Create a Cost of
Goods
Manufactured
schedule and
understand how it
is used to
calculate cost of
goods sold.
Discuss the Cost of Goods
Manufactured Schedule
Example: Cost of Goods
Manufactured Schedule
Satchel Manufacturing, Inc.
Cost of Goods Manufactured Schedule
For the Year Ended December 31, 2006
Raw Materials:
Beginning raw materials inv.
$ 30,000
Add: Raw materials purchased
150,000
Total: raw materials available
$180,000
Less: Ending raw materials inv.
20,000
Raw materials used in production
$ 160,000
Direct labor
220,000
Applied manufacturing overhead
330,000
Total manufacturing costs
$ 710,000
Example: Cost of Goods
Manufactured Schedule
We will begin with the bottom line from the
previous slide.
Total manufacturing cost
Add: Beginning work-in-process
Less: Ending work-in-process
Cost of goods manufactured
$ 710,000
25,000
35,000
$ 700,000
Learning Objective 5
Explain the flow of
goods and services
in a merchandising
organization and
follow the
accumulation of
product costs in its
accounting system.
The Distribution Channel
The process of wholesalers purchasing from
manufacturers and supplying retailers who sell to final
customers.
A Typical Channel of Distribution
Manufacturer
Brand A
Wholesaler
Brand A Customers
Manufacturer
Brand B
Brand B Customers
Manufacturer
Brand C
Brand C Customers
Wholesaler
Retailer
Manufacturer
Brand D
Brand D Customers
Manufacturer
Brand E
Brand E Customers
Wholesaler
Manufacturer
Brand F
Brand F Customers
Describe What Wholesalers Do
Retailers – Define Risk and
Stockturns
Often work with many
wholesalers (and some
manufacturers) to
obtain inventory mix.
Risk
Stockturns
Second-tier merchants
who typically purchase
products from
wholesalers to distribute
to customers. Many will
often bypass wholesalers
to purchase inventory
directly from the original
manufacturers.
Describe Merchandise Cost Flows
Accounts
Payable
xxx
x
x
Merchandise
Inventory
xx xx
x x
x
Cost of Goods
Sold
xx x
x x
Describe Accounting for Inventory
Prepare journal entry for when $465 inventory is
sold.
Learning Objective 6
Explain the flow of
goods and services
in a service
organization and
follow the
accumulation of
product costs in its
accounting system
Define a Service Company
What are the Effects of Deregulation?
List Similarities Between Service
and Manufacturing Firms
List Differences Between Service
and Manufacturing Firms
Work-in-Process Inventory
At period’s end, there may be situations where
significant effort and resources have been invested
in a service product that is not yet completed.
Revenue is not yet earned; therefore, costs should not
be recognized yet as expenses. This work in
process is an asset, referred to as Work-in-Process
Services.
When service is completed and delivered, service
costs (overhead costs and work-in-process services)
are transferred to Cost of Services.
Learning Objective 7
Understand
the impact of
e-business
on product
costing.
What Impact Has e-business Had
on Product Costs?
Expanded Material
Learning Objective 7
Use the FIFO
method to do
process costing.
Process Costing
Process costing is appropriate if what
two general conditions are met?
What are the 5 Steps in Process
Costing?
1
2
3
4
5
Step 1: Compute Equivalent
Units of Production
Direct Materials Costs
Beginning
work-inprocess
Started &
completed
Ending
work-inprocess
Physical
Units (lbs)
% Done
4,000
0%
44,000
2,000
Equivalent
units of
production
Transferred
out
Equivalent
Units
% Done
Equivalent
Units
-
80%
3,200
100%
44,000
100%
44,000
100%
2,000
60%
1,200
46,000
48,000
Conversion Costs
48,400
Step 2: Compute Product Costs
per Unit
Total
Costs
Beginning work-in-process
Direct materials costs
Conversion costs
Total
Current period
Direct materials costs
Conversion costs
Total
Equivalent
Units
Cost per
Unit
$
800
1,200
4,000
800
$
0.20
1.50
$
2,000
Total
$
1.70
$
9,660
70,180
46,000
48,400
$
0.21
1.45
$ 79,840
Total
$
1.66
Step 3: Compute the Costs
Transferred Out
Cost per
Unit
Beginning work-in-process
Initial direct materials costs
Initial conversions costs
Cost to complete materials
Cost to complete conversion
Total
Started and completed
Total costs transferred out
Equivalent
Units
$
$
$
0.21
1.45
1.66
3,200
44,000
800
1,200
4,640
$ 6,640
73,040
$ 79,680
Step 4: Compute Costs of Ending
Work-in Process Inventory
Costs for direct materials
Conversion costs
Cost of ending work-in-process
Cost per
Unit
$ 0.21
1.45
Equivalent
Units
2,000 $ 420
1,200
1,740
$ 2,160
Step 5: Prepare the Production
Cost Report
The production cost report
contains the information
prepared and presented in steps
1 through 4.
This Completes Managerial
Chapter 3