Manufacturing Costing

Overhead Allocation Rate

= Overhead Cost / Allocation Base

Process Costing

A method to determine cost of large numbers of standardized products

Factory Overhead

Indirect materials, indirect labor, and all other factory costs that cannot be conveniently identified with or charged directly to specific jobs, lots, products, or other final cost objects.

Betty Queen Motorboat Company used 400 direct labor hours (200 hrs for job #257, 150 hrs for job #258, and 50 hrs for job #259). What is the manufacturing overhead for each job?

Look at our illustration above for direct labor: With an overhead rate of $5.50 and 400 hours, $2,200 of manufacturing overhead will be assigned to the following jobs: Job #257 200 hrs @ 5.50 = $1,100 Job #258 150 hrs @ 5.50 = $825 Job #259 50 hrs @ 5.50 = $275 Total: 400 hrs @5.50 = $2,200

Financial Reporting Purposes

Product costs are an asset (inventory) and not expenses, until they are sold.

Cost Pool:

pooling of overhead costs that relate to a specific activity.

Activity Selection Level

a. Theoretical capacity b. Practical capacity c. Expected actual capacity

Pre-determined Overhead Rate (Step 3)

"Predetermined Manufacturing Overhead Rate" is used to apply overhead to each job in production on the actual labor hours incurred.

A typical entry to record factory overhead costs would be as follows:

Dr. Factory Overhead ...100,000 Cr. Salaries Payable..................50,000 Cr. Supplies .............................15,000 Cr. Prepaid Insurance ..................5,000 Cr. Accumulated Depreciation ....11,000 Cr. Taxes Payable ......................9,000 Cr. Utilities Payable ..................10,000 Remember: Overhead is applied to production based on the predetermined overhead rate. -If actual > applied, a debit balance results; thus the overhead is under-applied. -If actual < applied a credit balance results; thus the overhead is over-applied.

Fixed Overhead

Fixed overhead remains relatively constant regardless of changes in the level of output, within the relevant range. Fixed overhead per unit of output varies inversely with production volume.

Activity-Based Costing or simply ABC

In these highly automated, flexible manufacturing environments, we need to look at a more refined costing system so we can achieve a fair and equitable allocation of costs. There is a need for new approaches to tracing overhead costs. If we can identify the causes of costs by activities, we can more accurately assign overhead costs based on the amount of overhead each product truly consumes. This approach/method has given accountants and managers a better understanding of what drives overhead costs.

Predetermined Overhead Rate

permits a consistant and logical allocation to each unit of output. Used in job order costing and process costing.

Now let's summarize the procedure of the ABC costing system so far:

• Activities are identified and grouped into activity pools. • Costs are assigned to these activity pools, called activity-cost pools. • Cost drivers are used to allocate the overhead costs from the activity-cost pools to the specific products or services.

Alternative bases include:

• Direct labor hours • Direct labor cost • Machine hours • Direct material cost. The important point to remember here is that the allocation base used should be strongly associated (correlated) with overhead costs and, ideally, should drive the variable portion of the overhead costs. Used to assign a reasonable portion of factory overhead costs to each job.

At lease 5 factors influence the selection of overhead rates:

1. Base to be used 2. Activity selection level 3. Including or excluding fixed overhead 4. Use of a single rate or several rates 5. Use of separate rates for service activities

ABC is a costing technique that uses a two-stage allocation process:

1. The first stage identifies activities and assigns the overhead costs on the basis of activities that have consumed resources; 2. In the second stage, costs are allocated from each activity-cost pool to each product line in proportion to the amount of products consumed by the product line.

Other terms for Factory Overhead

* factory burden * production overhead * indirect production costs * manufacturing expense * manufacturing overhead * factory expense * indirect manufacturing cost

Managerial Purposes

A) Establish Product Sales Price B) Understand why the company is profitable or not C) Determine which variety of products to emphasize in marketing. D) Consider ways to reduce cost.

Indirect costs

Also called overhead or administrative costs, these are expenses not directly related to the event. They can include salaries, rent, and building and equipment maintenance.

For example, suppose Betty Queen Motorboat Company anticipates $200,000 of manufacturing overhead and 36,364 direct labor hours during the year. How can we calculate the overhead rate?

An overhead allocation rate is calculated by dividing estimated overhead costs by the estimated quantity of the allocation base. [$5.50 overhead will be applied to the relevant job for every hour of direct labor work on that job.] A)= Estimated overhead Costs/Allocation base (direct labor hours) B) = $200,000/36,364 C) = $5.50 $5.50 overhead will be applied to the relevant job for every hour of direct labor work on that job

Pre-determined Overhead Rate (Step 2)

Calculate an overhead rate for the future based on prospective or budgeted overhead costs and budgeted direct labor hours. Overhead Costs/Direct Labor Hours = #/hr.

Actual overhead costs of $650,000 and the overhead applied to jobs amounted to $680,000. That means we over-applied the overhead costs by $30,000. The over-applied overhead cost is credited to?

Cost of Goods Sold, reducing it.

Job Order Costing

Costs are accumulated by separate product orders, runs or batches ("job orders") and averaged only over the number of common units produced within that job.

Factory overhead

Is an indirect cost and difficult to trace directly into specific jobs or units. The total cost of items such as rent, depreciation, heat, light, power, insurance, supplies and indirect labor used in a factory. For example, the cost of an automobile repair job should include a fair share of all indirect costs [i.e., overhead costs (some times supervision, tools/ machinery used)] in addition to the direct parts (materials) and labor used. Factory overhead (indirect costs) includes all manufacturing costs other than the costs of direct materials and direct labor. Costs are then assigned to jobs in proportion to this other factor. So now we need to find the factor that would provide a reasonable basis to allocate overhead. This objective may be accomplished by charging factory overhead to jobs in proportion to direct labor costs, direct labor hours, or machine hours.

Suppose a company had $52,000 of actual overhead and applied $50,000 to jobs using a predetermined overhead rate. In this case, overhead is?

Is under-applied by $2,000, represented by the debit balance in the Manufacturing Overhead account. Under-applied overhead is charged to Cost of Goods Sold [if the amount is immaterial (relatively small)]. The following journal entry is made: Dr Cost of Goods Sold $2,000.00 Cr Manufacturing Overhead $2,000.00

Pre-determined Overhead Rate (Step 1)

Management identifies an activity which can be measured job by job and drives manufacturing overhead costs

Semivariable Overhead

Semivariable overhead is neither fixed nor variable. The different overhead cost behavior patterns cause per-unit manufacturing cost to fluctuate considerably.

Consept of active-based-costing

Stage 1: Overheads are assigned to activities (costs are first pooled according to activities, and than activei cost driver rates) Stage 2: Products Charge with Cost of activities Ex 1. Activity-Based Costing = Set up cost; Cost Drive = No. of set ups; Cost Driver Rate = Set up cost/No. of Set ups Ex. 2. Active Cost Pool = Ordering Cost; Cost Drive = No. of orders; Cost Driver Rate = Ordering Cost/No. of orders

Overhead application

The process of assigning overhead costs to the jobs or units. An ____ application rate expresses the relationship of total factory overhead to some other factor that can be traced directly to specific units of output.

Predetermined overhead rate

To determine the overhead application rate in advance (predetermined overhead rate), we first estimate the expected total factory overhead for the year. This estimated amount is called budgeted overhead. We then estimate the direct labor costs, direct labor hours or machine hours, whichever is to be used as the basis for applying overhead costs to production. The predetermined overhead application rate is equal to the budgeted overhead divided by the application base. It is not necessary to wait until the end of the period to know the factory overhead chargeable to goods produced.

Variable Overhead

Variable overhead changes proportionately with production volume, within the relevant range. Variable overhead per unit of output is constant.

Base to be Used

a. Physical output b. Direct materials cost c. Direct labor cost d. Direct labor hours e. Machine hours f. Transactions or activities