5-1

Job-Order Costing: Cost Flows

and External Reporting
CHAPTER 3

Introduction to
Managerial Accounting
Ninth edition

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 3-2

Important Vocabulary Terms – Part 1

There are seven important vocabulary terms
that were introduced in the previous chapter.

Job-order costing – A costing system used in

situations where many different products, jobs,
or services are produced each period.
Absorption costing – A costing method that
includes all manufacturing costs—direct
materials, direct labor, and both variable and
fixed manufacturing overhead—in the cost of a
product. 

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 3-3

Important Vocabulary Terms – Part 2

Allocation base – A measure of activity such
as direct labor-hours or machine-hours that is
used to assign costs to cost objects.
Predetermined overhead rate – A rate used
to charge manufacturing overhead cost to jobs
that is established in advance for each period;
computed using the following equation:
Predetermined overhead rate =
Estimated total manufacturing overhead cost ÷
Estimated total amount of the allocation base

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 3-4

Important Vocabulary Terms – Part 3

Overhead application – the process of assigning
overhead costs to specific jobs using the following
formula:
Overhead applied to a particular job =
Predetermined overhead rate x Amount of allocation
base incurred by the job

Normal costing – A costing system in which overhead costs

are applied to a job by multiplying a predetermined overhead
rate by the actual amount of the allocation base incurred by
the job.
Job cost sheet – A form that records the direct materials,
direct labor, and manufacturing overhead cost charged to a
job.
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 3-5

Flow of Costs: Key Definitions

1. Raw materials include any materials that go
into the final product.
2. Work in process consists of units of
production that are only partially complete and
will require further work before they are ready
for sale to customers.
3. Finished goods consist of completed units of
product that have not been sold to customers.
4. Cost of goods manufactured includes the
manufacturing costs associated with the goods
that were finished during the period.

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Flow of Costs: a Conceptual
3-6

Overview

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 3-7

Purchase of Raw Materials – T Accounts

Purchase of raw materials in T-account form.
Raw Materials Work in Process
Material Direct (Job Cost Sheet)
Purchases Materials Direct
Indirect Materials
Materials

Mfg. Overhead
Actual Applied
Indirect
Materials

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 3-8

Recording Labor Cost: T-Account

Salaries and Wages Work in Process
Payable (Job Cost Sheet)
Direct Direct
Labor Materials
Indirect Direct
Labor Labor

Mfg. Overhead
Actual Applied
Indirect
Materials
Indirect
Labor
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 3-9

Recording Actual Manufacturing

Overhead Costs: T-Account
Salaries and Wages Work in Process
Payable (Job Cost Sheet)
Direct Direct
Labor Materials
Indirect Direct
Labor Labor

Mfg. Overhead
Actual Applied
Indirect
Materials
Indirect
Labor
Other
Overhead

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 3-10

Applying Manufacturing Overhead Costs

to Work in Process: T-Account
Salaries and Wages Work in Process
Payable (Job Cost Sheet)
Direct Direct
Labor Materials
Indirect Direct
Labor Labor
Overhead
Mfg. Overhead Applied

Actual Applied
Indirect Overhead
Materials If actual and applied
Applied to
Indirect manufacturing overhead
Work in
Labor are not equal, a year-end
Process
adjustment is required.
Other
Overhead

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 3-11

Accounting for Nonmanufacturing Costs

Nonmanufacturing costs are not assigned to
individual jobs, rather they are expensed in the
period incurred.
Examples:
1. Salary expense of employees who work
in a marketing, selling, or administrative
capacity are expensed in the period incurred.
2. Depreciation expense on office equipment is
expensed in the period incurred.
3. Advertising expenses are expensed in
the period incurred.
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 3-12

Transferring Completed Jobs from Work

in Process to Finished Goods: T-Account

Work in Process Finished Goods

(Job Cost Sheet)
Cost of
Direct Cost of Goods
Materials Goods Manufactured
Direct Manufactured
Labor
Overhead
Applied

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 3-13

Transferring Finished Goods to Cost of

Goods Sold: T Account
Work in Process Finished Goods
(Job Cost Sheet)

Direct Cost of Cost of

Materials Cost of Goods Goods
Goods Mfd. Sold
Direct Mfd.
Labor
Overhead
Applied
Cost of Goods Sold

Cost of
Goods
Sold

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 3-14

Schedules of Cost of Goods

Manufactured and Cost of Goods Sold
The schedules contains three types of costs:
1. direct materials
2. direct labor
3. manufacturing overhead

The schedules calculate the:

1. cost of raw material and direct labor used in
production and the amount of manufacturing
overhead applied to production.
2. manufacturing costs associated with goods
that were finished during the period.

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 3-15

Product Cost Flows – Part 1

Raw material purchases made during the period are added to
beginning raw materials inventory. The ending raw materials
inventory is deducted to arrive at the raw materials used in
production.
As items are removed from raw materials inventory and placed
into the production process, they are called direct materials.

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 3-16

Product Cost Flows – Part 2

Direct labor used in production and manufacturing
overhead applied to production are added to direct
materials to arrive at total manufacturing costs.

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 3-17

Product Cost Flows – Part 3

Total manufacturing costs are added to the
beginning work in process to arrive at total
work in process.

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 3-18

Product Cost Flows – Part 4

The ending work in process inventory is deducted
from the total work in process for the period to
arrive at the cost of goods manufactured.

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 3-19

Product Cost Flows – Part 5

The cost of goods manufactured is added to the beginning finished
goods inventory to arrive at cost of goods available for sale. The
ending finished goods inventory is deducted from this figure to arrive
at cost of goods sold.

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 3-20

Key Concepts
The difference between the overhead cost applied
to Work in Process and the actual overhead costs
of a period is referred to as either underapplied or
overapplied overhead.
Underapplied overhead Overapplied overhead
exists when the amount of exists when the amount of
overhead applied to jobs overhead applied to jobs
during the period using the during the period using the
predetermined overhead predetermined overhead
rate is less than the total rate is greater than the
amount of overhead total amount of overhead
actually incurred during actually incurred during
the period. the period.
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 3-21

Overhead Application – Part 1

PearCo’s actual overhead for the year was
$650,000 with a total of 170,000 direct labor hours
worked on jobs.
PearCo’s predetermined overhead rate is $4.00
per direct labor hour ($640,000 ÷ 160,000 DLHs).

Overhead Applied During the Period

Applied Overhead = POHR × Actual Direct Labor Hours
Applied Overhead = $4.00 per DLH × 170,000 DLH = $680,000

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 3-22

Overhead Application – Part 2

PearCo’s actual overhead for the year was
$650,000 with a total of 170,000 direct labor
hours worked on jobs.
PearCo’s predetermined overhead rate is
$4.00 per direct labor hour.

Overhead Applied During the Period

Applied Overhead = POHR × Actual Direct Labor Hours
Applied Overhead = $4.00 per DLH × 170,000 DLH = $680,000

PearCo has overapplied overhead for the year

by $30,000. What will PearCo do?
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 3-23

Disposition of Overapplied and

Underapplied Overhead – Part 1
Any remaining balance in the Manufacturing
Overhead account, such as PearCo’s $30,000
of overapplied overhead, is disposed of in one
of two ways:
1. It can be closed to Cost of Goods Sold.
2. It can be closed proportionally to Work in
Process, Finished Goods, and Cost of
Goods Sold.

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 3-24

Disposition of Overapplied and

Underapplied Overhead – Part 2
The journal entry, in T-account form, to close
out PearCo’s $30,000 of overapplied overhead
into Cost of Goods Sold.

PearCo’s Cost PearCo’s

of Goods Sold Mfg. Overhead
Unadjusted Actual Overhead
Balance overhead applied
costs to jobs
$30,000
$650,000 $680,000

$30,000 $30,000
Adjusted overapplied
Balance

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 3-25

Disposition of Overapplied and

Underapplied Overhead – Part 3
Calculating the allocation of underapplied or
overapplied overhead between Work in
Process, Finished Goods, and Cost of Goods
Sold:
Let’s assume the overhead applied in Ending
Work in Process Inventory, Ending Finished
Goods Inventory, and Cost of Goods Sold is
$68,000, $204,000, and $408,000,
respectively (total value of accounts
$680,000).

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 3-26

Disposition of Overapplied and

Underapplied Overhead – Part 4
In this case, the allocation percentages for
Work in Process, Finished Goods, and Cost
of Goods would be:

Ending WIP Inventory = $68,000 ÷ $680,000 = 10%

Ending Finished Goods Inventory =
$204,000 ÷$680,000 = 30%
Cost of Goods Sold = $408,000 ÷$680,000 = 60%

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 3-27

Disposition of Overapplied and

Underapplied Overhead – Part 5
The allocation of the $30,000 of overapplied
overhead would be:

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 3-28

Disposition of Overapplied and

Underapplied Overhead – Part 6
In summary, there are two methods for
disposing of underapplied and overapplied
overhead:
1. Close out to Cost of Goods Sold.
2. Allocate between Work in Process, Finished
Goods, and Cost of Goods Sold.

The latter method is

considered more accurate,
but it is more complex to
compute.

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