Fundamentals of Product and Service Costing:

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Cynthia Boyd
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1 Fundamentals of Product and Service Costing: Demonstration Problems 1 Demonstration Problem 1 In the first quarter of operation, the Blending Department of ChemUSA produced 50,000 barrels of Compound X and left 20,000 barrels in ending work-in-process inventory which was, on average, 55 percent completed. A total of $231,800 was incurred in that period. There was no beginning work-in-process inventory. Required: 1. Determine the amount of Compound X started in the first quarter. 2. Compute the cost of Compound X transferred to finished goods and the amount of work-in-process inventory as of the end of the first quarter. 2

2 1. Since 0 +? 50,000 = 20,000, the amount of Compound X started in the first quarter was 70, barrels. 2. For the 20,000 barrels of Compound X in process at the end of the first quarter, they were on average 55 percent complete and equivalent to 11,000 barrels of finished product (= 20,000 barrels 55%). Total quantity of output for the first quarter became 61,000 barrels (= 50,000 barrels completed and transferred out + 11,000 equivalent barrels). Each barrel of Compound X was assigned a cost of $3.80 (= $231,800 61,000 barrels). The $231,800 total manufacturing costs incurred were allocated to two cost objects: $190,000 (= $ ,000 barrels) to the units finished and transferred out, and $41,800 (= $ ,000 equivalent barrels) to the ending work-in-process inventory, as shown in the following T-account. Compound X (barrels) 0? 50,000 20,000 (55% complete) 3 For a multiple-product, discrete process industry such as boat manufacturing, each unit of product is produced d in a series of discrete steps that t differ in detail depending di on the products. In this case, the benefits of more detailed costing often outweigh the costs. The cost flow diagram in Exhibit 6.3 describes the problem of taking costs from the three basic cost pools direct materials, direct labor, and manufacturing overhead and allocating them to the cost objects (various products). 4

3 Cost Allocation and Product Costing and Costing Basic Cost Flow Diagram Cost pools Direct materials Direct labor Manufacturing overhead Cost allocation rule Direct Indirect (allocated by direct labor cost) Cost objects Alpha Beta 6-5 Direct costs (direct materials and direct labor) can be directly traced or assigned to the products at relatively low cost. Work orders, inventory requisitions, and skilled workers time spent are specific to the individual products. Indirect costs (manufacturing overhead) cannot, by definition, be identified directly with individual units of product and must be allocated by identifying one or more allocation bases. Ideally, an allocation base has a direct, cause-and-effect relation with the costs incurred. The ideal is unlikely to be met. In practice, an allocation base needs to be measured for each cost object before it can be used to allocate the manufacturing overhead. One common allocation base is direct labor (cost or hour). 6

4 Demonstration Problem 2 Capable Golf Cart, Inc. (CGC) manufactures two models of golf cart: LX and EX. The budget data for next month is available. Direct labor hours 2,000 3,000 5,000 Machine hours 1,500 1,200 2,700 Direct materials $125,000 $90,000 $215,000 Direct labor 90, , , Manufacturing OH 202,500 Total $567,500 Required: Compute the reported unit cost for each product if direct labor hours are used as the allocation base. Compute the reported unit cost for each product if direct labor costs are used as the allocation base. Compute the reported unit cost for each product if machine hours are used as the allocation base. 7 Solution: 1. Predetermined d overhead rate = = $40.5 per direct labor hour. Direct labor hours 2,000 3,000 5,000 Direct materials $125,000 $90,000 $215,000 Direct labor 90, , , Manufacturing OH (@$40.5 per DL hour) 81, , ,500 Total costs $296,000 $271,500 $567,500 Unit cost $5,920 $9,050 8

5 2. Predetermined overhead rate = = 135% of direct labor cost. Direct material $125,000 $90,000 $215,000 Direct labor 90,000 60, ,000 Manufacturing overhead (@135% of DL cost) 121,500 81, ,500 Total costs $336,500 $231,000 $567,500 Unit cost $6,730 $7, Predetermined overhead rate = = $75 per machine hour. Machine hours 1,500 1,200 2,700 Direct materials $125,000 $90,000 $215,000 Direct labor 90,000 60, ,000 Manufacturing overhead (@$75 per MH) 112,500 90, ,500 Total costs $327,500 $240,000 $567,500 Unit cost $6,550 $8,000 10

6 Demonstration Problem 3 Jim is a florist who runs Bountiful Flower Shop as a sole owner. During the third week of June, he received two orders for flower bouquets that required same operations but different flower/basket combinations. Orders 471 and 472 were for a wedding hall and a business conference, respectively. The following information was available. Order 471 Order 472 Total Number of bouquet s Flowers $1,800 $1,080 $2,880 Baskets Supplies Total costs of materials $2,640 $1,530 $4,170 Direct labor in operation $630 Overhead in operation 1,155 Total costs in operation $1,785 Required: Determine the total cost and unit cost for Orders 471 and Solution: The costs of materials can be assigned directly to the two orders. Because the time and the effort required to put together each bouquet is essentially the same, Jim could allocate the operation costs based on the number of units (bouquets) assembled. That is, Operation cost per bouquet = = $8.50 per bouquet. Order 471 s share of the operation costs was $1,020 (= $8.50 per bouquet 120 bouquets). Order 472 s share was $765 (= $8.50 per bouquet 90 bouquets). Order 471 Order 472 Number of bouquets Flowers $1,800 $1,080 Baskets Supplies Total materials $2,640 $1,530 Operation costs , Total order costs $3,660 $2,295 Unit cost $30.50 $

Practice Quiz Questions

Fundamentals of Product and Service Costing: Practice Quiz Questions 1 Multiple Choice 1. Which of the following statements is correct? a) A cost flow diagram is helpful by providing a graphical representation