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CHAPTER FOUR
SPOILAGE, REWORK AND SCRAP
Chapter Learning Objectives:
At the completion of studying this chapter, you should be able to:
 Define Spoilage, Rework and Scrap
 Describe normal and abnormal spoilage
 Account for spoilage in process costing using the weighted average method
 Account for spoilage in process costing using the first-in, first-out method
 Account for spoilage in job costing
 Account for rework in job costing
 Account for scrap
Definition of Terms

 Spoilage refers to unacceptable units of production that are discarded or are sold for net disposable proceeds.
 Reworked units are unacceptable units of production that are subsequently reworked and sold as acceptable finished goods.
 Scrap is material left over when making a main or joint product is defined as a product that has minimal (frequently zero) sales
value compared with the sales value of the main or joint product(s).
A) Accounting for Spoilage

Spoilage refers to unacceptable units of production that are discarded or are sold for net disposable proceeds. In other words, it is units
of production that do not meet the standards required by the customers for good units and that are discarded or sold for reduced prices.
Partially completed or fully completed units of output may be spoiled.

Examples are defective shirts, jeans, shoes and carpets sold as “Seconds” and defective aluminum foils.

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Types of spoilage

Accounting for spoilage aims to determine the magnitude of spoilage costs and distinguish between
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cost of normal and abnormal
spoilage. To manage, control and reduce these costs, companies need to highlight these costs, not bury them as unidentified parts of
cost of good units manufactured.
i) Normal spoilage

Normal spoilage is spoilage inherent in a particular production process that arises even under efficient operating conditions. Costs of
normal spoilage are typically included as a component of the cost of good units manufactured because good units cannot be made
without also making some units that are spoiled.
It has to be noted that normal spoilage rates are calculated by dividing the units of abnormal spoilage by total good units completed,
not by total actual units started in production because normal spoilage is the spoilage related to the good units produced.
ii) Abnormal Spoilage

Abnormal spoilage is spoilage that would not arise under efficient operating conditions. It is not inherent in a particular production
process. This type of spoilage is usually regarded as avoidable and controllable by different mangers in the production area. Examples
include machine breakdowns, production operator’s error, and accidents.
Generally, in order to highlight the effect of abnormal spoilage costs, companies calculate the costs related to abnormally spoiled units
separately and show it on a ‘loss from abnormal spoilage’ account in the income statement.

Taking the production process in to account, firms decide the spoilage they consider normal, i.e., normal spoilage for one company
may become abnormal spoilage for another. Many automated companies such as Toyota do not follow similar production processes
always; rather they constantly redesign products and improve processes to drive normal spoilage downward. Hence, such companies
seek a perfection standard as part of their emphasis on product quality control.
Issues about accounting for spoilage arise in both process costing and job costing systems. The subsequent sections describe this in
detail.
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o Process Costing and Spoilage

It has already been explained earlier that units of abnormal spoilage should be counted and recorded separately. When discussing
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about the treatment of normal spoilage we can avail the help of two approaches: Approach-A normal spoilage units are counted as part
of output units when computing physical and equivalent. Approach-B normal spoilage units are not counted as part of output units
when computing physical and equivalent. Because of its theoretical and practical application superiority, the succeeding parts of this
topic show the application of Approach-A.
Illustration of accounting for spoilage under process costing:

Assume that the Dream Corporation has two processing departments using sequential production flow: the Cleaning Department and
the Milling Department. In the Cleaning Department direct material is introduced in the production process at the beginning of the
production process.
Conversion costs are incurred evenly throughout the production process. According to past experience of the company normal
spoilage accounts 10% of good units completed and transferred out. The following table presents the summary activity performed in
Cleaning Department during May.
Work in process, May 1: 1,000 Units
Direct material, 100% Complete, cost of* $4,000
Conversion costs, 80% Complete, cost of* 400
Balance in work in process, May 1* $4,400
Units started in May 9,000 Units
Units completed during May and transferred out of the Cleaning 7,400 Units
Work in process, May 31: 1,600 Units
Direct material, 100% Complete
Conversion costs, 25% Complete
Costs incurred During May:
Direct material $27,000
Conversion costs $48,000
Required:
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i. Determine the amount of normal and abnormal spoilage, and

ii. Show the treatment of both using weighted average and First-in, First-out methods of process costing and pass the necessary
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journal entries

Solution:
i. Determination of the amount of normal and abnormal spoilage
Total spoilage = [Beginning Units + Units Started] - [Good Units Transferred Out + Ending Units]

Total spoilage = [1,000 + 9,000] - [7,400 + 1,600] = 10,000 - 9,000 = 1,000 Spoiled Units

In this example Normal Spoilage is 10% of good units completed and transferred out 7,400, or 740 units.

Abnormal Spoilage = Total Spoilage - Normal Spoilage

= 1,000 – 740 = 260 Units

ii. Treatment of spoilage using weighted average and First-in, First-out methods of process costing.
A. Spoilage and weighted average method of process costing:

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Dream Corporation
Production Report: Cleaning Department-WA Method
For the Month Ended on May 31, 2004 20

Step-I Step-II
%age of Completion Direct
Physical Units Conversion
(CC) material
work in process, May 1 1,000 80%
Units started during May 9,000
Total Units to account for 10,000
Units completed and transferred out during
May: 7,400 7400 7400
Normal Spoilage 740 740 740
Abnormal Spoilage 260 260 260
work in process, May 31 1,600 25% 1,600 400
Total Units accounted for 10,000
Equivalent Units 10,000 8,800
Step-III
Direct material Conversion Total
Work in process, May 1 4000 400 $4,400
Cost Incurred During May $27,000 48,000 $75,000
Total costs to account for 31,000 48,400 79,400
Equivalent Units 10,000 8,800
Cost per Equivalent Units $3.10 $5.50 $8.60
($3.1 +
(Supportive Computation)
(31,000/10,000) (48,400/8,800) $5.5)

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Step-IV: Analysis of total cost. Cost Assignment to units in work in process and Completed
and transferred Goods 20

Cost assignment to good units completed

and transferred
Costs before normal spoilage 22,940 40,700 63,640
6,36
2,294 4,070
Normal spoilage 740 Units 4
Total Cost of good units
completed and transferred-out 70,004
2,2
806 1,430
Abnormal Spoilage 260 Units 36
Costs remaining in May 31 work in process
inventory
(No of Equivalent Units of DM)X(cost
1,600X$1 4,960
per equivalent unit of DM)
(No of Equivalent Units of CC)X(cost
400X$1 2,200 7,160
per equivalent unit of CC)
Total costs accounted for $79,400
Check: Cost of Good Units Completed and $
Transferred 70,004
$
Cost of Abnormal Spoilage 2,236
Cost of May 31 work in process
7,160
inventory
 Total Costs Accounted For 79,400

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B. Spoilage and First-in, First-out method of process costing

Dream Corporation 20
Production Report: Cleaning Department-FIFO Method
For the Month Ended on May 31, 2004
Step-I Step-II
%age of
Physical Completion Direct Conversio
Units (CC) material n
work in process, May 1 1,000 80%
Units Started during May 9,000
Total Units to account for 10,000
Units completed and transferred out during
May:
From work in process, May 1 1,000 80% 0 200
Started and Completed 6,400 6,400 6,400
Normal Spoilage 740 740 740
Abnormal Spoilage 260 260 260
work in process, May 31 1,600 25% 1,600 400
Total Units accounted for 10,000
Equivalent Units 9,000 8,000
Step-III
Direct
material Conversion Total
work in process, May 1 Work done in April $4,400
Cost Incurred During May $27,000 48,000 $75,000
total costs to account for 27,000 48,000 79,400
Equivalent Units 9,000 8,000
Cost per Equivalent Units $3.00 $6.00 $9.00
(Supportive Computation) (27,000/9,00 (48,000/8,00 $3 + $6
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0) 0) = $9

Step-IV: Analysis of total cost. 20

Cost Assignment to units in work in process and Completed and transferred Goods
Cost assignment to good units completed and
transferred
From work in process, May 1
4,4
4,000 400
Costs incurred in April 00
Direct Materials Added in May to Beginning
- - -
WIP
Conversion Costs Added in May to Beginning 1,20
- 1,200
WIP 0
Total Costs from Beg. WIP before 5,60
normal spoilage 0
Started and Completed in May before normal
19,200 38,400 57,600
spoilage
6,66
2,220 4,440
Normal spoilage 740 Units 0
Total Cost of good units completed and 69,86
transferred-out 0
2,34
780 1,560
Abnormal Spoilage 260 Units 0
Costs remaining in May 31 work in process
inventory:
(No of Equivalent Units of DM)X(cost per
1,600X$3 4,800
equivalent unit of DM)
(No of Equivalent Units of CC)X(cost per
400X$6 2,400 7,200
equivalent unit of CC)
total costs accounted for $79,400
Check: Cost of Good Units Completed and
Transferred 69,860

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2,34
Cost of Abnormal Spoilage 0
Cost of May 31 work in process
7,200 20
inventory
 Total Costs Accounted For 79,400

Passing End of Month Journal Entries

Weighted Average Method

To transfer good units from Cleaning Department to Milling Department

Work in Process - Cleaning Department 70,004   Dr.

Work in Process - Milling Department 70,004   Cr.
To recognize abnormal spoilage detected in May

Loss From Abnormal Spoilage 2,236 Dr.

Work in Process -Cleaning Department 2,236 Cr.
FIFO Method
To transfer good units from Cleaning Department to Milling Department

Work in Process - Cleaning Department 69,860   Dr.

Work in Process - Milling Department 69,860   Cr.
To recognize abnormal spoilage detected in May

Loss From Abnormal Spoilage 2,340 Dr.

Work in Process -Cleaning Department 2,340 Cr.
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Job costing and Spoilage

The concepts of normal and abnormal spoilage are also applicable to job costing system. Abnormal spoilage is usually regarded as
controllable by managers. It is thus separately identified with the goal of eliminating it altogether. Costs of abnormal spoilage are not
considered as inventoriable costs and are written-off as costs of the period in which they are detected. In contrast, normal spoilage
costs (as in process costing system) are inventoriable costs, although increasingly managements are tolerating only small amounts of
spoilage as normal.

When assigning costs, job costing system generally distinguishes between normal spoilage attributable to specific job and normal
spoilage attributable to all jobs. A normal spoilage attributable to specific job is assigned to that job, a step unnecessary in process
costing.

Comprehensive Illustration:

Assume that General Motors Machine shop produce and sale aircraft parts to manufacturers of airplanes. In the current year, 2004,
the company has three jobs outstanding: Job-A, Job-B and Job-C; manufacture of 55, 40 and 50 aircraft parts, respectively.

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Let’s further assume that we are accounting for Job-C, where 5 aircraft parts out of a job lot of 50 aircraft parts are spoiled during
2004. Costs assigned prior to the inspection point are found to be $2,000 per part. When the spoilage is detected, the spoiled goods
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are inventoried at $600 per part, the net disposal value (i.e. $600 can be recovered from sale of the spoiled units net of disposal
costs).

Required: Account for the spoiled units of Job-C if they are:

a. Normal spoilage attributable to a specific job

b. Normal spoilage common to all jobs
c. Abnormal spoilage

Normal spoilage attributable to a specific job: When normal spoilage occurs because of the specifications of a particular job, that job
bears the cost of the spoilage reduced by the disposal value of the spoilage. The journal entry to recognize disposal value (items in
parenthesis indicate subsidiary ledger postings)

Materials Control(spoiled goods at current net disposal value): 5 units X

$600 per unit 3,000   Dr.
Work in Process – (Specific Job)
5 units X $600 per unit 3,000   Cr.
Note, the work-in-Process-Control (Specific Job) has already debited or charged $10,000 for the spoiled parts (5 spoiled parts X
$2,000 per part). The effect of the $ 3,000 entry is to make the net cost of normal spoilage, $7,000 ($ 10,000 – 3,000), an additional
cost of the 45 (50 - 5) good units produced. The total cost of the 45 good units is $ 97,000, comprising $ 90,000 (45 X $ 2,000 per
unit) incurred to produce the good units plus the $7,000 net cost of normal spoilage. The cost per good unit is $ 2,155.56 ($ 97,000/45
good units).

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Normal spoilage common to all jobs: in some cases, spoilage may be considered a normal characteristics of a given product life cycle.
The spoilage inherent in production process will, of course, occur when a specific job is being worked on. But the spoilage is not
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attributable to, and hence is not charged to, the specific job. Instead, the spoilage is costed as manufacturing overhead. The journal
entry is:

Materials Control(spoiled goods at current net disposal value): 5 units X $600 per
unit 3,000   Dr.
Manufacturing Overhead Control (Normal spoilage) 7,000
Work in Process – (Specific Job)
5 units X $600 per unit 10,000   Cr.
When a normal spoilage is common to all jobs, the budgeted manufacturing overhead rate (Predetermined Overhead Rate) includes
the provision for normal spoilage cost. Normal spoilage cost is spread, through overhead allocation, over all jobs rather than loaded on
a specific job.

For example, since General Motors produced 140 good units across all jobs during the month (Job-A, Job-B and Job-C), the $7,000 of
normal spoilage overhead costs would be allocated at the rate of $50 per good unit ($7,000/140). Normal spoilage overhead costs
allocated to the 45 good units in the job would be $2,250($50 X 45 good units). Total cost of the 45 good units is:

Total Cost of 45 Good Units = 45 X $2,000 + 45 X $50 = 90,000 + 2,250 = $92,250

The cost per good unit = $92,250/45 = $2,050

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Abnormal spoilage: if the spoilage is abnormal, the net loss is charged to an abnormal loss account. Unlike the normal spoilage, these
costs are not included as part of cost of good units produced. In this case the cost of 45 good units will be $90,000 only as the cost of
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spoiled units is entirely treated as loss of the current period. The cost per good unit will be $ 2,000 ($90,000/45).

Materials Control(spoiled goods at current net disposal value): 5 units X $600 per unit
3,000   Dr.
Loss from Abnormal spoilage) 7,000
Work in Process – (Specific Job)
5 units X $600 per unit 10,000   Cr.

B) Accounting for Rework

Reworked units are unacceptable units of production that are subsequently reworked and sold as acceptable finished goods. E.g.
Defective units of products such as computer disk drives, computers, and telephones can sometimes be repaired and sold as good
products.

Rework is units of production that are inspected, found to be unacceptable, repaired, and sold as acceptable finished goods. We again
distinguish between normal rework attributable to a specific job, normal rework common to all jobs, and abnormal rework.

To illustrate, in the General Motors Machine Shop data assume that the defect related to the 5 spoiled units is correctible defect and
are reworked. Further assume that previously the organization assigned the following costs for the specific spoiled units before
undertaking the rework: $4,000, $4,000, and $2,000 for direct material, direct labor and manufacturing overhead, respectively. The

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rework of the defective units entails rework costs of $3,800 broken down as $800 direct material, $2,000 direct labor and $1,000
overhead.
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Required: account for the rework of the defective units if the rework is:
i. Normal Rework Attributable to a Specific Job-Job-C
ii. Normal Rework Common to All Jobs
iii. Abnormal Rework

Normal Rework Attributable to a Specific Job: If the rework is normal but occurs because of the requirements of the specific job, the
rework costs are charged to that job and the journal entry will be:
Work-in-Process (specific job) 3,800 Dr.
Materials Control 800 Cr.
Wages Payable 2,000 Cr.
Manufacturing overhead allocated 1,000 Cr.
Total cost of Job-C after the rework will be the sum of the rework cost and the original cost of making good units of output, where the
rework costs are considered as if they are the additional cost of making the good units of output.

Total cost of Job-C = 50 X $2,000 + $3,800 = $ 103,800

Total cost per unit = 103,800 ÷ 50 = $2,076

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Normal Rework Common to All Jobs: when the rework is normal but not attributable to a specific job, the costs of the rework are
charged to manufacturing overhead and spread using overhead allocation process over all the jobs in process during a period.
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Manufacturing Overhead (Rework Costs) 3,800 Dr.

Materials Control 800 Cr.
Wages Payable 2,000 Cr.
Manufacturing overhead allocated 1,000 Cr.
Looking at the above journal entry one might wonder why both Manufacturing Overhead Control and Manufacturing Overhead
Allocated appeared in the same transaction. This is because the manufacturing overhead control is debited as the normal rework is
common to all jobs (rather than attributable to a specific job). In such cases, the additional manufacturing overhead costs incurred to
rework the units are spread over all jobs by including the allowance for estimated rework in the budgeted manufacturing overhead
(accounted for by the credit to Manufacturing Overhead Allocated).

Overhead rate allocated to units of each job = total rework ÷ total good units in all jobs (A,B&C)

= $3,800 ÷145 (55 + 40 + 50) ≈ $26 per good unit i.e., $2,000+26 = $2,026 TC per unit
Total cost of Job-C = 50 X $2,000 + 50 X $26 = $ 101,300

Abnormal Rework: If the rework is abnormal, it is recorded by charging abnormal rework to a loss account.

Loss From Abnormal Rework 3,800 Dr.

Materials Control 800 Cr.
Wages Payable 2,000 Cr.
Manufacturing overhead allocated 1,000 Cr.
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In this case the total per unit cost of making the good units will remain $2,000 excluding the cost of rework of abnormal spoilage and
the total cost of making the good units will be $100,000 ($2,000 X 50). Costing rework focuses managers on the resources wasted on
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activities would not have to be undertaken if the product were made correctly. The cost of rework prompts managers to seek ways to
reduce rework, for example, by designing new products or processes, training workers, or investing in new machines. To eliminate
rework and to simplify the accounting, some companies set standard of zero rework. All rework is then treated as abnormal and
written-off as a cost the current period.

C) Accounting for Scrap

Scrap is material left over when making a main or joint product is defined as a product that has minimal (frequently zero) sales value
compared with the sales value of the main or joint product(s). No distinction is made between normal and abnormal scrap because no
cost is attached to scrap attributable to specific job and scrap common to all jobs.

There are two aspects of accounting for scrap:

1. Planning and control, including physical tracking

2. Inventory costing, including when and how it affects net income

Initial entries to scrap records are commonly in physical terms. In various industries, items such as stamped-out metal sheets or edges
of molded plastic parts are quantified by weighing, counting, or some other expedient/convenient means. Scrap measures not only

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help measure efficiency, but they also keep track of scrap and so reduce the chances of theft. In practice, scrap is either sold or
disposed-off quickly, or stored for later sale disposal or reuse.
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Examples are shavings and short lengths from wood working operations, steel edges left over from stamping operations and frayed
cloth and end cuts from suit-making operations.

The following illustrations of accounting for scrap we will be addressing the following two issues:

1. When should the value of scrap be recognized in the accounting records-at the time scrap is produced or at the time scrap is
sold?
2. How should revenues from scrap be accounted for?

To illustrate accounting for spoilage, let’s continue on our illustration in the General Motors Machine Shop example and during the
same year the manufacture of the three jobs: Job-A, Job-B and Job-C, generates scrap with an estimated sales value of $900.

Show the accounting treatment of the scrap if it is recognized:

i. At the time of sale of the scrap

ii. At the time scrap is produced

i. At the time of sale of the scrap

Case-I: Recognizing proceeds from sale of scrap as other income in the income statement.

This approach is preferred when the sales value of the scrap is relatively immaterial. When this condition is satisfied the revenue
generated from sale of the scrap will be treated as other income on the period in which the sale of scrap is made.

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Cash 900   Dr.

Scrap Revenue 900   Cr.
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When the Birr amount of scrap is material and the scrap is sold quickly after it is produced, the accounting treatment depends on
whether the scrap is attributable to specific job or common to all jobs.

Case-II: when the scrap is attributable to specific job:

Sometimes because of the specific nature of the job, some jobs might yield in scrap that could not be traced to any other jobs in
process during a particular period. In such a condition, the revenue generated from sale of the scrap related to the job will be treated as
reduction in the cost of the particular job the scrap is related with.

To illustrate this point, let’s continue our illustration of General Motors example that the value of the scraps generated in 2004 is
$9,000 instead of $900 and the sale of scrap is made immediately after its generation, record the sale of the scrap as of December 31,
2004 assuming that the scrap is related only to Job-C.

Cash 9,000   Dr.

Work in Process – Job-C 9,000   Cr.
The cost of making Job-C can be determined as $91,000 ($100,000 - $9,000) and Cost per unit will be $91,000 ÷ 50 = $1,820. Unlike
spoilage and rework, there is no cost attached to the scrap, and hence no distinction is made between normal and abnormal scrap. If
the scrap is sold after incurring some disposal costs it will be offset against the sales value.

Case-III: when the scrap is common to all jobs:

This method does not link the scrap with any of particular jobs or product. Instead, all products bear production costs without any
credit for scrap revenues except in an indirect manner: the expected scrap revenues are considered when setting the budgeted

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manufacturing overhead cost. Thus, the budgeted overhead rate is lower than it would be if the overhead budget had not been reduced
by the expected scrap revenues. This accounting for scrap is used in both job costing and process costing systems. There will not be
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any journal entry for the return of scrap material but there will be journal entry at the time of sale of the scrap would be:

Cash 9,000   Dr.

Manufacturing Overhead-Control 9,000   Cr.
Assuming no defects of any type in 2004, the scrap revenue allocated to each job as a cost reduction will be $62 ($9,000 ÷ 145). The
cost of making Job-C can be determined as $96,896 [$100,000 - $3,104 (62 X50)] and Cost per unit will be $91,000 ÷ 50 = $1,820.

ii. Recognizing scrap at the time the scrap is produced

In our preceding illustrations we were assuming that scrap returned to the store room is sold quickly and hence is not assigned an
inventory cost figure. Sometimes, as in the case with each of molded plastic parts, the value of scrap is not immaterial, and the time
between storing it and selling or reusing it can be long.

In these situations, the company inventories scrap at a conservative estimate of its net realizable value so that production costs and
related scrap revenues are recognized in the same accounting period. Some companies tend to delay sales of scrap until its market
price is considered attractive. Volatile price fluctuations are typical for scrap metal. In these cases, it is not easy to determine some
‘reasonable inventory value’.

Case-I: when the scrap is attributable to specific job:

When a scrap related to a specific job is returned to store, it will be considered as a cost reduction of the specific job and scrap
materials returned are accounted as unused material returned to store. The journal entry in the General Motors example when the scrap
that is related only with Job-C, conservatively valued at $9,000 is returned to store room, the journal entry would be:

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Material Control 9,000   Dr.

Work in Process-Control-Job-C 9,000   Cr.
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Case-II: when the scrap is common to all jobs:

When the scrap returned is related to all jobs, i.e., the $9,000 scrap is generated from the production of all jobs in process: Job-A, Job-
B and Job-C, the journal entry would be:

Material Control 9,000   Dr.

Manufacturing Overhead-Control 9,000   Cr.
Observe in the previous example that, materials control account is debited in place of cash or accounts receivable because the scrap
material were not sold rather restored in the scrap warehouse. When the scrap is sold in a later date, the journal entry would be:

Cash/Accounts Receivable 9,000   Dr.

Material Control 9,000   Cr.
Case-III: Scrap reused for the production of other jobs:

Scrap is sometimes is reused as direct materials rather than sold as a scrap after return to store. To illustrate assume that the General
Motors Company stored scrap materials valued $10,000 in year 2005 and reused the scrap materials valued $4,000 for the production
of a new job-Job-E, and the remaining scrap is sold to a local customer. The journal entry for the return and reuse as well as selling
part of materials would be as follows:

For return of the scrap material:

Material Control 10,000   Dr.

Manufacturing Overhead-Control 10,000   Cr.
For reuse:
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Work in Process-Job-E 4,000   Dr.

Cash 6,000   Dr.
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Material Control 10,000   Cr.

The accounting for scrap under process costing is like the accounting under job costing, when scrap is common to all jobs because
process costing applies to the manufacturing of masses of identical or similar units.

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