Chapter 2 — Job Order Costing

1. Introduction to Cost Accounting Systems

Definition: Cost Accounting
Cost accounting is part of managerial accounting and involves:
 Measuring, recording, and reporting product costs.
 Integrating accounts directly into the general ledger.
 Using a perpetual inventory system, which continuously updates cost information.
Two Basic Cost Systems
System When Used Cost Assignment Example
Process Cost Used when a large By department or Cereal, petroleum,
System volume of similar process fora specific ice cream
products is period of time(week
manufactured or month)
Job Order Cost Each job or batch has By individual job or Construction, movie
System its own distinguishing batch: Measures production, custom
characteristics to costs for each job furniture
compute cost per job completed – not for
set time periods
2. Job Order Cost System
Purpose
The objective of a job order system is to compute the cost per job — each job has unique
characteristics.
🔹 3. Flow of Costs in Job Order Costing
The physical flow of materials parallels the cost flow:
1. Raw Materials Inventory (RMI) → all materials purchased but not yet used.
2. Work in Process Inventory (WIP) → partially completed goods (materials + labor +
overhead).
3. Finished Goods Inventory (FGI) → completed goods awaiting sale.
4. Cost of Goods Sold (COGS) → goods sold to customers.
🔁 Flow Summary
Raw Materials Used → Work in Process → Finished Goods → Cost of
Goods Sold

Journal Entries Overview:

Stage Debit Credit
Purchase
Raw Materials Inventory Accounts Payable
materials
Assign Work in Process /
Raw Materials
materials Overhead
Work in Process /
Assign labor Factory Labor
Overhead
Apply overhead Work in Process Manufacturing Overhead
Complete job Finished Goods Inventory Work in Process
COGS / Accounts Finished Goods / Sales
Sell goods
Receivable Revenue

🔹 4. Accumulating Manufacturing Costs

Manufacturing costs are grouped into three categories:

A. Raw Material Costs

Example:
Wallace Company purchases:
 2,000 lithium batteries × $5 = $10,000
 800 electronic modules × $40 = $32,000
Total = $42,000
Journal Entry:
Dr Raw Materials Inventory 42,000
Cr Accounts Payable 42,000

B. Factory Labor Costs

Factory labor consists of:
1. Gross earnings of workers
2. Employer payroll taxes
3. Fringe benefits (vacations, pensions, etc.)
Example:
Total factory labor = $32,000
 $27,000 wages payable
 $5,000 payroll taxes payable
Journal Entry:
Dr Factory Labor 32,000
Cr Factory Wages Payable 27,000
Cr Employer Payroll Taxes Payable 5,000

C. Manufacturing Overhead
Overhead = indirect costs related to manufacturing (not direct materials or labor): property taxes,
depreciation, insurance, and repairs related to the manufacturing process
Example Entry:
Dr Manufacturing Overhead 13,800
Cr Utilities Payable 4,800
Cr Prepaid Insurance 2,000
Cr Accounts Payable (repairs) 2,600
Cr Accumulated Depreciation 3,000
Cr Property Taxes Payable 1,400
5. Assigning Manufacturing Costs to Work in Process
After accumulation, costs are assigned to jobs in process.
Work in Process Inventory (WIP)
Job Cost Sheet
 Used to record costs chargeable to specific jobs
 Constitutes subsidiary ledger for work in process account
 Each entry to Work in Process Inventory must be accompanied by a corresponding posting
to one or more job cost sheet

Debits made to Work in Process Inventory
Credits made to
 Raw Materials Inventory
 Factory Labor
 Manufacturing Overhead

Direct Materials
Assigned through a Materials Requisition Slip — authorization to issue materials.
 Direct materials → charged to WIP
 Indirect materials → charged to Overhead
Example:
Used $24,000 of direct and $6,000 of indirect materials.
Dr Work in Process Inventory 24,000
Dr Manufacturing Overhead 6,000
Cr Raw Materials Inventory 30,000

Factory Labor
Assigned through Time Tickets, which record employee, hours worked, and Account and job
charged, Total labor cost.
Example:
Of $32,000 total factory labor:
 $28,000 = direct labor
 $4,000 = indirect labor
Dr Work in Process Inventory 28,000
Dr Manufacturing Overhead 4,000
Cr Factory Labor 32,000

6. Predetermined Overhead Rate (POR)

Because overhead costs cannot be traced directly to each job, they are applied using an
estimated rate, and Relates to production operations as a whole.
Formula

Activity Base can be:

 Direct labor cost
 Direct labor hours
 Machine hours

Journal Entry:
Dr Work in Process Inventory 22,400
Cr Manufacturing Overhead 22,400

7. When Jobs Are Completed

When a job is finished, its cost is transferred from Work in Process to Finished Goods
Inventory.
Example:
Dr Finished Goods Inventory 39,000
Cr Work in Process Inventory 39,000

When the job is sold:

Dr Accounts Receivable 50,000
Cr Sales Revenue 50,000

Dr Cost of Goods Sold 39,000

Cr Finished Goods Inventory 39,000

🔹 8. Job Order Costing for Service Companies

 Many service organizations bill their customers using cost-plus contracts mean that
customer’s bill is sum of costs incurred on job, plus a profit amount that is calculated as a
 percentage of costs incurred, To minimize conflicts with customers and disputes, service
companies that use cost-plus contracts must maintain accurate and up-to-date costing records
Even though service firms don’t hold inventory, they can still use job order costing to track each
project’s cost (e.g., consulting, accounting, hospitals).
Example: Dorm Décor Interior Design Company
1. Supplies used:
Dr Service Contracts in Process 7,000
Dr Operating Overhead 2,000
Cr Supplies 9,000

2. Salaries and wages:

Dr Service Contracts in Process 84,000
Dr Operating Overhead 16,000
Cr Service Salaries and Wages 100,000

3. Apply overhead (50% of direct labor):

Dr Service Contracts in Process 42,000
Cr Operating Overhead 42,000

4. Completion of a contract:
Dr Cost of Completed Service Contracts 34,000
Cr Service Contracts in Process 34,000

Advantages & Disadvantages

Advantages Disadvantages
More precise cost Requires significant data
assignment entry
Better profitability analysis Time-consuming
Useful for estimating future
Needs accurate tracking
jobs

9. Underapplied and Overapplied Overhead

Type Meaning Effect Adjustment
Actual overhead > Applied Not enough overhead assigned Increase (debit)
Underapplied
overhead to jobs COGS
Actual overhead < Applied Too much overhead assigned to Decrease (credit)
Overapplied
overhead jobs COGS
Example (Underapplied $1,400):
Dr Cost of Goods Sold 1,400
Cr Manufacturing Overhead 1,400

Example (Overapplied $2,500):

Dr Manufacturing Overhead 2,500
Cr Cost of Goods Sold 2,500

10. Cost of Goods Manufactured (COGM) Schedule

Wallace Company – January 31, 2020
Item Amount
Direct Materials Used $24,000
Direct Labor $28,000
Overhead Applied $22,400
Total Manufacturing Costs $74,400
Less: Ending WIP $35,400
Cost of Goods Manufactured
$39,000
(COGM)

11. Income Statement Example

Amount
Sales Revenue $50,000
COGS (unadjusted) $39,000
Add: Underapplied
+1,400
Overhead
Adjusted COGS $40,400
Gross Profit $9,600

12. Perpetual Inventory System (Note)

 Continuously updates inventory for:
o Purchases
o Goods used or sold
o Items picked for production
 Ensures up-to-date balances and allows real-time cost tracking.

Final Summary: Flow of Costs

Raw Materials Inventory
↓
Work in Process Inventory
↓
Finished Goods Inventory
↓
Cost of Goods Sold