Manufacturing Cost Terms, Concepts, and

Classifications(a(((A review of background

concepts previously covered in ACCTG 222 or the equivalent.

The Income Statement

Merchandising and manufacturing firms use a

“classified” income statement format:

Sales

Cost of goods sold

Gross margin

Selling and administrative expenses

Operating income

The Income Statement

Merchandising and manufacturing firms use a

“classified” income statement format:

Sales

Cost of goods sold

Gross margin

Selling and administrative expenses

Operating income

Note that the expenses are grouped into product costs and

period costs.

The Income Statement

Cost of goods sold for manufacturers differs only slightly from cost of goods sold for merchandisers.

Merchandising Company

Cost of goods sold: Beg. merchandise inventory 14,200$ + Purchases 234,150 Goods available for sale 248,350$ - Ending merchandise inventory (12,100) = Cost of goods sold 236,250$

The Income Statement

Cost of goods sold for manufacturers differs only slightly from cost of goods sold for merchandisers.

Merchandising Company

Cost of goods sold: Beg. merchandise inventory 14,200$ + Purchases 234,150 Goods available for sale 248,350$ - Ending merchandise inventory (12,100) = Cost of goods sold 236,250$

Classifications of Costs

DirectMaterialDirect

MaterialDirectLaborDirectLabor

ManufacturingOverhead

ManufacturingOverhead

PrimeCost

ConversionCost

Manufacturing costs are oftenclassified as follows:

Selling andAdministrative

Period Costs

Manufacturing Cost Flows

FinishedGoods

Cost of GoodsSold

Selling andAdministrative

ManufacturingOverhead

Work in Process

Direct Labor

Balance Sheet Costs Inventories

Income StatementExpenses

Material Purchases Raw Materials

Work in Process: A Closer Look

Raw Materials

Payroll

Factory Overhead

Direct materials used

Direct labor costs incurred

Manufacturing overhead applied

Work in Process

Cost of goodsCompleted, toFinished Goodsinventory

Manufacturing Overhead: A closer look

Manufacturing Overhead

Actual Overhead

Costsincurred

OverheadApplied toProduction

Any difference represents over- or under-Applied overhead

Applied to Work in Process,Based on a pre-determined

Overhead rate.

Pre-determined overheadRate:

Budgeted total manufacturing OHBudgeted driver level (e.g., DLH)

= Overhead applied per driver unit

Direct materials used $ 1,000

Direct labor cost 2,000

Overhead applied 4,000

Total manufacturing costs $ 7,000

Add: Beginning work-in-process

Less: Ending work-in-process

2,500

1,500

Cost of goods manufactured (completed) $ 8,000

Add: Beginning finished goods 3,000

Less: Ending finished goods 2,000

Cost of goods sold $ 9,000

Cost of Goods Sold, Manufacturing Firm

Sales revenues $ 15,000

Less: Cost of goods sold 9,000

Gross Margin $ 6,000

Less: Selling and administrative expenses 3,000

Operating income (pre-tax) $ 3,000

Gross margin %: $6,000/$15,000 = 40%

Return on sales %: $3,000/$15,000 = 20%

Operating Income Statement, Manufacturing Firm

Cost terminology:

•Product (inventoriable) vs. period costs

•Fixed vs. variable costs

•Gross margin vs. contribution margin

•Direct vs. indirect costs

•Differential costs (and benefits)

•Sunk costs

•Opportunity costs

Opportunity Costs

The potential benefit that is given up when one alternative is selected over another.

Example: If you werenot attending college,you could be earning$65,000 per year. Your opportunity costof attending college for one year is $65,000.

The End

Handout 1 (a): Cost flows

In manufacturing

Handout 1(a) Manufacturing cost flows; disposition of over/under applied overhead

Speedy Company provides the following information for October:

Beginning inventories:

Materials $ 2,000

Work-in-Process $ 4,000

Finished Goods $ 6,000

Materials purchased $12,000

Materials used $10,000

Direct manufacturing labor $12,000

Cost of goods manufactured (completed)* $ 38,000

Cost of Goods Sold* $ 40,000

Actual manufacturing overhead $ 25,200

In addition, you learn that the direct labor wage rate is $30 per hour, and that manufacturing

overhead is allocated at $50 per direct labor hour.

* These costs are measured before any adjustment for over- or under-allocated manufacturing

overhead.

Required: Determine the following amounts:

(a) Direct labor hours during October __________

(b) Manufacturing overhead allocated to production during October (before any

adjustment for over- or under-allocated overhead) $ __________

(c) Under- or over-allocated manufacturing overhead during October $ __________

(d) Speedy’s Cost of Goods Sold for October, if the under- (over-) allocated overhead

is written-off to Cost of Goods Sold $ __________

(e) Speedy’s Cost of Goods Sold for October, if the under- (over-) allocated overhead is prorated based on the ending balances in Work-in-Process, Finished Goods, and Cost of Goods Sold

(d) Speedy’s Cost of Goods Sold for October, if the under- (over-) allocated overhead is

written-off to Cost of Goods Sold $ __________

$ 40,000 + $5,200 = $ 45,200

(e) Speedy’s Cost of Goods Sold for October, if the under- (over-) allocated overhead is prorated based on the ending balances in Work-in-Process, Finished Goods, and Cost of Goods Sold

Account:

Ending balance

Proportion

Allocation

Work in process $ 8,000 8/52 $ 800 Finished goods $ 4,000 4/52 $ 400 Cost of sales $40,000 40/52 $ 4,000 Total $52,000 52/52 $ 5,200

(d) Speedy’s Cost of Goods Sold for October, if the under- (over-) allocated overhead is

written-off to Cost of Goods Sold $ __________

$ 40,000 + $5,200 = $ 45,200

(e) Speedy’s Cost of Goods Sold for October, if the under- (over-) allocated overhead is prorated based on the ending balances in Work-in-Process, Finished Goods, and Cost of Goods Sold

Account:

Ending balance

Proportion

Allocation

Work in process $ 8,000 8/52 $ 800 Finished goods $ 4,000 4/52 $ 400 Cost of sales $40,000 40/52 $ 4,000 Total $52,000 52/52 $ 5,200

Provide journal entries to record the disposition of the under-allocated

overhead for cases (d) and (e) above.

Handout 1 (b): Income Statement

format for manufacturing

firms

Handout 1(b) Manufacturing cost flows; inventory changes and percentage relations Prepare a Statement of Cost of Goods Manufactured (Completed) and a Classified Income Statement based upon the following information: Return on sales 20% Operating income $40,000 Gross margin percent 40% Cost of goods completed $150,000 Finished goods ending inventory $70,000 Change in work-in-process inventory (increase) $50,000 Direct materials used $20,000 Factory overhead (applied at 200% of direct labor) $120,000 Materials purchased $25,000 Materials ending inventory $30,000 Work-in-process ending inventory $65,000

Return on sales 20% Operating income $40,000 Gross margin percent 40% Cost of goods completed $150,000 Finished goods ending inventory $70,000 Change in work-in-process inventory (increase) $50,000 Direct materials used $20,000 Factory overhead (applied at 200% of direct labor) $120,000 Materials purchased $25,000 Materials ending inventory $30,000 Work-in-process ending inventory $65,000

To begin, provide a vertical (percentage) analysis of the income statement, and determine the implied dollar amounts. Given the Cost of Sales amount, show all cost and revenue flows in T-Accounts.

Return on sales 20% Operating income $40,000 Gross margin percent 40% Cost of goods completed $150,000 Finished goods ending inventory $70,000 Change in work-in-process inventory (increase) $50,000 Direct materials used $20,000 Factory overhead (applied at 200% of direct labor) $120,000 Materials purchased $25,000 Materials ending inventory $30,000 Work-in-process ending inventory $65,000

To begin, provide a vertical (percentage) analysis of the income statement, and determine the implied dollar amounts. Given the Cost of Sales amount, show all cost and revenue flows in T-Accounts.

Vertical Analysis Item: % Sales 100 Cost of sales 60 Gross Margin 40 Selling and Admin.

20

Operating income

20

Return on sales 20% Operating income $40,000 Gross margin percent 40% Cost of goods completed $150,000 Finished goods ending inventory $70,000 Change in work-in-process inventory (increase) $50,000 Direct materials used $20,000 Factory overhead (applied at 200% of direct labor) $120,000 Materials purchased $25,000 Materials ending inventory $30,000 Work-in-process ending inventory $65,000

To begin, provide a vertical (percentage) analysis of the income statement, and determine the implied dollar amounts. Given the Cost of Sales amount, show all cost and revenue flows in T-Accounts.

Vertical Analysis Item: % Sales 100 Cost of sales 60 Gross Margin 40 Selling and Admin.

20

Operating income

20

Item: $ Sales $ 200,000 Cost of sales 120,000 Gross Margin 80,000 Selling and Admin.

40,000

Operating income $ 40,000

Return on sales 20% Operating income $40,000 Gross margin percent 40% Cost of goods completed $150,000 Finished goods ending inventory $70,000 Change in work-in-process inventory (increase) $50,000 Direct materials used $20,000 Factory overhead (applied at 200% of direct labor) $120,000 Materials purchased $25,000 Materials ending inventory $30,000 Work-in-process ending inventory $65,000

To begin, provide a vertical (percentage) analysis of the income statement, and determine the implied dollar amounts. Given the Cost of Sales amount, show all cost and revenue flows in T-Accounts.

Vertical Analysis Item: % Sales 100 Cost of sales 60 Gross Margin 40 Selling and Admin.

20

Operating income

20

Item: $ Sales $ 200,000 Cost of sales 120,000 Gross Margin 80,000 Selling and Admin.

40,000

Operating income $ 40,000

Statement of Cost of Goods Manufactured

Direct materials used $ 20,000 Direct labor $ 60,000 Manufacturing overhead $120,000 WIP Inventory, beginning $ 15,000 Total available $215,000 Less: WIP inventory, end $ 65,000 Cost of Goods Manufactured

$150,000

Finished Goods, beginning $ 40,000 Total available $190,000 Less: Finished Goods, end $ 70,000 Cost of sales $120,000

Handout 1 (c): Multiple choice

items re: manufacturing

cost flows

Handout 1(c) Multiple choice, manufacturing cost flows

1. Abel Company's manufacturing overhead is 20% of its total conversion costs. If direct labor is $38,000 and if direct materials are $47,000, the manufacturing overhead is: A. $152,000 B. $11,750 C. $21,250 D. $9,500

Handout 1(c) Multiple choice, manufacturing cost flows

1. Abel Company's manufacturing overhead is 20% of its total conversion costs. If direct labor is $38,000 and if direct materials are $47,000, the manufacturing overhead is: A. $152,000 B. $11,750 C. $21,250 D. $9,500

Labor is 80 % of conversion cost, and overhead is ¼ of

labor.

¼ ($38,000) = $9,500

2. During the month of July, direct labor cost totaled $12,000 and direct labor cost was 30% of prime cost. If total manufacturing costs during July were $86,000, the manufacturing overhead was: A. $46,000 B. $40,000 C. $28,000 D. $74,000

2. During the month of July, direct labor cost totaled $12,000 and direct labor cost was 30% of prime cost. If total manufacturing costs during July were $86,000, the manufacturing overhead was: A. $46,000 B. $40,000 C. $28,000 D. $74,000

Total prime cost is $40,000 ($12,000 / .30), and overhead is $46,000 ($86,000 - $40,000).

3. Using the following data for a recent period, calculate the beginning finished goods inventory:

The beginning finished goods inventory was: A. $24,000 B. $23,000 C. $7,000 D. $12,000

3. Using the following data for a recent period, calculate the beginning finished goods inventory:

The beginning finished goods inventory was: A. $24,000 B. $23,000 C. $7,000 D. $12,000

Cost of sales is $23,000 and cost of goods manufactured is $16,000, so the finished

goods inventory decreased by $7,000. The beginning inventory is $12,000 ($5,000 +

$7,000)

4. The following data are for a recent period's operations:

The cost of goods manufactured was: A. $115,275 B. $284,725 C. $275,275 D. $124,725

4. The following data are for a recent period's operations:

The cost of goods manufactured was: A. $115,275 B. $284,725 C. $275,275 D. $124,725

The finished goods inventory decreased by $4,725, so the cost of goods sold ($280,000) exceeds the cost of goods manufactured by

$4,725;

$280,000 - $4,725 = $275,275.

5. The cost of goods manufactured for October at Toule Manufacturing Corporation was $907,000. The following changes occurred in Toule inventory accounts during October:

What was Toule's cost of goods sold for October? A. $869,000 B. $886,000 C. $928,000 D. $945,000

5. The cost of goods manufactured for October at Toule Manufacturing Corporation was $907,000. The following changes occurred in Toule inventory accounts during October:

What was Toule's cost of goods sold for October? A. $869,000 B. $886,000 C. $928,000 D. $945,000

The cost of goods sold is less than the cost of goods manufactured ($907,000) by $38,000.

$907,000 – 38,000 = $869,000.

6. Last year there was no change in either the raw materials or the work in process beginning and ending inventories. However, finished goods, which had a beginning balance of $25,000, increased by $15,000. If the manufacturing costs incurred totaled $600,000 during the year, the cost of goods available for sale must have been: A. $585,000 B. $600,000 C. $610,000 D. $625,000

6. Last year there was no change in either the raw materials or the work in process beginning and ending inventories. However, finished goods, which had a beginning balance of $25,000, increased by $15,000. If the manufacturing costs incurred totaled $600,000 during the year, the cost of goods available for sale must have been: A. $585,000 B. $600,000 C. $610,000 D. $625,000

Because the work in process did not change,

manufacturing costs incurred equals cost of goods manufactured. Total available for sale equals

beginning inventory ($25,000) plus cost of goods manufactured ($600,000).