[2] Chapter 2: Job-Order Costing: Calculating

Unit Product Costs

Thursday, 20 November 2025 11:33 am

Job-Order Costing—An Overview

A. Reasons Companies Assign Costs

1. Fulfills managerial purposes:
a. Planning
b. Controlling
c. Decision making
(e.g., pricing, profitability analysis)

2. External reporting
a. Determine value of ending inventories
• costs attached to products that have not been sold are included in ending inventories on the
balance sheet

b. Determine cost of goods sold (COGS)

• costs attached to units that have been sold are included in cost of goods sold on the income
statement.

B. Absorption Costing
○ Used for external financial reports...
○ all manufacturing costs, both fixed and variable, are assigned to units of product—units are said to
fully absorb manufacturing costs.

1. All manufacturing costs (DM, DL, MOH) assigned to units of product

2. Nonmanufacturing costs = period costs
3. Used widely due to external reporting requirements

Job-Order Costing—An Example

• Job-order costing
○ Definition of job-order costing:
• "Used in situations where many different products, each with individual and unique features,
are produced each period."
• A costing method used when a company produces many different products, and each product
batch (job) has unique specifications.
• The company tracks costs per job because each order may differ in materials, labor, or
production requirements.

• Costs are traced and allocated to jobs.

• Unit product cost = total job cost ÷ number of units.

EXAMPLE 1: LEVI'S STRAUSS

• A clothing company like Levi Strauss might produce jeans for different types, styles, and sizes. If they
receive an order for 1,000 units of a specific style (e.g., men’s boot-cut blue denim, style A312), that
order is treated as one job.
In a job-order costing system:
1. The company traces direct costs (materials and labor) to that specific job.
2. It allocates overhead costs (factory utilities, maintenance, indirect labor, etc.) to the job.
3. After total job costs are computed, the company divides the total job cost by the number of units in the
job.
This gives the average cost per unit, also called the unit product cost.

EXAMPLE 2: YOST PRECISION MACHINING

• Introduces job-order costing by following one specific job as it moves through the manufacturing process.
The company, Yost Precision Machining, has agreed to produce two experimental metal couplings for
Loops Unlimited, a company that manufactures roller coasters. These couplings are essential because
they connect roller coaster cars—meaning safety and performance depend heavily on them.

• The text reminds us that manufacturing costs fall into three categories:
1. Direct Materials
2. Direct Labor
3. Manufacturing Overhead

• A job-order costing system tracks all three of these costs and assigns them to specific jobs so that a unit
product cost (cost per item) can be determined.
• Then proceeds to explain their meeting:
○ Loops Unlimited wants only two couplings because these are prototypes for a new, high-
performance roller coaster with more speed and extreme movements than normal rides.
○ These two units will be used for testing. If they pass, Yost will likely be chosen to supply all the
couplings for the entire ride—meaning much more business.
○ Yost agreed to produce the two experimental couplings at cost (meaning no profit) just to build a
relationship and secure future business.
○ The controller, Marc, confirms that they can document the costs accurately using their job-order
costing system. Loops Unlimited will pay Yost exactly the unit product cost for each of the two
prototype couplings.
This setup allows the textbook to demonstrate how a real company uses job-order costing to track
materials, labor, and overhead and calculate the final unit cost.

• Measuring Direct Materials Cost

○ Definition of direct materials cost
• is measured and recorded in a job-order costing system

• bill of materials
• "A document that lists the quantity of each type of direct material needed to complete a
unit of product"
• Document specifying Direct Materials quantity per unit.

• production order
• When an agreement has been reached with the customer concerning the quantities,
prices, and shipment date for the order.

• Materials requestion form

 • "a document that specifies the type and quantity of materials to be drawn from the
storeroom and identifies the job that will be charged for the cost of the materials."
• A form used to request materials from the storeroom. It tells what materials are needed,
how many, and which job the materials will be used for.
• Used to control the flow of materials into production and also for making journal entries in
the accounting records

Materials Requisition Form example from the book:

• Job Cost Sheet

○ "After a production order has been issued, the Accounting Department’s job-order costing software
system automatically generates a job cost sheet"
○ "After direct materials are issued, the cost of these materials are automatically recorded on the job
cost sheet."
• Job cost sheet
• Records the materials, labor, and manufacturing overhead costs charged to that job

Job cost sheet example in the book:

• Measuring Direct Labor Cost
○ Direct labor is the work done by employees that can be directly traced to a specific job.
○ Manufacturing overhead if not direct labor like:
• cannot be tied to one specific job—such as cleaning, maintaining machines, or supervising (are
classified as indirect labor, which becomes part of manufacturing overhead)

• Time tickets
• A daily record showing what job an employee worked on and for how long.
• This is to keep track of direct labor accurately.
• Companies use digital systems with bar codes to record their information automatically:
1. Each employee has a bar-code ID.
2. Each job has its own bar code.
3. When an employee begins work on a job, they scan:
▪ a “task start” bar code
▪ their employee badge
▪ the job’s bar code
4. When finished, they scan “task complete” plus their badge and the job again.
▪ The computer records the time spent and automatically calculates labor cost.
• Direct labor cost is posted to that job’s job cost sheet.
• Indirect labor cost (e.g., maintenance) goes into manufacturing overhead,
not the job cost sheet.
EXAMPLE 1:
• the time ticket shows:
○ $90 of direct labor for Job 2B47 → added to the job’s cost
○ $18 of indirect labor for maintenance → goes to overhead, not to the
job

Employee Time Ticket example from the book

• Computing Predetermined Overhead Rates

• In job-order costing, each job needs to include manufacturing overhead (MOH) as part of its cost, along
with direct materials and direct labor. But overhead is hard to assign to specific jobs, because:
1. Manufacturing Overhead is an indirect cost.
• Can’t trace things like factory rent, supervisor salaries, or machine maintenance to one specific
job.
2. Manufacturing Overhead is a mix of many types of costs.
• Some MOH is variable (changes with production, like indirect materials or power).
Some MOH is fixed (does not change with production, like factory rent, insurance, property
taxes).
3. Fixed manufacturing overhead stays the same even when production changes.
• If computing manufacturing overhead cost per unit after production is done, the cost per unit
would jump up and down depending on how many units were made in that period.

**Companies instead allocate to assign overhead costs to products and to spread overhead across jobs
based on something measurable

• Allocation base
• "A measure such as direct labor hours (DLH) or machine-hours (MH) that is used to assign
overhead costs to products and services."
• allocation bases in manufacturing:
○ Direct labor hours
○ Direct labor cost
○ Machine-hours
○ Units produced (only if one product is made)

• Predetermined overhead rate

• "Is computed before the period begins using a four-step process."
○ Companies calculate a predetermined overhead rate before the period begins. This
rate allows them to apply overhead to jobs as they are worked on.
• computed by dividing:

Predetermined overhead rate =

Steps in computing:
1. Estimate the total amount of the allocation base (the denominator) that will be
required for next period’s estimated level of production.
i. done first because total manufacturing overhead cost includes variable overhead
costs that depend on the amount of the allocation base.

2. Estimate the total fixed manufacturing overhead cost for the coming period and the
variable manufacturing overhead cost per unit of the allocation base

3. Use the cost formula to estimate the total manufacturing overhead cost (the
numerator) for the coming period:

Formula: Y = a + bX

• where,
○ Y = The estimated total manufacturing overhead cost
○ a = The estimated total fixed manufacturing overhead cost
○ b = The estimated variable manufacturing overhead cost per unit of the allocation
base
 ○ X = The estimated total amount of the allocation base

• If there is more than on production department, them each dept may have a different
variable MOH cost per unit of the allocation base.
○ The formula: Y = a + bX (applied to each dept. Separately)

4. Compute the predetermined overhead rate.

• Applying Manufacturing Overhead

○ Once a company has computed its predetermined overhead rate (POHR) before the year begins, it
uses that rate to assign overhead costs to each job throughout the year.

• overhead application
• "The process of assigning overhead cost."
• Formula for determining the amount of overhead cost to apply to a particular job is:

EXAMPLE 1:
• If the predetermined overhead rate is $20 per direct labor-hour, then $20 of overhead
cost is applied to a job for each direct labor-hour incurred on the job. When the allocation
base is direct labor-hours, the formula becomes:

• The overhead applied to a job is not the actual overhead the job used.
• Actual overhead (electricity, factory rent, maintenance) cannot be traced to each job, so
companies spread overhead across jobs using the predetermined rate.
• It would be a direct cost if overhead could be traced directly.

• Normal costing
• An overhead application, this overhead assigned to the job is simply a share of the total
overhead that was estimated at the beginning of the year.

• Normal cost system

• Applies overhead costs to jobs by multiplying a predetermined overhead rate by the actual
amount of the allocation base incurred by the jobs.

A normal cost system uses:

• Actual usage of the allocation base (e.g., actual labor hours)
• Predetermined overhead rate (estimated before the year begins)

So you multiply:
• Actual base × estimated rate
• Manufacturing Overhead—A Closer Look
○ In the book, shows how a company calculates and uses a predetermined overhead rate (POHR) using
real numbers from Yost Precision Machining.

EXAMPLE: Yost Precision Machining

Steps:
1. The company predicts how much of the allocation base (direct labor-hours) it will need for
the coming year

• Estimated direct labor-hours = 40,000 DLHs

○ This becomes the denominator in the POHR (predetermined overhead rate) later.

2. Estimate the manufacturing overhead costs

○ Manufacturing overhead has two parts:
▪ Fixed overhead
• does not vary with activity
• estimated at $640,000
▪ Variable overhead
• changes with activity
• $4.00 per direct labor-hour
○ Now we know:
▪ Fixed OH = $640,000
▪ Variable OH per DLH = $4
▪ Estimated DLHs = 40,000

3. Compute total estimated overhead using the cost formula

The formula is: 𝑌 = 𝑎 + 𝑏𝑋
Where:
▪ Y = estimated total manufacturing overhead
▪ a = fixed overhead ($640,000)
▪ b = variable overhead rate ($4 per DLH)
▪ X = activity level (40,000 DLHs)

Substitue in the numbers:

Y=640,000 + (4 × 40,000)
Y=640,000 + 160,000 = 800,000

So the company expects $800,000 total overhead costs for the year

4. Compute the predetermined overhead rate (POHR)

Predetermined overhead rate =

• Predetermined overhead rate = $20 per direct labor-hour

• This means, for every 1 direct labor-hour used on a job, the company applies $20 of
overhead cost.
 Applying Overhead to a Job (Job 2B47)
The job cost sheet shows:
• Job 2B47 used 27 direct labor-hours

• Use the formula:

Overhead applied = POHR × Actual DLHs

= 20 × 27 = 540

• $540 of manufacturing overhead is assigned to Job 2B47

A Completed Job Cost Sheet example

NOTE:
○ Chapter 2 is based on normal costing/normal cost system
• Assigns actual direct materials and direct labor costs to jobs; however, it does not assign actual
overhead costs to jobs.
• Many companies use normal cost systems; however, companies can also use other types of
cost systems, such as actual costing and standard costing.
• The Need for a Predetermined Rate
○ Question: Why not use actual overhead costs and actual activity (like actual labor-hours) instead of
predetermined rate based on estimates?

○ Factors:
1. Monthly or quarterly actual rates fluctuate too much
• If actual overhead rates are recalculated every month or every quarter, they jump up and down
because of seasonal changes in costs.

Example:
• In Illinois, factory heating costs are high in winter.
• Cooling costs are high in summer.
• Spring and fall are mild → costs are low.
○ If overhead were calculated monthly:
▪ Winter → overhead rate would increase
▪ Summer → overhead rate would increase
▪ Spring/Fall → overhead rate would decrease

• The consequence: two identical jobs would get different overhead costs simply because
they were done in different months—not because they actually used different resources.
• This makes product costing:
▪ inconsistent
▪ misleading
▪ hard to compare
• Managers consider these seasonal fluctuations useless and confusing.

2. If we compute the rate once a year using actual data, we must wait until year-end
• If avoiding the monthly fluctuations and compute one annual actual rate, then managers must
wait until:
• actual overhead costs for the whole year are known.
• actual allocation base for the whole year is known.
(This information is only available at year-end)

• The result: Jobs completed earlier in the year won't have a known final cost until December.

EXAMPLE:
• Job 2B47 is finished and shipped in March
○ But actual overhead for the whole year won’t be known until December
○ So it is hard to know its total cost until December
• This is impractical because:
○ bill customers properly
○ evaluate profits
○ manage costs during the year
○ financial reporting becomes difficult
• Companies can’t wait that long.

• Computation of Total Job Costs and Unit Product Costs

○ Talks about: how total job cost and unit product cost are computed, why the unit cost is an average,
and why accurate job costing matters for managerial decisions.

1. Completing the Job Cost Sheet

• Once overhead has been applied (Yost applied $540 to Job 2B47), the last steps are:
Step 1: Add up the three manufacturing cost components
• A job’s total manufacturing cost =
○ Direct materials
○ Direct labor
○ Manufacturing overhead applied
• These are summarized in the Cost Summary section.

Step 2: Compute total job cost

• For Job 2B47:
• Total cost = $2,390
(Direct materials + Direct labor + Applied overhead)

Step 3: Compute unit product cost

• If the job produced 2 units, then:
Unit product cost= Total job cost ÷ number of unit = 2.390 ÷ 2 = 1,950
Unit cost = $1,195 per unit

2. Why the Unit Product Cost Is an Average

• The book emphasizes that unit cost = average cost, but:
• It is NOT the cost of producing one more unit.
• This is because most overhead costs are fixed (e.g., factory rent, supervisor salary).

If Yost produced a 3rd unit:

• It would not require another $1,195
• The additional (incremental) cost would be much lower, probably just materials + labor + a
small variable overhead portion

Therefore:
• Unit cost is used for reporting and pricing
• Incremental cost is used for decision-making
They are different.

3. How Managers Use Job Cost Information

• Job cost sheets help managers plan and make decisions:

1. Planning future production and sales

• If certain job types have high profit, managers may invest more in selling those.
• If others show low profit, managers may reduce focus.

2. Pricing decisions
• Companies often use cost-plus pricing:
 Example:
If Job A costs $100, and the markup is 50%,
Selling price = $100 + ($100 × 50%) = $150
• Managers rely on accurate job costs to set prices that:
○ cover manufacturing cost
○ cover nonmanufacturing cost
○ produce profit

4. The Importance of Accurate Job Costing

• If job costs are inaccurate, managers may:
• push advertising toward jobs that seem profitable but aren’t
• avoid jobs that seem unprofitable but are actually good
• set selling prices too high (lose customers)
• set selling prices too low (lose profit)
• This creates a distorted decisions that harm the company.

5. Where Errors Usually Come From: Manufacturing Overhead

• The passage highlights a key issue:
• Direct materials → traced accurately
• Direct labor → traced accurately
• Manufacturing overhead → hard to allocate correctly
○ Overhead is indirect and must be allocated, not directly measured.
○ If the company chooses:
▪ the wrong allocation base
▪ a poorly estimated overhead rate
…then the job costs will be distorted.
This is the root of many job-order costing problems

Job-Order Costing—A Managerial Perspective

• Choosing an Allocation Base—A Key to Job Cost Accuracy

1. Managers use job-order costing to make decisions:

• In job-order costing, each job (a specific order, project, or batch) has its own cost record. Managers look
at these job costs to:
○ Plan for the future (what products to promote or reduce)
○ Decide prices
○ Assess profitability

2. Job profits guide future plans.

• If some jobs appear profitable—for example, low-volume jobs that require a lot of engineering—
managers may decide:
1. “Let’s advertise these more.”
2. “Let’s produce more of these next year.”
• If some jobs appear unprofitable—like high-volume, labor-intensive jobs—they might:
 1. Reduce production
2. Reduce marketing for those jobs

3. Job costs also help managers set selling prices.

• Managers often use cost-plus pricing, which means:
1. Find the job’s cost (example: $100)
2. Apply a markup percentage (example: 50%)
3. Selling price = cost + markup = $100 + $50 = $150
• The markup is meant to:
○ Cover manufacturing costs
○ Help pay for nonmanufacturing costs (administrative, selling)
○ Provide profit

4. But this only works if the job costs are accurate.

• If the cost assigned to each job is wrong, managers will:
○ Promote the wrong products
○ Set prices that are too high or too low
○ Misinterpret which jobs are profitable
Example:
○ A job looks profitable but actually isn’t = company wastes money advertising it.
○ A job looks unprofitable but is actually profitable = company fails to take advantage.

5. Where do mistakes usually happen?

• Job-order costing accurately measures (both easy to trace):
○ Direct materials
○ Direct labor
• But it often misallocates manufacturing overhead (indirect costs). These include:
○ Factory rent
○ Utilities
○ Depreciation
○ Supervisor salaries

These costs cannot be traced to one specific job, so companies must allocate (spread) them using an
allocation base (e.g., labor hours, machine hours).
If the company uses the wrong allocation base, the overhead assigned to each job will be wrong.

In a nutshell:
○ Job-order costing helps managers plan and price products.
○ But if overhead costs are assigned incorrectly, job costs become distorted—leading to bad decisions.

EXAMPLE: The Pizza Example

• Given: You and three friends buy a $20 pizza:

○ Friend 1 eats 5 slices
○ Two friends eat 2 slices each
 ○ You eat 1 slice

Method 1: Split by number of people (bad allocation base)

○ Everyone pays $5 (= $20 ÷ 4 people)
○ But you only ate 1 slice, and you’re paying the same as someone who ate 5 slices.
• This is unfair and inaccurate.

Method 2: Split by slices eaten (good allocation base)

○ Everyone pays $2 per slice
• Friend 1: 5 slices × $2 = $10
• Friends 2 & 3: 2 slices × $2 = $4 each
• You: 1 slice × $2 = $2
• This is fair because the cost is based on actual consumption.

How the Pizza Thing Relates to Job-Order Costing

• In factories, the “pizza slices” are overhead resources since it covers:
○ Machine electricity
○ Factory rent
○ Maintenance
○ Supervisor salaries

• But many companies allocate overhead using a single base like:

○ Direct labor-hours, or
○ Direct labor cost
This is like splitting the pizza bill equally instead of by slices eaten.
If a job barely uses labor-hours but uses a lot of machine time, yet overhead is allocated based on labor-
hours, the job will receive the wrong cost.
○ This causes distorted job costs.

• Cost-driver case (causes overhead costs):

• Examples:
○ Machine-hours → drives machine maintenance & electricity
○ Beds occupied → drives hospital overhead
○ Flight-hours → drives airline fuel and maintenance
○ Computer time → drives server costs

If the company chooses the wrong driver, overhead is assigned inaccurately.

• Many companies use only one cost driver, usually:

○ Direct labor-hours, which leads to inaccurate job costing
○ But modern factories include machines that do the more work & workers might do less manual
labor
• So direct labor-hours don’t accurately reflect how overhead is consumed.

• Plantwide overhead rate

○ "a single predetermined overhead rate"
○ "Use to allocate all manufacturing overhead costs to jobs based on their usage of direct labour-
hours."
 ○ This is an overhead rate in which the entire factory uses one predetermined overhead rate—usually
based on:
• Direct labor-hours, or
• Direct labor cost, or
• Machine hours

• Multiple Overhead Rates

• When companies identify more than one overhead cost driver, they can create multiple overhead rates.

Example:
○ Machine-related overhead → allocated using machine-hours
○ Labor-related overhead → allocated using labor-hours
○ Setup-related overhead → allocated using number of setups

Using multiple cost drivers makes job costs far more accurate.

Job-Order Costing Using Multiple Predetermined Overhead Rates

• Multiple Predetermined Overhead Rates—A Departmental Approach

Multiple predetermined overhead rates

• Instead of using one rate for the whole plant, a company can use separate predetermined overhead rates
for each production department.
• Every department is different:
○ Some departments rely heavily on workers → labor-intensive
○ Other departments rely mostly on machines → machine-intensive

EXAMPLE: Very Simple Company

• Factory has 2 departments:

1. Cutting Department
○ Uses many machines
○ Overhead is driven mainly by machine-hours
• So overhead here should be applied using machine-hours
(e.g., $20 per machine-hour)

2. Assembly Department
○ Mostly uses labor (workers doing manual assembly)
○ Overhead is driven mainly by labor-hours
• So overhead should be applied using direct labor-hours
(e.g., $15 per labor-hour)

This method is better because it assigns overhead based on how each department actually uses
resources. This leads to:
○ More accurate job costs
○ Better pricing
 ○ Better decisions
○ Less cost distortion

EXAMPLE: Dickinson Company

The company:
• Milling Department uses machine-hours to apply overhead
• Assembly Department uses labor-hours to apply overhead
○ This matches how each department actually consumes overhead.
○ Because depts. Behave differently, using multiple overhead rates is necessary for precise calculation
of job costs.

5 (Five) -Step Process

1. Estimate Total Manufacturing Overhead (MOH) in Each Department
Use the formula:
Y = a + bX
Where:
a = fixed overhead
bX = variable overhead (b = VOH rate, X = total activity)

• Milling Department
• Fixed OH = $390,000
• Variable OH = $2 × 60,000 machine-hours = $120,000
• Total OH = $510,000

• Assembly Department
• Fixed OH = $500,000
• Variable OH = $3.75 × 80,000 labor hours = $300,000
• Total OH = $800,000

2. Compute Predetermined Overhead Rate for Each Department

POHR = Estimated total Overhead rate ÷ Estimated total activity

Milling: 510,000 ÷ 60,000 machine-hours = 8.50 per MH

Assembly: 800,000 ÷ 80,000 labor-hours = 10.00 per DLH

3. Apply Overhead to Job 407

Applied OH = POHR × Actual activity used by job

Milling
• Job 407 used 90 machine-hours
• 8.50 x 90 = 765
 Assembly
• Job 407 used 20 labor-hours
• 10 × 20 = 200

So Job 407 receives:

• $765 overhead from Milling
• $200 overhead from Assembly

4. Compute the Total Cost of Job407

○ Add:
• Direct materials
• Direct labor
• Applied overhead (from both departments)
○ Milling:
• DM = $800
• DL = $70
• OH = $765
○ Assembly:
• DM = $370
• DL = $280
• OH = $200

Total Job Cost:

800 + 70 + 765 + 370 + 280 + 200 = 2,485

5. Compute the Selling Price

• Company uses cost-plus pricing with a 75% markup on total manufacturing cost:

Markup: 2,485 × 0.75 = 1,863.75

Selling price: 2,485 + 1,863.75 = 4,348.75

PURPOSE:
• Using two different departmental overhead rates gives a more accurate job cost because it reflects:
○ Milling overhead driven by machine use
○ Assembly overhead driven by labor use
• If the company used:
○ a plantwide rate based only on labor-hours or a plantwide rate based only on machine-hours
○ So, departmental rates = more accurate costing = better decisions.

• Multiple Predetermined Overhead Rates—An Activity-Based Approach

Activity-based costing
○ "When a company creates overhead rates based on the activities that it performs, it is employing an
approach"
 ○ Instead of just making one rate per department, companies can create overhead rates for the
specific activities that cause overhead costs.
• ABC creates:
• A separate cost pool for each major activity
• A separate allocation base for each activity
• A separate overhead rate for each activity

Because even within a single department:

• Many different activities happen
• Each activity consumes overhead differently
Examples of activities within the same department:
○ Machine setup
○ Quality inspection
○ Material handling
○ Machine processing
○ Order picking
Each of these activities drives different overhead costs.

Comparison of Plantwide, Departmental, and Activity-Based Costing (with Examples)

Feature / Plantwide Overhead Rate Departmental Overhead Rates Activity-Based Costing (ABC)
Method
Number of 1 single rate for the entire One rate per department Many rates (one per activity)
Overhead plant
Rates

Allocation Only one (e.g., direct labor- Different base per department (e.g., DLH Multiple activity cost drivers (e.g., setups,
Base Used hours or machine-hours) in Assembly, MH in Machining) inspections, machine-hours, order processing)

Accuracy Low Medium High

Complexity Very simple Moderate Complex

Cost to Low Medium High

Implement

Best For Simple production processes Companies with clear departmental Companies with diverse products and many
and similar products differences in processes overhead-causing activities
Strengths Easy, fast, low cost More accurate than plantwide; Most accurate; matches overhead to activities
recognizes department differences used

Weaknesses Can distort costs if products Still oversimplifies if departments Time-consuming and costly to maintain
use resources differently perform multiple activities

Example Small print shop using mostly Factory with Machining Dept (machine- Electronics factory with many activities (setups,
Situation labor → uses one PLANTWIDE hours) and Assembly Dept (labor-hours) testing, engineering changes) → uses separate
rate based on DLH → uses one rate per department rates for each activity
Example One rate: $500,000 MOH ÷ Machining Dept: $300,000 ÷ 6,000 MH = Setups: $100,000 ÷ 500 setups = $200/setup;
Calculation 10,000 DLH = $50/DLH $50/MH; Assembly Dept: $200,000 ÷ Testing: $150,000 ÷ 3,000 test-hours = $50/hr
4,000 DLH = $50/DLH

Typical Users Small manufacturing shops Medium-sized manufacturers with Large or complex manufacturers with varied
distinct departments processes

Job-Order Costing—An External Reporting Perspective

• Overhead Application and the Income Statement
○ Companies often use predetermined overhead rates to assign manufacturing overhead to jobs.
○ Predetermined Overhead Rate (POHR) is calculated before the period begins and is used to estimate
overhead costs for each job.
○ NOTE: The overhead applied using POHR usually differs from actual overhead costs incurred.

Underapplied Overhead Overapplied Head

• Occurs when the applied overhead is less than the • Occurs when the applied overhead is more than the
actual overhead incurred. actual overhead incurred.

• Example:
• Example:
Applied = $95,000; Actual = $100,000
Underapplied = $5,000 Applied = $105,000; Actual = $100,000
Overapplied = $5,000

Impact on the Income Statement

• Over- or underapplied overhead must be adjusted in the financial statements, specifically in the Cost of
Goods Sold (COGS):

1. Underapplied Overhead:
• Increase COGS = Decreases Net Operating Income

2. Overapplied Overhead:
• Decrease COGS = Increases Net Operating Income

Overhead Type Applied vs. Actual Effect on COGS Effect on Net Income
Underapplied Applied < Actual Increase Decrease
Overapplied Applied > Actual Decrease Increase

• Job Cost Sheets: A Subsidiary Ledger

RECALL:
job cost sheet
○ a detailed record that accumulates all costs for a specific job:
• Direct materials
• Direct labor
• Manufacturing overhead
 ○ Each job cost sheet shows the total product cost for that job.

Subsidiary ledger
○ When all job cost sheets are collected together
○ This ledger supports the balances reported on the financial statements:
• Work-in-Process (WIP)
• Finished Goods (FG)
• Cost of Goods Sold (COGS)

TO SUMMARIZE: Job cost sheets explain what specific jobs make up the amounts reported on the balance
sheet and income statement.

EXAMPLE: DIXON COMPANY

• Six jobs (A–F) with the following costs (in thousands):

Job status at month-end:

• Incomplete: Jobs A and B → part of Work-in-Process
• Finished but unsold: Job C → part of Finished Goods
• Finished and sold: Jobs D, E, F → Cost of Goods Sold

Link to Financial Statements:

• The costs on the job cost sheets directly flow into financial statements.
• WIP shows costs of jobs still in production.
• Finished Goods shows completed but unsold jobs.
• COGS shows the cost of jobs that were sold.

Job-Order Costing in Service Companies

• The basic principle is the same: costs are accumulated for each individual “job” or client FOR SERVICE
COMPANIES too.
 • How Jobs Are Defined in Service Companies
○ Each client or project is treated as a job.
• Example sectors:
• Law firms: Each client’s case = one job
• Movie studios: Each film = one job
• Hospitals: Each patient treatment or procedure = one job
• Repair shops: Each repair order = one job

Cost Categories in Service Job

Cost Type Example in Services Analogy to Manufacturing

• Direct Materials Legal forms, props, costumes, medical supplies Raw materials used in products
Direct Labor Attorneys’ time, actors, doctors, technicians Factory labor directly on products
Overhead Secretaries, office rent, utilities, equipment depreciation Indirect manufacturing costs

• Direct materials: Supplies used specifically for a client/project.

• Direct labor: Time spent by professionals directly on that job.
• Overhead: Shared costs that cannot be traced to one specific job but are necessary for operations.

SUMMARIZE:
• Job-order costing is versatile: It can track costs for any organization handling unique jobs or projects.
• The system allows service companies to:
○ Determine the cost of each client or project
○ Set appropriate prices or fees
○ Monitor profitability of each job