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Chapter 4
Accumulating and
Assigning Costs to
Products
QUESTIONS
4-1 The cost of the raw materials entered into production is moved from the raw
materials account to the work-in-process inventory account. The cost of
manufacturing labor and overhead items are assigned to production by adding
them to the work-in-process inventory account. Overhead costs are assigned
(or allocated or apportioned) as determined by the cost system. When
manufacturing is completed, work is transferred to finished goods inventory,
and costs are moved from the work-in-process inventory account to the
finished goods inventory account. Finally, when goods are sold their costs are
moved from the finished goods inventory account to cost of goods sold.
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4-3 A cost object is anything for which a cost is computed. Examples of cost
objects are activities, products, product lines, customers, patients,
departments, or even entire organizations.
4-4 The defining characteristic of a consumable (flexible) resource is that its cost
depends on the amount of resource that is used. Examples of consumable
resources are wood in a furniture factory, fabric in a clothing factory, and iron
ore in a steel mill. The cost of a consumable resource is often called a
variable cost because the total cost depends on how much of the resource is
consumed. The contrasting defining characteristic of a capacity-related
resource is that its cost depends on the amount of resource capacity that is
acquired and not on how much of the capacity is used. As the size of a
proposed factory or warehouse increases, the associated capacity-related cost
will increase. Examples of capacity-related costs are depreciation on
production equipment (the capacity-related resource) and salaries paid to
employees (the capacity-related resource) in a consultancy. The cost of a
capacity-related resource is often called a fixed cost because the cost of the
resource is independent of how much of the resource is used.
4-5 Direct and indirect costs are specified in relation to distinct cost objects. A
direct cost is a cost that is uniquely and unequivocally attributable to a single
cost object. If the cost fails the test of being direct it is classified as indirect
with respect to the designated cost object. For example, if the cost object is a
unit of product, then direct material (e.g., wood, steel) and direct labor are
direct costs, and manufacturing overhead costs (e.g., factory rent,
supervisors salaries) are indirect costs. However, if a department within a
plant is the chosen cost object, then the department managers salary is a
direct cost for the department (assuming the manager only manages that
department) and the cost of heat for the plant is an indirect cost.
4-6 From the time of the Industrial Revolution until the early 20th century,
manufacturing operations were mainly labor paced and direct costs comprised
the majority of product costs. Since then indirect costs in the form of
automation have gradually replaced labor costs and, for many products, are
now the major component of total product costs. This increased use of
indirect costs in manufacturing has increased the need for costing systems to
deal adequately with indirect manufacturing costs.
4-7 In the context of computing a predetermined indirect cost rate, a cost driver is
the basis used to allocate indirect costs to production. Once the cost driver is
chosen, cost analysts divide expected indirect factory costs by the number of
cost driver units to compute the predetermined indirect cost rate. Cost
analysts try to choose a cost driver that best explains the long-run behavior of
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4-9 Costs need to be estimated for individual jobs in order to bid for them and to
price them competitively. Costs may differ across individual jobs because
jobs may differ in their materials content, the hours of labor required to
manufacture them, and in the demand they place on capacity-related
resources. Estimated costs are also useful for comparison with actual costs
for management control purposes.
4-10 Indirect cost rates (also called predetermined indirect cost rates,
predetermined overhead rates, or cost driver rates) are determined by dividing
expected indirect factory costs by the number of cost driver units.
4-11 Overhead cost for a job is estimated by multiplying the cost driver rate(s) by
the number of units of the cost driver(s) associated with the job.
4-12 Indirect cost pools collect overhead costs into separate groups, for each of
which a separate cost driver rate is associated.
4-13 Most organizations use multiple indirect cost pools in order to improve
costing. Cost distortions arise when an indirect cost pool includes costs with
different cost drivers and where different products use the capacities
underlying the indirect costs differentially. (The increase in measurement
costs for a more detailed cost system, however, must be traded off against the
benefit of increased accuracy in estimating product costs.)
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4-15 Unlike direct material costs and direct labor costs, overhead costs cannot be
traced easily to each job. When actual costs are recorded for a job during the
course of a fiscal period, the total overhead costs for the period and
consequently, the actual cost driver rate is not yet determined. Therefore,
costs are applied to jobs using predetermined rates.
4-16 Yes. A separate cost driver rate should be determined for each cost pool when
multiple cost drivers (where cost driver refers to a cause of costs, as
discussed in Chapter 3) are involved, or else job cost estimates may be
distorted. The increase in measurement costs for a more detailed cost system,
however, must be traded off against the benefit of increased accuracy in
estimating product costs. Though not covered in the textbook, students may
note that if the different cost drivers vary together in the same proportion (for
example, if machine hours and direct labors hours are used in the same
proportions as the total number of units increases), then any one of them will
be sufficient.
4-17 The three options for dealing with the difference between actual and applied
capacity (overhead) costs are: (1) Charge the difference to cost of goods sold;
(2) Prorate the difference to work in process, finished goods, and cost of goods
sold; (3) Decompose the difference into two parts: the difference between
actual and budgeted indirect costs, and the difference between budgeted and
applied indirect costs.
4-18 Computing the cost driver rate by using the planned level of the cost driver
will result in rates that are too high in periods of low demand and that are too
low in periods of high demand. If management uses cost-plus pricing, a death
spiral can result, as follows. If expected demand goes down, the cost driver
rate will increase, causing the cost-plus price to increase. Increasing prices
cause demand to fall, which leads to further price increases as the cost driver
rate increases the cost-plus price. This cycle can continue until there is no
further demand, hence the term death spiral.
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4-20 Conversion costs are the costs of converting raw materials into finished
products. They include all manufacturing costs that are not direct materials
costs; that is, conversion costs consist of production labor and factory
overhead costs.
4-21 Continuous processing plants are characterized by the fact that production
flows continuously, semi-continuously, or in large batches from one process
stage to the next. At each successive process stage, further progress is made
toward converting the raw materials into finished products. Therefore, the
product costing system must accumulate conversion costs assigned to
individual products for successive process stages. Product costs must also
reflect the input materials in each process stage.
The total cost of all products is determined by adding up all material and
conversion costs used to produce the products and then dividing by the
number of products produced to get a cost per unit. More specifically, the
steps are:
1. Identify the physical flow of units
2. Compute the equivalent units for materials and conversion costs
3. Identify the costs of materials and conversion costs
4. Compute the cost per equivalent unit.
4-22 Multistage process costing systems have the same objective as job order
costing systems. Both types of systems assign material, labor, and
manufacturing overhead costs to products to determine product costs. The
two types of systems differ, however, on some dimensions. In a job order
environment, production requirements vary across different jobs, so
production occurs job by job and costs are measured for individual jobs. In a
multistage process environment, production requirements are homogeneous
across products or jobs, so production occurs continuously, semi-
continuously, or in large batches, and costs are measured for individual
process stages.
4-23 Production departments are those directly responsible for transforming raw
materials into finished products or for providing services for customers.
Service departments do not directly produce goods or services for customers,
but instead provide services to the departments or activities that produce
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EXERCISES
4-24 (a) Famous Flanges previous cost driver rate was $4,000,000 100,000 = $40 per
machine hour. With the drop in demand, the cost driver rate is now
$4,000,000 80,000 = $50 per machine hour. The company will consequently
raise its prices because the products will have higher reported costs. If demand
decreases further and the company continues to use the same method to
determine its cost driver rate, the rate will continue to increase, and the
company will want to raise its prices even more. However, the rising
prices may contribute to further declines in demand, leading the company
into a downward spiral.
(b)Famous Flange should use the practical capacity quantity of machine hours
to determine the cost driver rate in order to avoid the fluctuations
described in part (a) and to understand the cost driver rates at the point
where the cost of the resources provided (the numerator) is matched with
the practical capacity usage provided (the denominator). If resource usage
is less than practical capacity, the company should monitor the cost of
unused capacity. Famous Flange may be able to reduce the capacity costs
or to find other profitable uses for the capacity.
4-25 The practical capacity number of machine hours per month is (6.5 hours per
shift) (2 shifts per day) (22 days per month) (40 machines) = 11,440.
4-26 The practical capacity number of labor hours per year is (34 hours per worker
per week) (30 workers per shift) (2 shifts per day) (48 weeks per year)
= 97,920.
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$5,000,000
$2,500,000 direct labor cost
2 direct labor cost
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(b)
Machining Finishing
Department Department Total
Direct materials cost $8,000 $1,400 $9,400
Direct labor cost 250 800 1,050
Manufacturing overhead 1,250a 640b 1,890
Total costs of Job 101 $9,500 $2,840 $12,340
a
$1,250 = $25 50
b
$640 = 80% of 800
$60,000
4,000 direct labor hours
$15 per direct labor hour
Cutting Department:
$25,000
4,000 machine hours
$6.25 per machine hour
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Assembly Department:
$35,000
3,000 direct labor hours
$11.67 per direct labor hour
(c) The company may favor the method in (b) if overhead costs in the
cutting department have a cause-and-effect relationship with machine
hours, while those in the assembly department have a cause-and-effect
relationship with direct labor hours. The company may use the method
in (a) because it is simpler than the method in (b), which is potentially
more accurate.
(b) The cost driver rate should be determined as the ratio of the estimated
cost accumulated in the cost pool to the practical capacity of the cost
driver (the basis for assigning overhead). For Morrisons machine-
related overhead costs, the computation is:
$70,000 12 months
$46.67 per machine hour
1,500 machine hours 12 months
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Chapter 3), the company may develop a more accurate cost system by
using multiple cost driver rates.
4-35
Materials Conversion
Completed and transferred out
gallons 6000 100% 6000 6000
Ending work-in-process gallons 4000 25%; 4000 10% 1000 400
Equivalent units of production 7000 6400
100
Finishing Dept.: $40,000 $10,000
300 100
500
Finishing Dept.: $15,000 $10,714.29
200 500
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4-38 (a) P1 P2
30 30
S1: $300,000 $150,000 $300,000 $150,000
30 30 30 30
50
25 $300,000 $200,000
S2: $300,000 $100,000 25 50
25 50
$250,000 $350,000
(b) S1 S2 P1 P2
Directly
identified
costs $300,000 $300,000
Allocation of
S1 costs ($300,000) 120,000 $90,000 $90,000
Allocation of
S2 costs (420,000) 140,000 280,000
Totals $0 $0 $230,000 $370,000
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Therefore,
P1 P2
S1: $416,667 30% $125,000 $416,667 30% $125,000
S2: $466,667 25% $116,667 $466,667 50% $233,333
$241,667 $358,333
S1 S2 P1 P2
Directly identified $300,000 $300,000
costs
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Chapter 4: Accumulating and Assigning Costs to Products
PROBLEMS
(c) Work in process, finished goods, and cost of goods sold will be
increased by $700,000 times 20%, 45%, and 35%, respectively. These
increases are $140,000, $315,000, and $245,000, respectively.
(e) The approach in part (d) develops information that helps identify the
reasons for the difference between actual and applied costs, and is
therefore relevant for internal decision making purposes. The difference
between actual and estimated overhead cost is $800,000. The lower
actual cost creates a favorable effect on income, relative to the
budgeted cost. The difference between estimated and applied overhead
cost results from idle capacity. Recall that the machine hour practical
capacity was 100,000 while the actual machine hours used totaled
90,000. This means that idle capacity was 10,000 (100,000 90,000)
machine hours with an associated idle capacity cost of $1,500,000
(10,000 $150). Management will likely seek explanations for why
actual overhead differed from estimated overhead, and why applied
overhead differed from estimated overhead. In response to these
explanations, management might revise the overhead budget or explore
new product opportunities to use the idle capacity.
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Job 254
Materials $47.40
Conversion cost plus markup: 0.7 DL hours $65 45.50
Total price $92.90
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4-41
Job 101 Job 102 Job 103
Beginning Work in Process $25,500 $32,400 $0
a
Direct labor rates:
Department 1: $12 per DL hr
Department 2: $18 per DL hr
Department 3: $15 per DL hr
b
Cost driver rates:
Department 1: 150% of DM cost
Department 2: $8 per machine hr
Department 3: 200% of DL cost
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4-42 (a) Allocating costs in proportion to the number of actual passengers can
be justified by the argument that the service center costs should be
spread equally over all passengers because each passenger uses
approximately the same amount of service center resources.
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$120,000 $160,000
(8,000 12,000) direct labor hours
$280,000
20,000 direct labor hours
4-43 (a) Plantwide cost driver rate
$14 per direct labor hour
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$120,000
Cost driver rate Milling
(b) 12,000 machine hours
$10 per machine hour
$160,000
Cost driver rate Assembly
12,000 direct labor hours
$13.33 per direct labor hour
(c)
Part (a) Part (b)
Manufacturing cost $2,250.00 $2,263.20
25% markup 562.50 565.80
Bid price $2,812.50 $2,829.00
(d) The company may favor the method in (b) if overhead costs in the
milling department have a cause-and-effect relationship with machine
hours, while those in the assembly department have a cause-and-effect
relationship with direct labor hours. In this case, the computed total
manufacturing cost in part (a) is of similar magnitude to the cost in part
(b), and therefore the bid prices are also of similar magnitude. Given
this result, one might be inclined to use the simpler method in part (a)
rather than the more accurate but more complex method in part (b).
However, comparisons across different products may produce greater
differences in computed costs and bid prices.
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$5,544,000
$18.48 per direct labor hour
300,000 direct labor hours
$504,000
$0.525 per machine hour
960,000
$2,304,000
$24 per direct labor hour
96,000 direct labor hours
$2,736,000
$19 per direct labor hour
144,000 direct labor hours
(c) The company may favor departmental cost driver rates if overhead costs in
the cutting department have a cause-and-effect relationship with machine
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hours, while those in the grinding and drilling departments have a cause-
and-effect relationship with direct labor hours. The company may use a
plantwide cost driver rate because it is simpler than using multiple
departmental rates, though the departmental rate method is potentially
more accurate.
$500,000
$25 per machine hour
20,000 machine hours
$400,000
80% of direct labor cost.
$500,000
(c) Gonzalez Company likely believes that its manufacturing overhead costs
are driven by different factors in each manufacturing department.
Specifically, overhead costs in the machining department have a cause-
and-effect relationship with machine hours, while those in the finishing
department have a cause-and-effect relationship with direct labor costs.
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4-46 (a)
Mixing and Reaction Pulverizing
Blending Chambers and Packing
Total conversion costs $424,600 $1,551,000 $559,900
Total number of process hours 8,760 35,040 8,760
Conversion cost per process hour $48.470 $44.264 $63.916
(b)
Costs C206 C208
Materials:
Raw materials $1,488.00 $1,488.00
Packing materials $175.20 $280.80
$1,663.20 $1,768.80
Conversion costs:
Mixing and blending: 6 hrs $48.470 290.82 290.82
Reaction chamber: 24 hrs $44.264 1,062.34 1,062.34
Pulverizing and packing: 4 hrs $63.916, 255.66
8 hrs $63.916 511.33
Total conversion costs $1,608.82 $1,864.49
Total cost $3,272.02 $3,633.29
4-47 (a)
Materials Conversion
Completed and
transferred out units 8000 100% 8,000 8,000
Ending WIP units 4000 40%; 4000 25% 1,600 1,000
EUs of production 9,600 9,000
(b)
Materials Conversion Total
Costs, beginning of October $1,050 $3,240 $4,290
Added during October 8,200 22,620 30,820
To be accounted for $9,250 $25,860 $35,110
EUs of production 9,600 9,000
Cost per equivalent unit $0.96 $2.87 $3.83
(c)
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Materials Conversion
Costs, beginning of October $1,050 $3,240
Corresponding equivalent units 1,400 1,200
Cost per equivalent unit $0.75 $2.70
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5 7,500
a
$100,000 c
$200,000
45 8,500
40 1,000
b
$100,000 d
$200,000
45 8,500
$587,582
(b) Cost driver rate: Machining 10,000 machine hours
$58.7582 per machine hour
$412,418
Cost driver rate: Assembly 10,000 direct labor hours
$41.2418 per direct labor hour
Direct materials and labor costs: $ 450.00
Overhead costs from Machining Department
($58.7582 3 machine hours) 176.27
Overhead costs from Assembly Department
($41.2418 5 direct labor hours) 206.21
Total unit cost $ 832.48
Markup (30%) 249.74
Bid price $1,082.22
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1,500 5
a $200,000 d
$130,000
10,000 45
7 ,500 40
b
$200,000 e
$130,000
10,000 45
1,000
c
$200,000
10,000
$564, 444
10, 000machinehours
(d) Cost driver rate: Machining $56. 4444 permachinehour
$435, 556
10, 000directlaborhours
Cost driver rate: Assembly $43.5556perdirectlaborhour
12,000 15,000
a
$18,000 c
$14,000
18,000 35,000
6,000 20,000
b
$18,000 d
$14,000
18,000 35,000
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Allocation of
Maintenance
Dept. costs
($19,221.9959) ($19,221.9959) 1,478.6151a 11,828.9206b 5,914.4603c
Allocation of
Grounds
Dept. costs
($15,478.6151) 1,221.9959d (15,478.6151) 6,109.9796e 8,146.6395f
$0 $0 $62,938.9002 $39,061.0998
Note: These calculations were done by spreadsheet and rounded.
1,500 3,000
a $19,221.9959 d $15,478.6151
19,500 38,000
12,000 15,000
b $19,221.9959 e $15,478.6151
19,500 38,000
6,000 20,000
c $19,221.9959 f $15,478.6151
19,500 38,000
3,000
M $18,000 G
38,000
1,500
G $14,000 M
19,500
Therefore,
3,000 1,500
M $18,000 $14,000 M
38,000 19,500
0.993927126 M = $19,105.26316
M = $19,221.995927
1,500
G $14,000 $19,221.995927
19,500
G = $15,478.61507
Directly
identified
costs $750,000 $450,000 $150,000 $110,000
Allocation of
Maint. Dept.
Costsa (750,000) 500,000a 250,000
0a0a
Allocation of
Power Dept.
Costsb (450,000) 250,000 200,000
$0 $0 $900,000 $560,000
a
80,000 40,000
750,000 500,000; 750,000 250,000
80,000 40,000 80,000 40,000
b
200,000 160,000
450,000 250,000; 450,000 200,0
200,000 160,000 200,000 160,000
$900,000
Cost driver rate: Casting
80,000 machine hours
$11.25 per machine hour
$560,000
Cost driver rate: Assembly
60,000 direct labor hours
$9.33 per direct labor hour
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$866, 667
80, 000
Cost driver rate: Casting $10.833 per machine hour
$593, 333
60, 000
Cost driver rate: Assembly $9.889 per labor hour
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M $750,000 01
.P
(c)
P $450,000 0.4 M
Therefore,
M = $750,000 + 0.1 (450,000 + 0.4 M)
M = $795,000 + 0.04 M
0.96 M = $795,000
$795,000
M $828,125
0.96
P 450,000 0.4 $828,125 $781,250
Casting Assembly
Directly
identified
costs $150,000 $110,000
Allocation
of Maint.
Dept. costs $828,125 40% = $331,250 $828,125 20% = $165,625
Allocation
of Power
Dept. costs $781,250 50% = $390,625 $781,250 40% = $312,500
$871,875 $588,125
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$871, 875
80, 000
Cost driver rate: Casting $10.8984 per machine hour
$588,125
60, 000
Cost driver rate: Assembly $9.8021 per labor hour
CASES
4-51 (a) The plantwide cost driver rate is $122,000/(2,400 + 1,440 + 720 +320)
= $25.00 per direct labor hour
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Chapter 4: Accumulating and Assigning Costs to Products
(b) After dropping product A, the plantwide cost driver rate is $122,000/
(1,440 + 720 +320) = $49.1935 per direct labor hour
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(c) After further dropping product B, the plantwide cost driver rate is
$122,000/(720 +320) = $117.3077 per direct labor hour
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Chapter 4: Accumulating and Assigning Costs to Products
cost systems, which can more accurately assign overhead costs when
there is large variation in overhead resources that products require.
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Chapter 4: Accumulating and Assigning Costs to Products
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(e) The current costing system is simple to administer and results in pricing
at a uniform labor rate (that includes coverage of overhead costs). The
proposed costing system more accurately reflects resource usage, but is
more complex to administer and to communicate to customers in
pricing.
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