LEARNING PACKET 3

TOPIC: Accounting for Material, Labor and Overhead

I. CONCEPT NOTES

[Review] Types of businesses:

1. Manufacturing
2. Merchandising
3. Service

Degrees of Conversion
1. Low Degree of Conversion
● adding basically convenience but no substantial change in output
● Examples include retailers, gas stations, department stores
2. Medium Degree of Conversion
● making small but visible additions to outputs, but is already substantially different from input
● Examples include florists, meat markets
3. High Degree of Conversion
● causes major transformation of an input to output
● Examples include construction, restaurants

Retailers/Merchandising vs Manufacturing
1. Presence of high degree of conversion
2. Presence of more than one inventory account
a. Raw Materials (work not started, inventory that is not yet issued for production, only materials)
b. Work in Process (work started but not yet completed, lahat ng inventory costs that is on the process
of production, then if tapos na, will be removed and transferred to last type of inventory)
c. Finished Goods Inventory (work completed and ready to be sold)

[Review] Classification of Costs based on Function (focus on manufacturing costs)

1. Direct Materials
● Materials- therefore, consumable, inventoriable that are PART of production
● Direct-therefore, can be traced to product
● Uncommon costs like freight, taxes, and other similar charges are included
● Be careful about raw materials vs direct materials
2. Direct Labor
● Labor and also direct
● Salaries and wages can be both direct or indirect (it is not about the cash outflow but usage)
● Some labor are direct or indirect depending on the case (for example, overtime, idle time)
3. Overhead
● Manufacturing costs other than direct material and direct labor
● Acts as cost pool for those items that are not direct materials nor direct labor but incurred for the
manufacture of products
● For better management, is classified into two, Variable Overhead and Fixed Overhead
I. Variable Overhead includes indirect materials and variable indirect labor, and depreciation
using units of production
II. Fixed Overhead includes depreciation using straight line method, insurance and property taxes
of factory equipment, fixed indirect labor, rent

Basic Transactions in a Manufacturing Company

a. Purchase of raw materials

dr Raw Materials Inventory
cr Cash / Accounts Payable

b. Issue/use of materials in the production

● Direct Materials
dr. Work-in-Process Inventory
cr. Raw Materials Inventory
● Indirect Materials
dr. Variable/Fixed Overhead
cr. Raw Materials Inventory
c. Factory wages for:
● Direct labor
dr. Work-in-Process Inventory
cr. Cash / Wages or Salaries Payable
● Variable Indirect Labor
dr. Variable Overhead
cr. Cash / Wages Payable
● Fixed Indirect Labor
dr. Fixed Overhead
cr. Cash / Salaries Payable

d. Production Utilities
dr. Variable Overhead
dr. Fixed Overhead
cr. Cash / Utilities Payable

e. Depreciation
dr. Fixed Overhead (default) or Variable Overhead (units of production method)
cr. Accumulated Depreciation

f. Assignment of Factory OH to Work-in-Process Inventory

dr. Work-in-Process Inventory
cr. Variable Overhead
cr. Fixed Overhead

g. Completion of Work-in-Process Inventory

dr. Finished Goods Inventory
cr. Work-in-Process Inventory

h. Sale of Goods (for perpetual method)

dr. Cost of Goods Sold
cr. Finished Goods Inventory

Schedule of Cost of Goods Manufactured

● Reports the movement of the costs in the production (work-in process inventory)
● Shows the beginning work-in-process inventory, added by the manufacturing costs accounted for during the
period, to determine the total manufacturing costs to account for. This is then deducted by the ending
balance of the work-in-process inventory to determine the cost of goods manufactured (which is also the
amount transferred to finished goods inventory)

Normal Costing and Pre-determined Overhead

● An alternative to actual costing is normal costing, which assigns actual direct material and direct labor to
products but allocates manufacturing overhead (OH) to products using a predetermined rate.
● The non-traceable character of overhead cost requires temporary allocation of overhead using accurate
estimates (called as predetermined overhead rate, POR), while the actual overhead costs are
accumulating over a period of time.

Reasons for using pre-determined OH rate:

1. Predetermined OH rates improve timeliness of information.
2. Predetermined OH rates adjust for variations in actual OH costs that are unrelated to fluctuations in activity.
3. Predetermined OH rates overcome the problem of fluctuations in activity levels that do not impact OH rates.
4. Predetermined OH rates allows managers to be more aware of individual product or product line
profitability as well as the profitability of business with a particular customer or vendor.

Computation:
Total Budgeted OH Cost at a Specific Activity Level
POR =
Volume of Specific Activity Level

● Once calculated, the POR is used throughout the period to apply overhead to WIP inventory.
● Applied OH is calculated as the POR multiplied by actual activity volume.
Relevant journal entries:

Applying Overhead:
Dr. Work in Process Inventory
Cr. Manufacturing Overhead Control
* amount is the computed POHR multiplied by the activity volume for the period

Actual Overhead Incurred:

Dr. Manufacturing Overhead Control
Cr. Cash/Payables

Under/over application of Overhead

● The applied OH is based on estimates. Remember, our POR was computed based purely on estimated
budgets on the overhead cost and the specific activity level.
● Since applied OH is purely an estimate, it is normal that the applied OH will often vary with the actual OH.
● If the actual OH is greater than applied OH, there is underapplied OH.
● If the actual OH is less than the applied OH, there is overapplied OH.

Closing under/overapplied OH

Immaterial:
- closed under Cost of Goods Sold

Material:
- The over/under-applied OH should be prorated among the accounts in which the applied OH resides (i.e. work in
process, finished goods inventory, and cost of goods sold).
- Proration of the over/under-applied OH makes the account balances conform closely to actual historical cost.

II. CHECKING FOR UNDERSTANDING

PROBLEM 1: FIGHTING Company is a manufacturing firm and has operated for twenty years now. As a very
established company, they have maintained a gross profit margin of 20% of cost and this is being implemented in
present and future years as a sign that the company is indeed stable and profitable.

Last year, after their physical count, it was discovered that some units worth P25,000 were still not completed and
are expected to be so on the next production cycle. The warehouse also contained 1,000 units and was already in
the process of shipment before the cut-off date. They were valued at P17.5 per piece. On the corner of the
warehouse, a box containing materials in the amount of P18,000 was not yet used. Because of the very precise
nature of production, it was always expected that the ratio of purchase and usage of direct and indirect materials is
3:1. Transactions relating to its operations for the first month are as follows:

● Purchased raw material on account P28,500 then put all available raw materials into production.
● Accrued payroll of P40,000. Upon inquiry, it discovered that there were 5 assembly workers who worked
for 1,200 hours. Each worker was paid P25 per hour. Excess payroll was attributed to the salary of the
supervisor who worked in the plant for 8 hours a day (there were 22 working days in a month).
● Electricity cost P12,000 while water cost P2,000. It was also found out that 20% of the utilities were
attributed to the office where clients go and inquire.
● Total equipment used by the company has a historical cost of P600,000 and is being depreciated for two
years already. The useful life was five years.
● Other overhead items cost P25,400. Then, all overhead cost was assigned to production.
● Goods sold on account totaled P124,800 (including those goods who were in the process of shipping). Sales
agent was given 2% of commission as additional salary on top of P150 per day payment. She worked only
for 20 days.
● The owner of the place where the office was located left a bill for the rental fee worth P5,000.
At the end of the month, it was found out that there were still materials not yet used but already purchased by the
company. It was worth P13,500. Also, goods costing P32,000 were ready to be sold but were still in the warehouse.

REQUIRED:
1. Provide the necessary journal entries for all transactions that took place in FIGHTING Company.
2. Make an income statement with supporting schedule(s) for FIGHTING Company.

PROBLEM 2: KAKAYANIN Corporation started three years ago. Operations were smooth until December 20 of this
year, when their cost accountant, named Eye Gib Uff, went AWOL (absence without leave). The management was
worried because all of the data in his possession was also lost. Then they decided to hire you to help them solve
their problem. They were able to trace transactions and summarized them to the following but with some missing
amounts:

REQUIRED:
1. How much of the factory labor cost for the year consisted of indirect labor?
2. What is the ending balance of Work-in-Process?
3. What was the cost of goods sold for the year?

PROBLEM 3: WALANG ORAS PARA SAYO Inc. is a small New England company that manufactures custom clocks. It
uses normal costing system that applies factory overhead on the basis of direct labor-hours. Factory overhead for
the past years were listed below along with the direct labor hours spent:

Factory Overhead Direct Labor Hours

P 549,750 35,000
505,400 36,000
529,800 32,000
592,725 36,500
573,025 38,500

Management assessed that 31,700 direct labor-hours is the normal capacity for the year. Before they started their
April production, some P 10,000 of both wood fasteners and mahogany blanks were still unused but clocks worth
15,780 are ready to be finished. Since the products were on demand last quarter, all finished clocks were sold
before April. These transactions were recorded during April:

● April insurance cost for the manufacturing property and equipment was P1,495. The premium had been
paid in January.
● Recorded P1,025 depreciation on an administrative asset.
● Purchased 21 pounds of high-grade wood fasteners on account at P15 per pound (indirect material).
● Paid factory utility bill, P6,510 in cash.
● Incurred and paid payroll costs of P80,300. Of this amount, P64,000 were for direct labor personnel who
earned P20 per hour on average.
● Incurred and paid other factory overhead costs, P5,770.
● Purchased 2,100 unfinished mahogany blanks on account at P11 per blank.
● Requisitioned 1,495 mahogany blanks and 13 pounds of fasteners for production.
● Incurred miscellaneous selling and administrative expenses, P5,660.
● Incurred P3,505 depreciation on manufacturing equipment for April.
● Paid advertising expenses in cash, P2,350.
● Applied factory overhead to production on the basis of direct labor-hours.
● Made sales on account in August, P96,450. Cost of goods sold for the period is 84,500.
● Work-in Process at the end of April, before any adjustments for over or under applied overhead was
P56,355.
REQUIRED:
1. Compute for the predetermined overhead rate using high-low method.
2. Journalize the entries for April.
3. Compute for the over- or underapplied overhead and make the necessary adjusting journal entry if
management assessed that it is material.
4. Make an income statement for the month of April for WALANG ORAS PARA SAYO Inc.

PROBLEM 4: The following information is for the CPA-IN-TRANSIT Manufacturing Company for the month of
August.
Inventories Beginning Ending
Raw Materials 17,400 13,200
Work in Process 31,150 28,975
Finished Goods 19,200 25,500
 Direct Labor 21,000 DLH @ 13
Raw Materials Purchases 120,000
Indirect Labor 11,200
Factory Supplies Used 350
Other Expenses:
Depreciation – Factory Equipment 17,300
Insurance – Office 2,570
Office Supplies Expense 900
Insurance – Factory 1,770
Depreciation – Office Equipment 3,500
Repair/Maintenance Factory 7,400

REQUIRED: Calculate CPA-IN-TRANSIT Manufacturing Company total manufacturing costs, cost of goods
manufactured, and cost of goods sold.

PROBLEM 5: Following are transactions incurred by MAHALKOMAHALAKO Corporation during the previous
month:
● Purchased 90,000 of raw materials on account.
● Issued 80,000 direct materials for production and paid 4,000 hours of direct labor at 15 per hour.
● Recorded 10,000 depreciation on factory assets.
● The company accrued 5,000 for Supervisor’s salary.
● Assigned actual overhead to work in process inventory.
● Completed goods costing 150,000 are transferred to finished goods.
● Sold 80,000 of the finished goods for 100,000 on account.
REQUIRED:
1. Provide the journal entries for the previous month.
2. Provide the schedule of cost of goods manufactured and sold.

PROBLEM 6: SAANKANAGKULANG Corporation has the following data for the current year:
Direct Labor ₱220,000
Direct Material 137,800
Actual Overhead 320,000
Applied Overhead 395,000
Raw Material 51,394
Work in Process 101,962
Finished Goods 111,192
REQUIRED:
1. What is the amount of under- or overapplied overhead?
2. Prepare the necessary journal entry to dispose of under- or overapplied overhead.

PROBLEM 7: Data about EdMunson Company’s production and inventories for the month of August are as follows:
Purchases – direct materials ₱143,440
Freight in 5,000
Purchase returns and allowances 2,440
Direct Labor 175,000
Actual factory overhead 120,000
Inventories: August 1 August 31
Finished goods 68,000 56,000
Work in process 110,000 135,000
Direct Materials 52,000 44,000
EdMunson Company applies factory overhead to production at 80% of direct labor cost. Over – or underapplied
overhead is closed to cost of goods sold at year-end. The company’s accounting period is on the calendar year basis.
REQUIRED:
1. For the month of August, compute for EdMunson Company’s total manufacturing cost and cost of goods
sold.
2. Calculate the amount of over/under-applied overhead factory for the month of August. Prepare the entries
to dispose over/under-applied.

PROBLEM 8: On August 1, the ledger of the STARBUCKS Furniture Company contained, among other accounts, the
following:
Finished Goods, $25,000
Work in Process, $30,000
 Materials, $15,000

During January, the following transactions were completed:

● Materials were purchased at a cost of $28,000.
● Direct materials in the amount of $21,000 were issued from the storeroom.
● Storeroom requisitions for indirect materials and supplies amounted to $3,200.
● The total payroll for January amounted to $31,000, including marketing salaries of $7,500 and
administrative salaries of $5,500. Labor time tickets show that $15,500 of the labor cost was direct labor.
● Various factory overhead costs were incurred for $12,000 on account.
● Total factory overhead is charged to the work in process account.
● Cost of production completed in January totaled $58,000 and finished goods in the shipping room on
January 31 totaled $18,000.
● Customers to whom shipments were made during the month were billed for $88,000. (Also record entry for
cost of goods sold.)
REQUIRED: Prepare journal entries for the transactions, including the recording, payment, and distribution of the
payroll.

PROBLEM 9: For August, COFFEE BEAN Inc. had cost of goods manufactured equal to $90,000; direct materials
used $30,000; cost of goods sold, $100,000; direct labor, $38,000; purchases of materials, $40,000; cost of goods
available for sale, $125,000; and total factory labor, $48,000. Work in process was $25,000 on May 1 and $15,000
on May 31. The company uses a single material account for direct and indirect materials.
REQUIRED: Prepare the following:
1. A cost of goods sold statement. For brevity, show single-line items for factory overhead and direct materials
used.
2. Summary general journal entries to record:
a. Purchase of materials on account
b. Use of materials, including direct materials of $1,000
c. Accrual of factory payroll, including indirect labor of $10,000 (use a payroll clearing account)
d. Distribution of factory labor cost
e. Transfer of completed work to finished goods
f. Sales on account, at a markup equal to 100% of production cost

PROBLEM 10: PINAPAUBAYA Corporation conducted a regression analysis of its factory overhead costs. The
analysis yielded the following cost relationship:
Total factory overhead cost = ₱50,000 per month + 5H*
Each unit of product requires 6 direct labor hours. The company’s normal production is 20,000 units of product per
year.
*H = number of direct labor hours, the selected cost driver for overhead costs.
REQUIRED:
1. Calculate for:
a. Predetermined fixed overhead rate per hour
b. Total predetermined factory overhead rate per hour
2. Provide the total overhead cost if the production of the month is 2,000 units.

PROBLEM 11: The following information was taken from the records of the Ucandu Corporation for the month of
January 2001. (There were no inventories of work in process or finished goods on January 1.)
Units Cost
Sales during month 8,000 $ ?
Manufacturing costs for month:
Direct material 32,000
Direct labor 20,000
Overhead costs applied 15,000
Overhead costs under-applied 800
Inventories, January 31:
Work in process 1,000 ?
Finished goods 2,000 ?

Indirect manufacturing costs are applied on a direct labor cost basis. The under-applied balance is due to seasonal
variations and will be carried forward. The following cost estimates have been submitted for the work in process
inventory of January 31: material, $3,000; direct labor, $2,000.

REQUIRED:
a. Determine the number of units that were completed and transferred to finished goods during the month.
b. Complete the estimate of the cost of work in process on January 31.
c. Prepare a manufacturing statement for the month.
d. Determine the cost of each unit completed during the month.
e. Determine the total amount debited to the Overhead Control accounts during the month.