# Chapter 2: Exercises

### SHORT ANSWER QUESTIONS, EXERCISES AND PROBLEMS

Questions ➢ What are the major differences between managerial and financial accounting?

➢ Identify the three elements of cost incurred in manufacturing a product and indicate the distinguishing characteristics of each.

➢ Why might a company claim that the total cost of employing a person is $15.30 per hour when the employee's wage rate is$10.50 per hour? How should this difference be classified and why?

➢ Why are certain costs referred to as period costs? What are the major types of period costs incurred by a manufacturer?

➢ Explain why the income statement of a manufacturing company differs from the income statement of a merchandising company.

➢ What is the general content of a statement of cost of goods manufactured? What is its relationship to the income statement?

➢ What is the relationship between cost flows in the accounts and the flow of physical products through a factory?

➢ Define a job cost system and give an example of a situation in which it can be used.

➢ What are the major reasons for using predetermined manufacturing overhead rates?

➢ What is the formula for computing a predetermined overhead rate? If the expected level of activity in a production center is 50,000 machine-hours and the estimated overhead costs are $750,000, what is the predetermined overhead rate? Show the calculation. ➢ What is underapplied and overapplied overhead? What type of balance does each have in the Overhead account? ➢ Direct materials were issued to the following jobs: Material A was issued to Job No. 101,$2,000; Job No. 102, $1,000; and Job No. 103,$5,000. Material B was issued to Job No. 101, $5,000; Job No. 102,$2,000; and Job No. 103, $3,000. A total of$3,000 in indirect materials was issued to all jobs.

➢ Record the direct and indirect materials issued in journal entry form.

Real world question Assume Domino's Pizza is considering offering a new product—a 6-inch (15.24 cm) pizza. Why would it matter if Domino's Pizza knows how much it costs to produce and deliver this 6-inch (15.24 cm) pizza?

Real world question Why is it becoming more important that the managers of hospitals understand their product costs?

Real world question Besides law firms and public accounting firms, name three service organizations that produce individual jobs and would use job costing.

Exercises Exercise A The following costs are incurred by an electrical appliance manufacturer. Classify these costs as direct materials, direct labor, manufacturing overhead, selling, or administrative.

1. President's salary.
2. Cost of electrical wire used in making appliances.
3. Cost of janitorial supplies (the janitors work in the factory).
4. Wages of assembly-line workers.
5. Cost of promotional displays.
6. Assembly-line supervisor's salary.
7. Cost accountant's salary (the accountant works in the factory).
8. Cost of cleaner used to clean appliances when they are completed.
9. Cost of aluminum used for toasters.
10. Cost of market research survey.

Exercise B Classify the costs listed in the previous exercise as either product costs or period costs.

Exercise C Gore Company makes products for sporting events. The following data are for the year ended 2010 December 31:

 Materials inventory, 2010 January 1 $45,000 Materials inventory, 2010 December 31 65,000 Materials purchases 175,000 Direct labor 225,000 Work in process inventory, 2010 January 1 30,000 Work in process inventory, 2010 December 31 40,000 Manufacturing overhead 130,000 Finished goods inventory, 2010 January 1 80,000 Finished goods inventory, 2010 December 31 140,000 Prepare a Cost of Goods Manufactured Statement and compute the cost of goods sold. Exercise D In June, Sierra Company worked only on Job No. 100 and completed it on June 30. There were no prior costs accumulated on Job No. 100 before June 1. During the month, the company purchased and used$10,800 of direct materials, used 2,000 machine-hours, and incurred $19,200 of direct labor costs. Assuming manufacturing overhead is applied at the rate of$12 per machine-hour, what is the total cost of Job No. 100? Prepare journal entries to assign the materials, labor, and manufacturing overhead costs to production and to record the transfer of Job No. 100 to Finished Goods Inventory.

Exercise E At the end of the second week in March, Job No. 710 has an accumulated total cost of $37,800. In the third week,$9,000 of direct materials were used on Job 710, 300 hours of direct labor were charged to the job at $40 per hour, and manufacturing overhead was applied on the basis of$40 per machine-hour for overhead. Job No. 710 was the only job worked on in the third week. It was also completed in the third week. Job No. 710 used 160 machine-hours during the third week in March. Compute the cost of Job No. 710, and give the journal entry required to record its completion and transfer to Finished Goods Inventory.

Exercise F Different companies use different bases in computing their predetermined overhead rates. From the following estimated data, compute the predetermined rate to be used by each company:

 Company Paper Rock Scissors Machine-hours 100,000 210,000 125,000 Direct labor-hours 50,000 48,000 39,000 Direct labor cost $800,000$735,000 $410,000 Manufacturing overhead cost$400,000 $432,000$375,000
Basis for determining predetermined overhead rate:

 Company Basis Paper Direct labor cost Rock Direct labor-hours Scissors Machine-hours
Exercise G Refer to the previous exercise. Assume the actual hours and cost data were:

 Actual Paper Rock Scissors Manufacturing overhead $450,000$400,000 $375,000 Direct labor cost$850,000 $700,000$400,000 Direct labor-hours 45,000 46,000 38,000 Machine-hours 105,000 200,000 130,000
1. Compute overapplied or underapplied overhead for each company.
2. Prepare journal entries to transfer overapplied or underapplied overhead to Cost of Goods Sold for each company.

Exercise H Ernest Peat Consultants uses a job cost system and had the following activity during December:

There were no jobs in beginning Work in Process or Finished Goods Inventory.

Three jobs were started: No. 222, 223, and 224. Job No. 222 was completed and the customer was billed for $10,000 on account. Job No. 223 was completed and in Finished Goods Inventory awaiting billing to the client at the end of the month. Job No. 224 was still in process at month-end. Direct labor costs incurred for:  Job No. 222 200 hours @$21/hour Job No. 223 300 hours @ $18/hour Job No. 224 120 hours @$17/hour
Assume overhead is applied at the rate of $10 per labor-hour. Actual overhead was$6,400. (The credit part of the journal entry is to Accounts Payable.

Prepare journal entries to record the preceding data, as well as the transfer of underapplied or overapplied overhead to Cost of Goods Sold.

Problem A Total Block, Inc., is considering a new sunscreen packet that contains a skin wipe with sunscreen on it. These would be particularly useful for people who do not want to carry a bottle of sunscreen, according to Sunspot's marketing manager. Classify the following costs of this new product as direct materials, direct labor, manufacturing overhead, selling, or administrative.

1. President's salary.
2. Packages used to hold the skin wipes.
3. Cleaning materials used to clean the skin wipe packages.
4. Wages of workers who package the product.
5. Cost of advertising the product.
6. The salary of the supervisor of the workers who package the product.
7. Cost accountant's salary (the accountant works in the factory).
8. Cost of a market research survey.
9. Sales commissions paid as a percent of sales.
10. Depreciation of administrative office building.

Problem B Classify the costs listed in the previous problem as either product costs or period costs.

Problem C Good Vibrations, Inc., produces videotapes of musical performances. A newly hired executive of the company has asked you to sort through the records and prepare a statement of the company's cost of goods manufactured. You find the following data from records prepared by Good Vibrations, Inc., for the year ended 2009 December 31:

 Inventories: Beginning direct materials inventory, 2009 January 1 $6,000 Ending direct materials inventory, 2009 December 31 10,500 Beginning work in process inventory, 2009 January 1 10,000 Ending work in process inventory, 2009 December 31 9,500 Materials purchases 50,000 Direct labor 40,000 Indirect labor 15,000 Factory utilities expense 7,000 Factory supplies expense 5,000 Depreciation expense – factory building 14,000 Depreciation expense – Factory Equipment 10,500 Other manufacturing overhead 25,000 You also learn that beginning Finished Goods Inventory on 2009 January 1, was$20,000 and ending Finished Goods Inventory on 2009 December 31, was $5,000. Sales for the year were$400,000. Selling expenses were $50,000 and administrative expenses were$75,000.

1. Prepare a statement of cost of goods manufactured for Good Vibrations, Inc., for the year ended 2009 December 31.
2. Prepare an income statement for Good Vibrations, Inc., for the year ended 2009 December 31.

Problem D Log Cabin Homes, Inc., uses a job cost system to account for its jobs, which are prefabricated houses. As of  January 1, its records showed inventories as follows:

 Materials and supplies $100,000 Work in process (Job Nos. 22 and 23) 180,000 Finished goods (Job No. 21) 140,000 The work in process inventory consisted of two jobs:  Job No. Direct materials Direct labor Manufacturing overhead Total 22$36,000 $40,000$20,000 $96,000 23 40,000 28,000 16,000 84,000$180,000
Cost and sales data:

a. Materials purchased on account, $400,000. b. Direct materials used: Job No. 22,$60,000; Job No. 23, $120,000; Job No. 24,$180,000.

c. Indirect materials used, $10,000. d. Direct labor costs: Job No. 22,$100,000; Job No. 23, $200,000; and Job No. 24,$80,000.

e. Indirect labor costs, $80,000. f. Overhead is assigned to jobs at$100 per machine-hour. Job No. 22 used 500 machine-hours, Job No. 23 used 1,000 machine-hours, and Job No. 24 used 300 machine-hours in January.

g. Job No. 22 and 23 were completed and transferred to Finished Goods Inventory.

h. Job No. 21 and 22 were sold on account for $1,200,000, total. i. Manufacturing overhead costs incurred, other than indirect materials and indirect labor, were depreciation,$60,000, and heat, light, power, miscellaneous, $30,000 (to be paid next month). Required: 1. Calculate the Job Cost for each job. 2. Prepare journal entries to assign each cost for each cost and sales data item. 3. Calculate the ending balance in Raw Materials Inventory, Work in Process Inventory, Finished Goods Inventory, and Cost of Goods Sold. 4. Assuming selling and administrative expenses were$100,000, prepare a multi-step income statement.

Problem E Green Thumb Landscaping Company uses a job cost system. As of January 1, its records showed the following inventory balances:

 Materials (shrubs, trees, etc.) $13,500 Work in process 25,800 Finished goods (Job No. 211) 30,000 The work in process inventory consisted of two jobs:  Job No. Direct Materials Direct Labor Manufacturing Overhead Total 212 10 Downing St.$4,500 $6,000$2,400 $12,900 213 1010 Wilshire Blvd. 5,100 4,800 3,000 12,900$9,600 $10,800$5,400 $25,800 Here are data for the company for January: Materials purchased,$48,000.

Landscaping direct labor costs: direct labor to Job No. 212, $12,000; to Job No. 213,$24,000; and to Job No. 214, $36,000. Indirect labor,$30,000.

Direct materials used: direct materials for Job No. 212, $7,800; for Job No. 213,$14,400; and for Job No. 214, $24,000. Supplies (indirect materials) used amounted to$1,200.

Overhead is assigned to jobs at $3 per labor-hour, with 8,000 labor-hours to Job 212 and 2,000 labor-hours each to Jobs 213 and 214. Jobs 212 and 213 were completed and in Finished Goods Inventory at the end of January. Sales revenues for January were$45,000; cost of goods sold was $30,000 for Job No. 211 that was in Finished Goods Inventory on 2010 January 1. Overhead costs incurred other than indirect labor and indirect materials were depreciation,$3,000, and utilities, fuel, and miscellaneous, $3,000. 1. Prepare journal entries to record the preceding transactions, including the transfer of underapplied or overapplied overhead to Cost of Goods Sold. 2. Assuming selling and administrative expenses were$10,000, prepare an income statement for January.

Problem F Speedy Delivery, Inc., transports computer equipment for various computer manufacturers. Speedy applies overhead to jobs using a predetermined overhead rate based on truck miles. Estimated data for 2010 are:

 Estimated truck miles 20 million Estimated overhead for hauling operations (equivalent to manufacturing overhead) $12 million 1. Compute the predetermined overhead rate per mile. 2. Assume that in 2010, actual manufacturing overhead for hauling operations amounted to$15 million, and 24 million truck miles were driven. Compute the amount of underapplied or overapplied manufacturing overhead for 2010.
3. Prepare the journal entry to transfer underapplied or overapplied overhead to Cost of Goods Sold.

Alternate problemsAlternate problem A Pocket Umbrella, Inc., is considering producing a new type of umbrella. This new pocket-sized umbrella would fit into a coat pocket or purse. Classify the following costs of this new product as direct materials, direct labor, manufacturing overhead, selling, or administrative.

1. Cost of advertising the product.
2. Fabric used to make the umbrellas.
3. Maintenance of cutting machines used to cut the umbrella fabric so it will fit the umbrella frame.
4. Wages of workers who assemble the product.
5. President's salary.
6. The salary of the supervisor of the people who assemble the product.
7. Wages of the product tester who stands in a shower to make sure the umbrellas do not leak.
8. Cost of market research survey.
9. Salary of the company's sales managers.
10. Depreciation of administrative office building.

Alternate problem B Classify the costs listed in Alternate problem A as either product costs or period costs.

Alternate problem C Presley Manufacturing Company is a producer of music compact discs (CDs) and tapes. The following account balances are for the year ended 2009 December 31

 Administrative expenses $60,000 Depreciation expense – Manufacturing equipment 50,000 Direct labor 468,000 Manufacturing supplies expense 40,000 Indirect labor 36,000 Beginning inventories, 2009 January 1: Direct materials 14,000 Work in process 20,000 Finished goods 128,000 Ending inventories, 2009 December 31 Direct materials 44,000 Work in process 56,000 Finished goods 92,000 Direct materials purchases 216,000 Rent expense – Factory 28,000 Sales 1,400,000 Selling expense 72,000 Other manufacturing overhead 126,000 1. Prepare a statement of cost of goods manufactured for Presley Manufacturing Company for 2009. 2. Prepare an income statement for the year ended 2009 December 31. Alternate problem D Cathy's Catering Company uses a job cost system. Its activities in November 2010, the first month of operations, were as follows:  Job First-rate University Active life home Precocious School Direct materials cost (food)$54,000 $36,000$81,000 Direct labor cost $45,000$40,500 $54,000 Labor-hours 2,900 3,500 3,800 The company applies overhead at a rate of$16 per labor-hour. It completed all jobs in November. The total revenue for the three jobs was $400,000. The actual overhead for the month was$160,000, of which $120,000 should be credited to Accounts Payable and$40,000 should be credited to Accumulated Depreciation.

Prepare journal entries to record the costs of jobs and to record the transfer of completed jobs to Finished Goods Inventory and to Cost of Goods Sold. Transfer any underapplied or overapplied overhead to Cost of Goods Sold. The company had no beginning or ending inventories.

Alternate problem E Sullivan Company applied overhead to production using a predetermined overhead rate based on machine-hours. Budgeted data for 2010 are:

 Budgeted machine-hours 75,000 Budgeted manufacturing overhead $870,000 1. Compute the predetermined overhead rate. 2. Assume that in 2010, actual manufacturing overhead amounted to$997,500, and 86,000 machine-hours were used. Compute the amount of underapplied or overapplied manufacturing overhead for 2010.
3. Prepare the journal entry to transfer underapplied or overapplied overhead to Cost of Goods Sold.

Beyond the numbers—Critical thinking Business decision case A Companies often do work on a cost-reimbursement basis. That is, Company B reimburses Company A for the cost of doing work for Company B. Suppose your company has a contract that calls for reimbursement of direct materials and direct labor, but not overhead. Following are costs that various organizations incur; they fall into three categories: direct materials (DM), direct labor (DL), or overhead (OH).

Glue used to attach labels to bottles containing a patented medicine.

Compressed air used in operating paint sprayers for Student Painters, a company that paints houses and apartments.

Insurance on a factory building and equipment.

A production department supervisor's salary.

Rent on factory machinery.

Iron ore in a steel mill.

Oil, gasoline, and grease for forklift trucks in a manufacturing company's warehouse.

Services of painters in building construction.

Cutting oils used in machining operations.

Cost of paper towels in a factory employees' washroom.

Payroll taxes and fringe benefits related to direct labor.

The plant electricians' salaries.

Crude oil to an oil refinery.

Copy editor's salary in a book publishing company.

1. Classify each of these items as direct materials, direct labor, or overhead.
2. Assume your classifications could be challenged in a court case. Indicate to your attorneys which of your answers for part a might be successfully disputed by the opposing attorneys. In which answers are you completely confident?

Business decision case B Quality Painters, Inc., uses a job cost system. As of 2010 January 1, its records showed the following inventory balances:

 Materials $7,000 Work in process 50,000 Finished goods 0 The work in process inventory consisted of two jobs:  Job No. Direct Materials Direct Labor Overhead Total 100 Community housing$ 9,000 $12,000$ 4,000 $25,000 101 Regal apartments 10,000 9,000 6,000 25,000$19,000 $21,000$10,00 $50,000 Here are data for the company for January: Materials purchased,$90,000.

Direct labor costs: direct labor to Job No. 100, $20,000; to Job No. 101,$48,000; and to Job No. 102 (a new job), $50,000. Indirect labor,$10,000.

Direct materials used: direct materials for Job No. 100, $15,600; for Job No. 101,$28,800; and for Job No. 102, $48,000. Supplies (indirect materials) used amounted to$4,000.

Overhead is assigned to jobs at $5 per labor-hour, with 1,000 labor-hours to Job 100 and 2,000 labor-hours each to Jobs 101 and 102. All three jobs were completed in January. Sales revenues for January were$350,000 for the three jobs.

Overhead costs incurred other than indirect labor and indirect materials were depreciation, $6,000, and utilities, fuel, and miscellaneous,$6,000.

Management is concerned about the relationship between costs incurred on jobs and the costs expected to be incurred, and has asked for your help. Here are the expected total costs (direct materials, direct labor, and overhead) for the three jobs:

 Job 100 $60,000 Job 101 120,000 Job 102 130,000 These cost estimates cover the entire job, including both costs in beginning Work in Process Inventory and costs incurred during January. 1. Compare the costs incurred on each job, including the costs in beginning Work in Process Inventory and costs incurred during January with the expected costs. Is the company keeping its costs below the expected costs for each job? 2. Prepare an income statement for January 2010 assuming selling and administrative expenses for January were$50,000. Don't forget to transfer any underapplied or overapplied overhead balance to Cost of Goods Sold.
3. Is the company profitable (that is, showing net income greater than zero)? What suggestions can you make for management to help increase the company's net income?

Ethics case Suzie Garcia, an accountant for a consulting firm, had just received the monthly cost reports for the two jobs she supervises: one for Arrow Space, Inc., and one for the US government. She immediately called her boss after reading the figures for the Arrow Space job.

"We are going to be way over budget on the Arrow Space contract," she informed her boss. "The job is only about three-fourths complete, but we have spent all the money that we had budgeted for the entire job."

"You had better watch these job costs more carefully in the future," her boss advised. "Meanwhile, charge the rest of the costs needed to complete the Arrow Space job to your US government job. The government will not notice the extra costs. Besides, we get reimbursed for costs on the government job, so we will not lose any money on this problem you have with the Arrow Space contract."

What should Suzie do? Does it matter that Suzie's company is reimbursed for costs on the US government contract? Explain.

Group project A In teams of two or three students, interview in person or by speakerphone, a businessperson in your community who uses job costing (for example, businesses that produce custom products such as homes, signs, or landscape design, or business consultants). Ask how this person assigns costs to products and how this information affects business decisions. Keep in mind that many businesspeople use terms other than job costing and manufacturing overhead. Be flexible with your use of accounting terminology in this interview. Each team should write a memorandum to the instructor summarizing the results of the interview. Information contained in the memo should include:

Date:

To:

From:

Subject:

Content of the memo must include the name and title of the person interviewed, name of the company, date of the interview, examples of the use of accounting information for decision making, and any other pertinent information.

Group project B In teams of two or three students, interview the manager of a campus print shop or a print shop in the area about how the company bids on prospective jobs. Does it use cost information from former jobs that are similar to prospective ones, for example? Does it have a specialist in cost estimation who estimates the costs of prospective jobs? Each team should write a memorandum to the instructor summarizing the results of the interview. Information contained in the memo should include:

Date:

To:

From:

Subject:

Content of the memo must include the name and title of the person interviewed, name of the company, date of the interview, and information responding to the questions above.

Using the Internet—A view of the real world Visit the website for a high technology company, such as HP, Intel Corporation, or IBM, and locate its annual report. Review the annual report to gain a general understanding of the company's primary business segments and products. Write a report addressing the following questions based on your research. What products or services are provided by the company? How does the financial information provided in the annual report (focus on the income statement) differ from financial information used for managerial accounting purposes? As a manager making business decisions within the company, what additional information would you need? (Remember that the income statement may be referred to using different terminology such as statement of earnings or statement of operations.)

 Company Website Hewlett Packard Http://www.hp.com Intel Corporation Http://www.intel.com IBM Http://www.ibm.com
Visit the following website for Wells Fargo (a financial institution) and locate its annual report:

http://www.wellsfargo.com Review the annual report to gain a general understanding of the company's primary business segments and products. Write a report addressing the following questions based on your research. What products or services are provided by the company? How does the financial information provided in the annual report (focus on the income statement) differ from financial information used for managerial accounting purposes? As a manager making business decisions within the company, what additional information would you need? (Remember that the income statement may be referred to using different terminology such as statement of earnings or statement of operations.)

Visit the following website for Home Depot (a retail organization) and locate its annual report:

http://www.homedepot.com Review the annual report to gain a general understanding of the company's primary business segments and products. Write a report addressing the following questions based on your research. What products or services are provided by the company? How does the financial information provided in the annual report (focus on the income statement) differ from financial information used for managerial accounting purposes? As a manager making business decisions within the company, what additional information would you need? (Remember that the income statement may be referred to using different terminology such as statement of earnings or statement of operations.)

1. [1]See Standards of Ethical Conduct for Management Accountants (Montvale, N.J.: Institute of Management Accountants, June 1, 1983.)