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Unit III – JOB ORDER COSTING

Lesson 2 – Accounting for Materials
Accounting system for materials:
1. Perpetual method - maintains material ledger for the continuous recording of materials received and
issued to production department. Materials purchased are recorded using “ Materials Inventory” account.
Both the cost of material issued to production and ending inventory can be easily determined after every
transaction.

2. Periodic method - materials purchased are recorded using the account “ Purchases” and requires a
periodic count and valuation of inventory (often monthly). The cost of materials issued to production
department can be determined by deducting the inventory end from the total cost of materials available
for use. Under this method cost of material issued to production and ending inventory cannot be easily
determined.

MATERIALS CONTROL
 Material controls basically aims at efficient purchase, storage and consumption of materials. Since
materials is the major part of the total manufacturing cost, the company should have a good and effective
system of internal control over materials not only to guard against theft but also to minimize waste and
misuse due to excessive inventories, overissuance, deterioration, spoilage and obsolescence.

 Objectives Of Materials Control

The following are the major objectives of materials control.

1. To ensure better quality of materials at right quantity at right time for efficient and uninterrupted
production of output.

2. To maintain the cost of materials at the minimum level.

3. To purchase materials at a reasonable price.

4. To minimize the handling cost and time in storing and using the materials.

5. To provide information to the management about raw materials, their costs and availability.

6. To protect materials against loss by fire, theft and leakage.

7. To avoid obsolescence of materials by adopting an appropriate method of materials issue.

 Modern system of inventory control include the following features:

a. Physical safeguards for receiving, storing and issuing materials.
b. Formal procedures for ordering and paying for materials
c. Perpetual inventory system to provide an ongoing record of the quantity and value of each type of
materials received and issued and the balance on hand.

 Two basic aspects of material control:

1. Physical control or safeguarding of materials
2. Control of investment in materials

Physical control of materials

1. Limited access - only authorized personnel should have access to material storage area. All issuance
of materials for use in production and release of finished goods for shipment should be properly
documented and approved.

2. Segregation of duties – different functions – purchasing, receiving, storage, use and recording - should
be segregated to minimize opportunities of misappropriation of inventories

3. Accuracy in recording – inventory records should permit the determination of inventory quantities on hand
upon request and cost records should provide the data for evaluation of inventories for the preparation of
financial statements.
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Control of investment in materials

 Maintain the proper balance of materials on hand.

 An inventory of sufficient size and diversity for efficient operation must be maintained, but the size should
not be excessive in relation to the scheduled production needs.

 In planning and controlling the inventory size, these factors should be considered – a) when orders should
be placed and b) how many units should be ordered.

 Commonly used control procedures

1. Order cycling – method where materials on hand are reviewed on a regular basis.
2. Min-max method – based on the assumption that materials inventory have minimum and maximum
levels. Minimum quantity is the order point, an order is placed to increase the inventory to the
maximum level

3. Two-bin method – materials are divided and place into two separate bins. The first bin contains
materials that will be used between the time an order was received and the next order. The second
bin contains the materials that will be used between the ordering and the delivery, plus additional
safety stock. When the first bin is emptied, an order is place. This method is used for materials that
are considered inexpensive and/or non-essential.

4. Automatic order system – used by most companies that are computerized. An order is automatically
placed when the level of inventory reaches a predetermined order point quantity. Perpetual inventory
record cards are maintained.

5. ABC plan – used by companies with large number of materials, each having different value. This is a
systematic way of grouping materials into separate classification and determining the degree of
control that each group requires.

 Economic Order Quantity (EOQ) - represents the quantity necessary to get the best price while
keeping inventory at an appropriate level to ensure uninterrupted production. In determining the
quantity to be ordered, the cost of placing an order and the cost of carrying inventory must be
considered. The formula to compute for EOQ:

EOQ = 2CN
K

where: EOQ = economic order quantity

C = cost of placing an order
N = number of units required annually
K = carrying cost per unit of inventory

Illustration 1:
The Norman Company predicts that 64,000 units of materials will be used during the year. The
materials are expected to cost P 20 per unit. It is anticipated that it will cost P 40 to place an
order. The annual carrying cost is P 2.00 per unit

Determine: Economic Order Quantity

Solution:

EOQ = 2 x 64,000 x 40 EOQ = 5,120,000

2 2

EOQ = 2,560,000

EOQ = 1,600 units +

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Material Purchasing Procedures

 Purchasing agent – person who has responsibility of purchasing materials in correct quantities at the proper
time and at the lowest price. The purchasing agent’s staff is part of the procurement section of the
purchasing departments.

 The purchasing staff keeps informed of various source of supply, negotiates purchase contracts, prepares
purchase orders and follow up deliveries. Their routine work begins with the receipt of purchase requisition.

Business Papers used to Support Material Transactions

1. Purchase requisition –
 Informs the purchasing agent concerning the quantity and type of materials needed.
 is a document or a written request for materials sent to the purchasing department and is prepared
in duplicate. The original copy is sent to purchasing department and the duplicate copy is retained
in the storeroom files. This must be numbered for easy reference. This request is prepared by
storeroom supervisor once the materials reach the reorder point.

 Reorder point – point at which the item should be ordered occurs wen the predetermined minimum
level of inventory on hand is reached. The following factors should be considered:
a. Usage – the anticipated rate at which the materials will be used.
b. Lead time – the length of time or the interval between the placement or order and the receipt of
the materials.
c. Safety stock estimated minimum level of inventory needed to protect against running out of
stock.

Example: assume that expected daily usage of material X is 100 units, and it takes 4 days to receive
an order and the estimated safety stock is 400 units, then the reorder point is:

LTQ = Daily usage 100 units x 4 days (lead time) 400 units
SSQ = Safety stock 400 units
Reorder point 800 units

Note: it means that when Material X inventory reaches 800 units, then the storeroom supervisor
must prepare a purchase requisition for purchase of material X.

Reorder Point = Sum of Lead time Quantity (LTQ) + Safety Stock Quantity (SSQ)
where:
LTQ = normal usage x normal lead time
SSQ = Safety stock (in usage) + Safety Stock (in time)
SS (in usage) = (Maximum usage – Normal usage ) x Normal lead time
SS ( in time) = (Maximum lead time – Normal lead time) x normal usage
Maximum Inventory Level = SSQ + order size
Average inventory = Order size /2
Minimum Inventory level - SSQ

Example:
RFF Corporation makes available the following information relative to Material AC:
Annual demand 30,000 units
Working days in a year 300 days
Normal lead time 12 days
Maximum lead time 19 days
Maximum usage per working day 125 units
Economic order size 6,000 units

Calculate the following:

1. Safety Stock:
2. Reorder Point
3. Average inventory
4. Maximum inventory
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Solution:

Lead time quantity : - 12 days x (30,000/300) = 12 days x 100 = P 1,200

Safety Stock ( in time) : = ( 19 days – 12 days) 7 days x 100 = 700

( in usage) = (125 units – 100 units) 25 units x 12 days = 300 = 1,000 units

Reorder point = LTQ + SSQ = 1,200 + 1,000 = 2,200

Average inventory = (OS/2) + SSQ = (6,000/2) + 1,000 = 4,000

Maximum inventory = OS + SSQ = 6,000 + 1,000 = 7,000

2. Purchase Order
 A contract for appropriate type and quantities of materials to be delivered at a specified date to
assure uninterrupted operations
 a written request to a supplier for a specified goods at an agreed price and also stipulates the term
of delivery and terms of payment.
 This document is prepared by the purchasing agent after the receipt of the purchase requisition.
 All purchase orders should be prenumbered to provide control for the issuance.
 At the end of each month, the accountant verifies that all the numbered purchase order either sent
to the suppliers or are on hand to ensure that purchase orders are used only for authorized purposes.
 This is prepared in 5 copies to be distributed as follows:
a. suppliers – as an authority to deliver the materials
b. storeroom – as a notification that the materials requested are on order.
c. Receiving department – as an authorization to accept incoming shipment.
d. Purchasing department – (2 copies) for file in unfilled order.

3. Receiving Report
 Certifies quantities received and ma report results of inspection and testing for quality.
 Shows all details of the shipment, including comments on the condition of the materials received. The
goods are checked to be sure that they are not damaged and they met the specifications of the
purchase order.
 The clerk prepares a receiving report in quadruplicate – the original copy are sent to purchasing
department (to indicate order was received); to the accounts payable department - to be compared
with the purchase order and supplier’s invoice, one copy to the storeroom together with the materials
and purchase order (for entry in the store records), then the storeroom supervisor signs the final copy
to confirm that the materials reached the storeroom and this final copy is kept in the receiving clerk’s
permanent file.

4. Disbursement voucher
 If the three documents agree or in order – the purchase order, receiving report and purchase invoice,
payment is authorized. A disbursement voucher is prepared , with the supporting documents, once
approved the voucher is sent to accounting department for recording.
 When the voucher and the supporting documents reached the accounting department, the voucher
clerk check all the documents if they are properly approved and signed. Double checking is another
part of an effective internal control. After checking, the voucher clerk records the purchases in the
voucher register.
 A check is prepared in the Cash department for the amount in the voucher. The check is recorded in
the check register and sent to the supplier. The voucher is marked paid and records the check number
and date of payment in the voucher.
.
5. Materials Requisition Slip
 Authorization to the storeroom to issue materials to departments.
 A written order to the storekeeper to deliver materials or suppliers to the place designated or to issued
materials to the person presenting a properly executed requisition.
 Each requisition form shows the job number, the department requesting the goods, their quantity and
description and the unit cost and total cost of the goods issued.
 The cost of the goods charged to the production is entered on the materials requisition form and thie
quantity and the amount are entered in the materials ledger card under issuance column.
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6. Materials ledger card – record the receipt and issuance of each class of materials and provide a perpetual
inventory record.

Objectives of Store Keeping

An efficient system of store keeping has the following objects:
1. ensure uninterrupted supply of materials and stores without delay to various production and service
departments of the organization.
2. To prevent over-stocking and under-stocking of materials.
3. To check in all materials as to quality and quantity.
4. To minimize storage cost.
5. To ensure proper and continuous control over materials.
6. To ensure most effective utilization of available storage space and workers engaged in the process
of store-keeping.
7. To protect materials from loss and wastage due to defective storage.
8. To identify and locate materials in the store-rooms without delay.
9. To protect and safeguard material items against pilferage, theft and fire etc.
10. To develop such a system so that fullest information about store items is available in the stores at
every time.

Materials Internal Control

An internal control procedures for storing and issuing materials should reflect the following principles:
1. Admittance to the storage area should be restricted.
2. Materials ledger cards, covering all receipts and issued should be maintained,
3. Each type of material should be clearly identified, stored and carefully protected while in storage.
4. Materials should be issued only upon proper written authorization.
5. The accounting system should permit a periodic check of the materials ledger against the balance
of the Materials account.
6. Different persons should be involved in storage and issuance operations.

Special Issuing procedures

a. Materials returned to storeroom
 Materials returned to storeroom must be accompanied by returned materials report.
 The storeroom clerk records the materials returned in the materials ledger card under Issued
column in parenthesis.

b. Materials returned to supplier

 A return shipping order is prepared by the purchasing agent together with a debit memorandum.
 The storeroom clerk receives a copy of the debit memo which is to be used in recording the return
in the materials ledger card under Received column.

c. A computerized system facilitates to update inventory records, simplifies processing purchase orders
and provides effective internal control system for materials issuance.

Accounting procedures for materials procurement and use involves forms and records necessary for financial
accounting and cost accounting purposes.
 Financial accounting – the forms are necessary to be able to record the transactions in the books of
accounts - purchase journal, cash payments journal, general journal and general ledger control account.

 Cost accounting – forms are used for materials control purposes and necessary for costing a job, a process
or department and for maintaining perpetual inventories.

MATERIALS COSTING METHODS:

 First-in, first-out ( FIFO)
Under this method, the first materials purchased ( the earliest) are first to be issued. The materials
on hand are assumed to be the last one purchased
 Average costing methods
a. Weighted average method
- used for periodic system.
- To compute for the weighted average cost per unit:
Total cost of purchases / total units purchased = Weighted average cost/unit
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b. Moving average method

. - used or perpetual method
- Under this method, the units and cost of each new purchases is added to the balance already
on hand when the purchase was made, a new average unit cost per unit is computed – total
cost (on hand + new purchase) divide by total units (on hand + new purchase).
- When materials are issued, the new average unit cost ( as computed above) is used to
compute for the total cost of materials issued until another purchase is received or return to
supplier is recorded, when a new average unit cost is computed.

 Illustration 1:
The following information is to be used in costing inventory on August 31, 2020:
Aug. 1 Beginning balance 1,600 units @ P6.00
5 Purchases 400 units @ P 7.00
9 Purchases 400 units @ P 8.00
16 Issued 800 units
20 Returned to stockroom 50 units of those issued on Aug 16
24 Purchased 600 units @ P 9.00
25 Returned to supplier 50 units purchased on August 24
27 Issued 1,000 units

REQUIRED: Using a) FIFO b) moving average

1. Prepare the materials stock card
2. Determine the cost of materials issued during August and the cost assigned to the August 31,
2020 inventory
A. FIFO:
STORES LEDGER CARD
RECEIVED ISSUED BALANCE
Unit Unit Units
Date Units Cost Amount Units Cost Amount Units Cost Amount
Aug. 1 1,600 6.00 9,600
5 400 7,00 2,800 1,600 6.00 9,600
400 7.00 2,800
9 400 8.00 3,200 1,600 6.00 9,600
400 7.00 2,800
400 8.00 3,200
16 800 6.00 4,800 800 6.00 4,800
400 7.00 2,800
400 8.00 3,200
20 (50) 6.00 (300) 850 6.00 5,100
400 7.00 2,800
400 8.00 3,200
24 600 9.00 5,400 850 6.00 5,100
400 7.00 2,800
400 8.00 3,200
600 9.00 5,400
26 (50) 9.00 (450) 850 6.00 5,100
400 7.00 2,800
400 8.00 3,200
550 9.00 4,950
27 850 6.00 5,100 250 7.00 1,750
150 7.00 1,050 400 8.00 3,200
_____ ______ ____ ______ 550 9.00 4,950
1,350 10,950 1,750 10,650 1,200 9,900

Total cost of materials issued = 10,650; and materials inventory Aug. 31. 2020 = P 9,900.
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B. Moving average –
STORES LEDGER CARD
RECEIVED ISSUED BALANCE
Unit Unit Units
Date Units Cost Amount Units Cost Amount Units Cost Amount
Aug. 1 1,600 6.00 9,600
5 400 7,00 2,800 2,000 6.20 12,400
9 400 8.00 3,200 2,400 6.50 15,600
16 800 6.50 5,200 1,600 6.50 10,400
20 (50) 6.50 (325) 1,650 6.50 10,725
24 600 9.00 5,400 2,250 7.1667 16,125
26 (50) 9.00 (450) 2,200 7.125 15,675
27 1,000 7.125 7,125 1,200 7.125 8,550
1,350 10,950 1,750 12,000

Total cost of materials issued = 12,000 ; and materials inventory Aug. 31. 2020 = P 8,550

c. Weighted Average Method – used for periodic inventory method

1,600 6.00 9,600
400 7,00 2,800
400 8.00 3,200
550 9.00 4,950
2,950 20,550

Weighted average unit cost = 20,550 = 6.966

2,950

Inventory, August 31, 2020 = 1200 units x 6.966 = 8,359

Lower of Cost or Net Realizable value

 PAS 2 provides that inventories shall be measured at the lower of cost or net realizable value.
 Net realizable value refers to the estimated selling price in the ordinary course of business less the
estimated cost of completion and the estimated cost necessary to make the sale.
 When the net realizable value has decline below the original cost, inventory should be valued at net
realizable value.

 If the cost of inventory exceeds the net realizable value, write-down of Inventories is necessary.
 Write down of inventory are usually carried out item by item or in some circumstances it may be
appropriate to group similar items.

 Accounting for write-down

1. Direct method – any loss on inventory write-down is not accounted for separately but credited to
Inventory This method will increase Cost of goods sold for the difference between the cost and
the NRV. However, material write down and abnormal losses such as theft, obsolescence are
charged to Loss.

2. Allowance method
 The inventory is recorded at cost and any loss on inventory is accounted for separately by
debiting Loss on inventory write-down and allowance for write-down of inventory is credited.
 Loss on write-down of inventory is included in the computation of Cost of goods sold while the
allowance for write-down of inventory is valuation account, a deduction from the Inventory
account.
Cost of Goods sold before recovery from inventory write-down xxx
Add: Loss on inventory write-down xxx
Cost of goods sold after recovery from inventory write down xxx
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 The allowance is adjusted depending on the difference between the cost and the net
realizable value of the inventory at year end.
 If the required allowance increases, additional loss is recognized.
 If the required allowance decreases, a gain on reversal of inventory write-down is recognized.
Gain should be limited only to the extent of the allowance balance. Gain on reversal is
presented as a reduction from cost of goods sold.

Cost of Goods sold before recovery from inventory write-down xxx

Less: recovery from inventory write-down xxx
Cost of goods sold after recovery from inventory write down xxx

 If the cost of inventory is lower than the net realizable value, no write down is necessary.

Illustration 1:
a. Lower of Cost or NRV by Item:

Total Valuation Lower of

Description Quantity Cost/unit Cost NRV/unit Basis Cost Or NRV
Material C 1,000 P 55 55,000 P 60 Cost 55,000
Material D 600 100 60,000 105 Cost 60,000
Material E 1,100 70 77,000 60 NRV 66,000
Total 192,000 181,000

Inventory, at cost = 192,000

Inventory valuation = 181,000
Inventory write- down = 11,000

Solution – Journal entry:

First Approach: (Direct method)
Debit Credit
Loss on inventory write-down 11,000
Materials Inventory 11,000
Write-down of inventory

Second Approach: (allowance method)

Debit Credit
Loss on inventory write-down 11,000
Allowance f or write-down of inventory 11,000
Write-down of inventory

Note: under the second approach, the inventory is carried at cost = P 192,000, and the allowance for
Write-down of inventory – a valuation accounts- is a deduction from the inventory account.

Materials inventory, cost 192,000

Less: Allowance f or write-down of inventory 11,000
Materials inventory at lower of cost or NRV 181,000

b) Lower of Cost or NRV by total:

Description Quantity Cost/unit Total cost NRV/unit Total NRV
Material C 1,000 P 55 55,000 P 60 60,000
Material D 600 100 60,000 105 63,000
Material E 1,100 70 77,000 60 66,000
Total 192,000 189,000

Inventory, at cost = 192,000

Inventory valuation = 189,000
Inventory write- down = 3,000
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Solution – Journal entry:

First Approach: (direct method)
Debit Credit
Loss on inventory write-down 3,000
Materials Inventory 3,000
Write-down of inventory

Second Approach: (allowance method)

Debit Credit
Loss on inventory write-down 3,000
Allowance f or write-down of inventory 3,000
Write-down of inventory

Illustration 2: Using the data in illustration 1. assume that there is an allowance for inventory write-down before
any adjustment at P 5,000: (allowance method)

a) By item - under the Second Approach: the journal entry would be:
Debit Credit
Loss on inventory write-down 6,000
Allowance f or write-down of inventory 6,000
Write-down of inventory

Note: the allowance for write down should be increased 6,000 to have a balance of P 11,000 after
adjustment.

b) By total – the journal entry under the second approach shall be:
Debit Credit
Allowance f or write-down of inventory 2,000
Recovery from write-down of inventory 2,000
Recovery from adjustment Write-down of inventory

Note: the allowance for write down should be decreased 2,000 to have a balance of P 3,000 after
adjustment.

Illustration 3: assume that the cost of the inventory is lower that the NRV and there is an allowance for
inventory write-down before any adjustment at P 5,000. The inventory is to be carried at cost and
the entry to close Allowance for write-down of inventory should be:

(Allowance method)
Debit Credit
Allowance f or write-down of inventory 5,000
Recovery from write-down of inventory 5,000
Recovery from adjustment Write-down of inventory

Note: the allowance for write down should be closed because the cost is lower than NRV.

Inventory Shortage or overage

To check the accuracy of perpetual inventory system, a physical count is necessary. Physical count can be
performed at the end of the accounting period or in a continuous or cycle inventory method. The result of the
actual count is compared with the materials ledger card. Difference may occur between the quantity of materials
per actual count and the quantity shown in the Materials ledger card. If quantity per account exceeds quantity
per materials ledger cars, there is an overage and it is entered under the Received column of the materials
ledger card using the cost of the last issue of that material. If the quantity per actual account is less than the
quantity per ledger card, there is shortage, and recorded by an entry under Issued column- the cost is
computed using the costing method (FIFO or moving average as if the missing materials were being charged
out on requisition on the closing date.
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Pro-forma entry to record:

net shortage:
Debit Credit
Factory overhead control xxx
Materials xxx
Net shortage per actual account

Net overage:
Debit Credit
Materials xxx
Factory overhead control xxx
Net overage

Special problems in Material Accounting

1. Discounts -
a. Trade discounts – are not recorded – purchases are recorded net of trade discounts.
b. Cash discounts – offered to encourage customers to pay within the discount period.
1) When taken method – purchases and liabilities are recorded at gross at the time of purchases and
discounts are recognized when the account is paid within the discount period.

2) When not taken – purchases and liabilities are recorded net of the discount, when payment is made
beyond the discount period, the discount no availed is charged to “ Purchase discount lost”.
3) When offered – purchases is recorded at net of the discount, the liability is recorded at gross and the
difference is charged or debited to “Allowance for Purchase discount”. When payment is made
beyond the discount period, the allowance for purchase discount is closed to “Purchased discount
lost”.

Illustration:
On July 15 , 2020, ABC Company purchases raw materials with a list price of P 200,000. Terms: 5%,
2/15, n/30.

REQUIRED: Entries to record the purchase and payments assuming a) full payment was made on July
28, 2020; b) full payment was made on August 10, 2020: under the following cases:

1: when taken method is used.

2. when not taken method is used
3. when offered method is used

Solution:
List Price 200,000
Less: Trade discount (5%) 10,000
Invoice Price 190,000

Case 1: when taken method is used – purchases and liability are recorded at gross.
Journal entries:
2020 Debit Credit
July 15 Materials Inventory 190,000
Accounts payable 190,000
Purchased. Terms: 5%, 2/15, n/30

a. If full payment is made on July 28, 2020: (within the discount period)
2020 Debit Credit
July 28 Accounts payable 190,000
Purchase discounts 3,800
Cash 186,200
Full payment
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b. If full payment is made on August 10, 2020: (beyond the discount period)
2020 Debit Credit
Aug. 10 Accounts payable 190,000
Cash 190,000
Full payment

Case 2: when not taken method is used – purchases and liability are recorded at net of the discount.

Journal entries:
2020 Debit Credit
July 15 Materials Inventory 186,2000
Accounts payable 186,200
Purchased. Terms: 5%, 2/15, n/30

a. If full payment is made on July 28, 2020: (within the discount period)

2020 Debit Credit

July 28 Accounts payable 186,200
Cash 186,200
Full payment

b. If full payment is made on August 10, 2020: (beyond the discount period)

2020 Debit Credit

Aug. 10 Accounts payable 186,200
Purchase discount lost 3,800
Cash 190,000
Full payment

Case 3 : when offered method is used

Journal entries:
2020 Debit Credit
July 15 Materials Inventory 186,2000
Allowance for purchase discount 3,800
Accounts payable 190,000
Purchased. Terms: 5%, 2/15, n/30

a. If full payment is made on July 28, 2020: (within the discount period)
2020 Debit Credit
July 28 Accounts payable 190,000
Allowance for purchase discount 3,800
Cash 186,200
Full payment

b. If full payment is made on August 10, 2020: (beyond the discount period)
2020 Debit Credit
Aug. 10 Accounts payable 190,000
Purchase discount lost 3,800
Cash 190,000
Allowance for purchase discount 3,800
Full payment
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2. Freight in

a. Direct charging - the freight cost incurred is added to the invoice price- debited to Materials Inventory
account. If two or more materials are purchased and delivered at the same time, the freight cost incurred
should be allocated using the following methods:

1. Relative peso value method – allocated on the basis of the peso value of the items purchased. This
is used if materials purchased are expressed in different terms of measurement.

2. Relative weight method - allocated based of the weight of the items purchased.

b. Indirect charging - the freight cost is charged to Factory overhead control.

Illustration:
An invoice for raw materials A, B and C is received from DAGAN Corporation. The invoice totals are:
A – P 25,000; B – P 15,000; C – P 10,000. The freight costs on this shipment weighing 10,000 kilos is
P 3,000. Shipping weights for the respective materials are 5,000, 2000 and 1,000, respectively. Terms:
2/30, FOB Shipping point, Freight prepaid.

REQUIRED:
1. Entry to record the purchase of materials and the freight using:
a. Direct charging method
b. Indirect charging method

2. The cost per kilo to be entered in the materials ledger cards for A, B and C, if freight is allocated
using:
a. Relative peso value method
b. Relative weight method

Solution:
Requirement 1:
a. Direct charging method:
Debit Credit
Materials Inventory 53,000
Accounts payable 53,000
Purchases. Terms: n/30

b. Indirect charging method:

Debit Credit
Materials Inventory 50,000
Factory overhead control 3,000
Accounts payable 53,000
Purchases. Terms: n/30

Requirement 2:
a) Relative peso value method

Materials Invoice Percentage Share in freight Total cost Cost/kilo

A 25,000 6% 1,500 26,500 5.30
B 15,000 6% 900 15,900 7.95
C 10,000 6% 600 10,600 10.60
50,000 3,000 53,000

Percentage = 3,000/50,000 = 6%
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b) Relative weight method

Materials Invoice Weight/kilo Freight/kl Share in freight Total cost Cost/kilo

A 25,000 5,000 0.375 1,875 26,875 5.375
B 15,000 2,000 0.375 750 15,750 7.875
C 10,000 1,000 0.375 375 10,375 10.375
50,000 8,000 3,000 53,000

Freight/kilo = 3,000/8,000 = 0.375

SCRAP MATERIALS AND WASTE MATERIALS

Scrap materials
 are left over from the production process that cannot be put back into production for the same
purpose, but may be usable for a different purpose or production process or which may be sold to
outsiders for a nominal amount.
 residue of a manufacturing process and often has a value.
 Usually stored until it is sold to scrap dealers or other individuals.

Accounting for Scrap Materials

The accounting procedures depends on:
a. When should the scarp be recognized?
b. How should the revenue from scrap be accounted for?

a. Recognize at the time of sale ( if scrap is sold quickly)

1. If the value of the scrap is immaterial, the entry to record scrap sales:

Debit Credit
Cash xxx
Scrap Revenue xxx
Sale of scrap materials

Note: Scrap Revenue is shown as other revenues in the income statement.

2. If the value of the scrap is material, the accounting depends on whether the scrap is:
a. Traceable or attributable to specific job, the entry would be:

Debit Credit
Cash xxx
Work in process xxx
Sale of scrap materials

Note: the credit to Work in process should be entered in the job cost sheet under the Materials
column in parenthesis, to deduct the proceeds from sale of scrap from the materials that
should be charged to the job.

b. Not traceable to specific job or common to all jobs,, the entry would be:
Debit Credit
Cash xxx
Factory overhead control xxx
Sale of scrap materials

Note: the credit to Factory overhead control is also recorded in the overhead analysis sheet
in parenthesis, to deduct the proceeds from sale of scrap from the factory overhead
control account.
 52

b. Recognize at the time of production ( if scrap is not sold immediately)

1. The entry to record the scrap materials returned to the storeroom would be:

a. Traceable or attributable to specific job, the entry would be:

Debit Credit
Scrap Materials xxx
Work in process xxx
Scrap returned to storeroom

Note: the credit to Work in process should be entered in the job cost sheet under the Materials
column in parenthesis, to deduct the value of scrap from the materials that should be
charged to the job.

b. Not traceable to specific job or common to all jobs, the entry would be:
Debit Credit
Scrap Materials xxx
Factory overhead control xxx
scrap returned to storeroom.

Note: the credit to Factory overhead control is also recorded in the overhead analysis sheet
in parenthesis, to deduct the value of scrap from the factory overhead control account.

2. the entry to record the sale of Scrap Materials

a. If sold at carrying value, the entry would be:

Debit Credit
Cash or Accounts Receivable xxx
Scarp materials xxx
Sale of scrap

c. If sold at less than the carrying value, the entry would be:
Debit Credit
Cash or Accounts Receivable xxx
WIP or FOC xx
Scrap materials xxx
Sale of scrap

Note: the difference between the Sales price and the carrying value of the scrap is an adjustment
to the account originally credited at the time the scarp was recognized or recorded.

c. If scarp materials will be reused as direct materials,

1. the entry to record scrap returned to storeroom would be ( assuming common to all jobs)
Debit Credit
Materials Inveotry xxx
Factory overhead control xxx
scrap returned to storeroom.

2. when reused as direct materials, the entry would be:

Debit Credit
Work in process xx
Materials Inventory xxx
 53

Reuse of scrap
Waste materials
 are left over from the production process that has no further use or resale value and may require cost
for their disposal.
 Not usually salable at any price and must be discarded.
 The cost of disposing the waste materials may be allocated to either all jobs ( included in FO applied
application ratio) ot to specific job (not included in the FO application rate).

a) Allocate to all jobs

Debit Credit
Factory overhead control xxx
Accounts payable xxx
Cost of disposing waste materials

b) Allocate to specific job

Debit Credit
Work in process (Job #) xxx
Accounts payable xxx
Cost of disposing waste materials

SPOILLED UNITS and DEFECTIVE UNITS,

Spoiled units – units that do not meet production standard s and are either sold for their salvage value or
discarded. When spoiled units are discovered they are taken out of production and no further
work is performed on them.

Defective units – are units that do not meet production standards and must be processed further in order to be
salable as good units or as irregulars.

Two methods of accounting for Spoiled materials

1. Charged to specific job

 Used if the reason for the spoilage is the job itself because of complicated manufacturing process.
 Increased the unit cost of the completed products.
 Pro-forma entry:
Spoiled goods xxx
Work in process xxx

Note: the amount of spoiled goods = No. of units spoiled x estimated sales value per unit

2. Charged to all production

 used if the reason for spoilage is considered normal to the process and the number does not
exceed the limit set by the company.

 all units manufactured during the period are charged with an additional cost which added to
factory overhead rate.

 Pro forma entry:

Spoiled goods xxx
Factory overhead control xxx
Work in process xxx

Note:1. the amount of spoiled goods = No. of units spoiled x estimated sales value per unit
2. the amount of the work in process = total cost incurred/charged to spoiled units
 54

3. the loss is charged to factory overhead control.

Illustration:
ART Company received an order of 2,000 units of Product A, with these unit costs:
Direct materials P 10.00
Direct labor 12.00
Factory overhead ( includes P 1.00 allowance
for spoiled units ) 11.00
Total P 33.00

When the order was completed, 20 rejected units, a normal number, were sold for P 20 each.

REQUIRED: Journal entry(ies) if the loss is:

a. Charged to all production
b. Charged to the specific job.

Solution:
a. Charged to all production.
Debit Credit
a. Work in process 66,000
Materials Inventory 20,000
Payroll 24,000
Factory overhead applied 22,000
Manufacturing cost applied

b. Spoiled goods 400

Factory overhead control 260
Work in process 660
Spoiled goods

c. Cash 400
Spoiled goods 400
Sale of spoiled goods

d. Finished goods 65,340

Work in process 65,340
Goods completed

Note: Under this method, the unit cost of completed units remains the same P 33 (65,340/1980) per
unit because the P 1 allowance for spoiled was charged to all production (Factory Overhead
applied = 2,000 x 11).

b) Charged to specific job.

Debit Credit
a. Work in process 64,000
Materials Inventory 20,000
Payroll 24,000
Factory overhead applied 20,000
Manufacturing cost applied

b. Spoiled goods 400

Work in process 400
Spoiled goos

c. Cash 400
Spoiled goods 400
Sale of spoiled goods

d. Finished goods 63,600

Work in process 63,600
 55

Cost of goods completed.

Note: Under this method the unit cost of completed units increases from P 32/unit ( 64,000/2,000) to
P 32.12 (63,600/1980) per unit because of the loss on spoiled units. The Factory overhead was
Applied to production at net of the allowance for spoiled unit (Factory Overhead applied = 2,000 x
10). The loss on spoiled units will be absorbed by the remaining good units.

Cost of spoiled units ( 20 units x P 32) 640

Less: amount recovered ( 20 x P 20) 400
Loss on spoiled units 240

Increase in the units cost of good units = 240/1980 = .12/unit

Accounting for Defective Units

1. charged to all production

 If the reason is normal to the process and the defective do not exceed the normal limit, the additional
cost will be charged to all production or all units processed during the period.

 Pro-forma entry to record additional costs incurred:

Factory overhead control xxx

Materials xxx
Direct labor xxx
Factory overhead applied xxx

2. charged to specific jobs

 Same as spoiled units – if the reason is the job itself, the additional cost will be charged to all the units
in the job.

 Pro-forma entry to record additional costs incurred:

Work in process xxx
Materials xxx
Direct labor xxx
Factory overhead applied xxx

Illustration:

ART Company received an order of 2,000 units of Product A, with these unit costs:
Direct materials P 10.00
Direct labor 12.00
Factory overhead ( includes P 1.00 allowance
For defective units ) 11.00

Total P 33.00

During the process 50 units were found to be defective and will required additional costs of: Materials,
P 250, labor, P 200 and overhead of P 150.

REQUIRED: Journal entry(ies) if the additional cost is:

a. Charged to all production
b. Charged to the specific job.

Solution:
a. Charged to all production.
Debit Credit
a. Work in process 66,000
Materials Inventory 20,000
Payroll 24,000
Factory overhead applied 22,000
 56

Manufacturing cost applied

b. Factory overhead control 600

Materials inventory 250
Payroll 200
Factory overhead applied 150
Additional costs incurred for defective units

c. Finished goods 66,000

Work in process 66,000
Goods completed

Note: Under this method, the unit cost of completed units remains the same P 33 (66,000/2,000) per
unit because the additional costs of defective was charged to Factory overhead control account

b) Charged to specific job.

Debit Credit
a. Work in process 64,000
Materials Inventory 20,000
Payroll 24,000
Factory overhead applied 20,000
Manufacturing cost applied

b. Work in process 600

Materials inventory 250
Payroll 200
Factory overhead applied 150
Additional costs incurred for defective units

d. Finished goods 64,600

Work in process 64,600
Cost of goods completed.

Note: Under this method the unit cost of completed units will increase from P 32/unit ( 64,000/2,000) to
P 32.30 (64,600/2,000) per unit because the additional costs incurred for defective units is charged
to work in process, so all the units in the job will share in the cost incurred to rework the defective
units.

End