11th Edition
Chapter 3
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Systems Design:
Job-Order Costing
Chapter Three
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Types of Product Costing Systems
Process
Costing
Job-order
Costing

A company produces many units of a single
product.

One unit of product is indistinguishable from
other units of product.

The identical nature of each unit of product enables
assigning the same average cost per unit.
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Types of Product Costing Systems
Process
Costing
Job-order
Costing

A company produces many units of a single
product.companies:
Example

unit of product
is indistinguishable
1.One
Weyerhaeuser
(paper
manufacturing) from
units Aluminum
of product.(refining aluminum ingots)
2.other
Reynolds
identical(mixing
nature and
of each
unit beverages)
of product enables
3.The
Coca-Cola
bottling

assigning the same average cost per unit.
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Types of Product Costing Systems
Process
Costing
Job-order
Costing

Many different products are produced each period.

Products are manufactured to order.

The unique nature of each order requires tracing or
allocating costs to each job, and maintaining cost
records for each job.
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Types of Product Costing Systems
Process
Costing



Job-order
Costing
Many different products are produced each period.
Example companies:
Products are manufactured to order.
1. Boeing (aircraft manufacturing)
unique
nature of each
order
requires
tracing or
2.The
Bechtel
International
(large
scale
construction)
allocating costs to each job, and maintaining cost
3.records
Walt Disney
Studios
for each
job. (movie production)
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Comparing Process and Job-Order Costing
Job-Order
Number of jobs worked
Cost accumulated by
Average cost computed by
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Process
Many
Individual
Job
Single Product
Job
Department
Department
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Quick Check 
Which of the following companies would
be likely to use job-order costing rather
than process costing?
a. Scott Paper Company for Kleenex.
b. Architects.
c. Heinz for ketchup.
d. Caterer for a wedding reception.
e. Builder of commercial fishing vessels.
McGraw-Hill/Irwin
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Quick Check 
Which of the following companies would
be likely to use job-order costing rather
than process costing?
a. Scott Paper Company for Kleenex.
b. Architects.
c. Heinz for ketchup.
d. Caterer for a wedding reception.
e. Builder of commercial fishing vessels.
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Direct Manufacturing Costs
Direct Materials
Job No. 1
Direct Labor
Manufacturing
Overhead
McGraw-Hill/Irwin
Job No. 2
Job No. 3
Charge
direct
material and
direct labor
costs to
each job as
work is
performed.
Copyright © 2006, The McGraw-Hill Companies, Inc.
Direct Manufacturing Costs
Direct Materials
Job No. 1
Direct Labor
Manufacturing
Overhead
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Job No. 2
Job No. 3
Manufacturing
Overhead,
including
indirect
materials and
indirect labor,
are allocated to
jobs rather than
directly traced
to each job.
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Job-Order Cost Accounting
PearCo Job Cost Sheet
Job Number A - 143
Department B3
Item Wooden cargo crate
Direct Materials
Req. No. Amount
Direct Labor
Manufacturing Overhead
Ticket Hours Amount Hours
Rate
Amount
Cost Summary
Direct Materials
Direct Labor
Manufacturing Overhead
Total Cost
Unit Product Cost
McGraw-Hill/Irwin
Date Initiated 3-4-05
Date Completed
Units Completed
Units Shipped
Date Number Balance
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Materials Requisition Form
Will E. Delite
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Job-Order Cost Accounting
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Employee Time Ticket
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Job-Order Cost Accounting
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Why Use an Allocation Base?
Manufacturing overhead is applied to jobs that
are in process. An allocation base, such as
direct labor hours, direct labor dollars, or
machine hours, is used to assign
manufacturing overhead to individual jobs.
We use an allocation base because:
1. It is impossible or difficult to trace overhead costs to particular jobs.
2. Manufacturing overhead consists of many different items ranging
from the grease used in machines to production manager’s salary.
3. Many types of manufacturing overhead costs are fixed even though
output fluctuates during the period.
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Manufacturing Overhead Application
The predetermined overhead rate (POHR)
used to apply overhead to jobs is
determined before the period begins.
POHR =
Estimated total manufacturing
overhead cost for the coming period
Estimated total units in the
allocation base for the coming period
Ideally, the allocation base
is a cost driver that causes
overhead.
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The Need for a POHR
Using a predetermined rate makes it
possible to estimate total job costs sooner.
$
Actual overhead for the period is not
known until the end of the period.
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Application of Manufacturing Overhead
Based on estimates, and
determined before the
period begins.
Overhead applied = POHR × Actual activity
Actual amount of the allocation
based upon the actual level of
activity.
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Overhead Application Rate
POHR =
POHR =
Estimated total manufacturing
overhead cost for the coming period
Estimated total units in the
allocation base for the coming period
$640,000
160,000 direct labor hours (DLH)
POHR = $4.00 per DLH
For each direct labor hour worked on a
particular job, $4.00 of factory overhead
will be applied to that job.
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Job-Order Cost Accounting
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Job-Order Cost Accounting
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Interpreting the Average Unit Cost
The average unit cost should not be interpreted
as the costs that would actually be incurred if an
additional unit were produced.
Fixed overhead would not change if another unit
were produced, so the incremental cost of
another unit may be somewhat less than $118.
McGraw-Hill/Irwin
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Quick Check 
Job WR53 at NW Fab, Inc. required $200 of
direct materials and 10 direct labor hours at
$15 per hour. Estimated total overhead for
the year was $760,000 and estimated direct
labor hours were 20,000. What would be
recorded as the cost of job WR53?
a. $200.
b. $350.
c. $380.
d. $730.
McGraw-Hill/Irwin
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Quick Check 
Job WR53 at NW Fab, Inc. required $200 of
direct materials and 10 direct labor hours at
$15 per hour. Estimated total overhead for
the year was $760,000 and estimated direct
labor hours were 20,000. What would be
recorded as the cost of job WR53?
Pred. ovhd. rate $760,000/20,000hours
$38
a. $200.
materials
$200
b. $350. Direct
Direct labor
$15 x 10 hours $150
c. $380. Manufacturing overhead $38 x 10 hours $380
Total cost
$730
d. $730.
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Job-Order Costing
Document Flow Summary
Let’s summarize
the document flow
in a job-order
costing system.
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Job-Order Costing
Document Flow Summary
A sales order is the
basis of issuing a
production order.
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A production
order initiates
work on a job.
Copyright © 2006, The McGraw-Hill Companies, Inc.
Job-Order Costing
Document Flow Summary
Materials used
may be either
direct or
indirect.
Direct
materials
Job Cost
Sheets
Materials
Requisition
Indirect
materials
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Manufacturing
Overhead
Account
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Job-Order Costing
Document Flow Summary
An employee’s
time may be either
direct or indirect.
Direct
Labor
Job Cost
Sheets
Employee Time
Ticket
Indirect
Labor
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Manufacturing
Overhead
Account
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Job-Order Costing
Document Flow Summary
Employee
Time Ticket
Other
Actual OH
Charges
Materials
Requisition
McGraw-Hill/Irwin
Indirect
Labor
Manufacturing Applied
Overhead
Overhead
Account
Job Cost
Sheets
Indirect
Material
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Job-Order System Cost Flows
Let’s examine the
cost flows in a
job-order costing
system.
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Job-Order System Cost Flows
Raw Materials
Material Direct
Purchases Materials
Indirect
Materials

Work in Process
(Job Cost Sheet)
Direct
Materials

Mfg. Overhead
Actual Applied
Indirect
Materials
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Cost Flows – Material Purchases
Raw material purchases are recorded in an
inventory account.
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Cost Flows – Material Usage
Direct materials issued to a job increase Work in
Process and decrease Raw Materials. Indirect
materials used are charged to Manufacturing
Overhead and also decrease Raw Materials.
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Job-Order System Cost Flows
Salaries and
Wages Payable
Direct
Labor
Indirect
Labor

Work in Process
(Job Cost Sheet)
Direct
Materials
Direct
Labor

Mfg. Overhead
Actual
Indirect
Materials
Indirect
Labor
McGraw-Hill/Irwin
Applied
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Cost Flows – Labor
The cost of direct labor incurred increases Work in
Process and the cost of indirect labor increases
Manufacturing Overhead.
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Job-Order System Cost Flows
Salaries and
Wages Payable
Direct
Labor
Indirect
Labor

Work in Process
(Job Cost Sheet)
Direct
Materials
Direct
Labor

Mfg. Overhead
Actual Applied
Indirect
Materials
Indirect
Labor
Other
Overhead
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Cost Flows – Actual Overhead
In addition to indirect materials and indirect labor,
other manufacturing overhead costs are charged to
the Manufacturing Overhead account as they are
incurred.
McGraw-Hill/Irwin
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Job-Order System Cost Flows
Salaries and
Wages Payable
Direct
Labor
Indirect
Labor

Mfg. Overhead
Actual Applied
Indirect
Materials Overhead
Indirect
Applied to
Labor
Work in
Other
Process
Overhead
McGraw-Hill/Irwin
Work in Process
(Job Cost Sheet)
Direct
Materials
Direct
Labor
Overhead
Applied

If actual and applied
manufacturing overhead
are not equal, a year-end
adjustment is required.
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Cost Flows – Overhead Applied
Work in Process is increased when
Manufacturing Overhead is applied to jobs.
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Nonmanufacturing Cost Flows
Nonmanufacturing costs are not assigned to
individual jobs, rather they are expensed in the
period incurred.
Examples:
1.
Salary expense of employees
that work in a marketing, selling,
or administrative capacity.
2.
Advertising expenses are expensed
in the period incurred.
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Nonmanufacturing Cost Flows
Nonmanufacturing costs (period expenses) are
charged to expense as they are incurred.
McGraw-Hill/Irwin
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Job-Order System Cost Flows
Work in Process
(Job Cost Sheet)
Direct
Materials
Direct
Labor
Overhead
Applied

McGraw-Hill/Irwin
Finished Goods
Cost of
Goods
Mfd.

Cost of
Goods
Mfd.

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Cost Flows – Cost of Goods Manufactured
As jobs are completed, the Cost of Goods
Manufactured is transferred to Finished Goods
from Work in Process.
McGraw-Hill/Irwin
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Job-Order System Cost Flows
Work in Process
(Job Cost Sheet)
Direct
Materials
Direct
Labor
Overhead
Applied

Finished Goods
Cost of
Goods
Mfd.

Cost of
Goods
Mfd.

Cost of
Goods
Sold

Cost of Goods Sold
Cost of
Goods
Sold

McGraw-Hill/Irwin
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Cost Flows – Sales
When finished goods are sold, two entries are
required: (1) to record the sale, and (2) to
record COGS and reduce Finished Goods.
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Defining Under- and Overapplied Overhead
The difference between the overhead cost applied to
Work in Process and the actual overhead costs of a
period is termed either underapplied or overapplied
overhead.
Underapplied overhead
exists when the amount of
overhead applied to jobs
during the period using the
predetermined overhead
rate is less than the total
amount of overhead actually
incurred during the period.
McGraw-Hill/Irwin
Overapplied overhead
exists when the amount of
overhead applied to jobs
during the period using the
predetermined overhead
rate is greater than the total
amount of overhead actually
incurred during the period.
Copyright © 2006, The McGraw-Hill Companies, Inc.
Overhead Application Example
PearCo’s actual overhead for the year was
$650,000 with a total of 170,000 direct labor
hours worked on jobs.
How much total overhead was applied to
PearCo’s jobs during the year? Use
PearCo’s predetermined overhead rate of
$4.00 per direct labor hour.
Overhead Applied During the Period
Applied Overhead = POHR × Actual Direct Labor Hours
Applied Overhead = $4.00 per DLH × 170,000 DLH = $680,000
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Overhead Application Example
PearCo’s actual overhead for the year was
$650,000 with a total of 170,000 direct labor
hours worked on jobs.
PearCo
has
overapplied
How much total overhead was applied to
overhead for the year
PearCo’s jobs during the year? Use
by $30,000. What will
PearCo’s
predetermined overhead rate of
PearCo do?
$4.00 per direct labor hour.
Overhead Applied During the Period
Applied Overhead = POHR × Actual Direct Labor Hours
Applied Overhead = $4.00 per DLH × 170,000 DLH = $680,000
McGraw-Hill/Irwin
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Quick Check 
Tiger, Inc. had actual manufacturing overhead
costs of $1,210,000 and a predetermined
overhead rate of $4.00 per machine hour. Tiger,
Inc. worked 290,000 machine hours during the
period. Tiger’s manufacturing overhead is
a. $50,000 overapplied.
b. $50,000 underapplied.
c. $60,000 overapplied.
d. $60,000 underapplied.
McGraw-Hill/Irwin
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Quick Check 
Tiger, Inc. had actual manufacturing overhead
costs of $1,210,000 and a predetermined
overhead rate of $4.00 per machine hour. Tiger,
Inc. worked 290,000 machine
hours during the
Overhead Applied
$4.00 per overhead
hour × 290,000
period. Tiger’s manufacturing
is hours
= $1,160,000
a. $50,000 overapplied.
b. $50,000
Underapplied Overhead
$1,210,000 - $1,160,000
underapplied.
= $50,000
c. $60,000 overapplied.
d. $60,000 underapplied.
McGraw-Hill/Irwin
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Disposition of Under- or Overapplied Overhead
PearCo’s Method
$30,000
may be allocated
to these accounts.
$30,000 may be
closed directly to
cost of goods sold.
OR
Work in
Process
Finished
Goods
Cost of
Goods Sold
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Cost of
Goods Sold
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Disposition of Under- or Overapplied Overhead
PearCo’s Cost
of Goods Sold
Actual Overhead
overhead applied
costs
to jobs
Unadjusted
Balance
$30,000
Adjusted
Balance
McGraw-Hill/Irwin
PearCo’s
Mfg. Overhead
$650,000
$30,000
$680,000
$30,000
overapplied
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Allocating Under- or Overapplied
Overhead Between Accounts
Assume the overhead applied in ending Work in
Process Inventory, ending Finished Goods
Inventory, and Cost of Goods Sold is shown below:
Work in process
Finished Goods
Cost of Goods Sold
Total
McGraw-Hill/Irwin
Amount
$
68,000
204,000
408,000
$
680,000
Percent of
Total
10%
30%
60%
100%
Allocation of
$30,000
$
3,000
9,000
18,000
$
30,000
Copyright © 2006, The McGraw-Hill Companies, Inc.
Allocating Under- or Overapplied
Overhead Between Accounts
We would complete the following allocation of
$30,000 overapplied overhead:
Work in process
Finished Goods
Cost of Goods Sold
Total
McGraw-Hill/Irwin
Amount
$
68,000
204,000
408,000
$
680,000
Percent of
Total
10%
30%
60%
100%
Allocation of
$30,000
$
3,000
9,000
18,000
$
30,000
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Allocating Under- or Overapplied
Overhead Between Accounts
Work in process
Finished Goods
Cost of Goods Sold
Total
McGraw-Hill/Irwin
Amount
$
68,000
204,000
408,000
$
680,000
Percent of
Total
10%
30%
60%
100%
Allocation of
$30,000
$
3,000
9,000
18,000
$
30,000
Copyright © 2006, The McGraw-Hill Companies, Inc.
Overapplied and Underapplied Manufacturing
Overhead - Summary
PearCo’s
Method
If Manufacturing
Overhead is . . .
UNDERAPPLIED
Alternative 1
Close to Cost
of Goods Sold
Alternative 2
INCREASE
Cost of Goods Sold
INCREASE
Work in Process
Finished Goods
Cost of Goods Sold
DECREASE
Cost of Goods Sold
DECREASE
Work in Process
Finished Goods
Cost of Goods Sold
(Applied OH is less
than actual OH)
OVERAPPLIED
(Applied OH is greater
than actual OH)
McGraw-Hill/Irwin
Allocation
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Quick Check 
What effect will the overapplied overhead
have on PearCo’s net operating income?
a. Net operating income will increase.
b. Net operating income will be unaffected.
c. Net operating income will decrease.
McGraw-Hill/Irwin
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Quick Check 
What effect will the overapplied overhead
have on PearCo’s net operating income?
a. Net operating income will increase.
b. Net operating income will be unaffected.
c. Net operating income will decrease.
McGraw-Hill/Irwin
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Multiple Predetermined Overhead Rates
To this point we have assumed that there is a
single predetermined overhead rate called a
plantwide overhead rate.
Large companies
often use multiple
predetermined
overhead rates.
McGraw-Hill/Irwin
May be more
complex but . . .
May be more
accurate because it
reflects differences
across departments.
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Job-Order Costing in Service Companies
Job-order costing is used in many
difference types of service companies.
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The Use of Information Technology
Technology plays an important part in many
job-order cost systems. When combined with
Electronic Data Interchange (EDI) or a webbased programming language called
Extensible Markup Language (XML), bar
coding eliminates the inefficiencies and
inaccuracies associated with manual clerical
processes.
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Appendix 3a
The Predetermined Overhead
Rate & Capacity
McGraw-Hill/Irwin
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Predetermined Overhead Rate and Capacity
Calculating predetermined overhead rates using
an estimated, or budgeted amount of the
allocation base has been criticized because:
1. Basing the predetermined overhead rate upon
budgeted activity results in product costs that
fluctuate depending upon the activity level.
2. Calculating predetermined rates based upon
budgeted activity charges products for costs that
they do not use.
McGraw-Hill/Irwin
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Capacity-Based Overhead Rates
Criticisms can be overcome by using
estimated total units in the allocation base at
capacity in the denominator of the
predetermined overhead rate calculation.
Let’s look at the difference!
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An Example
Equipment is leased for $100,000 per year.
Running at full capacity, 50,000 units may be
produced. The company estimates that 40,000 units
will be produced and sold next year. What is the
predetermined overhead rate?
McGraw-Hill/Irwin
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An Example
Equipment is leased for $100,000 per year.
Running at full capacity, 50,000 units may be
produced. The company estimates that 40,000 units
will be produced and sold next year. What is the
predetermined overhead rate?
McGraw-Hill/Irwin
Traditional
=
Method
$100,000
40,000
= $2.50 per unit
Capacity
Method
$100,000
50,000
= $2.00 per unit
=
Copyright © 2006, The McGraw-Hill Companies, Inc.
Quick Check 
Crest Winery in Woodinville leases an automatic
corking machine for $100,000 per year. If run at
full capacity, it can cork 50,000 cases of wine
per year. The company estimates 40,000 cases
of wine will be produced and sold next year.
What is the predetermined overhead rate based
on the estimated number of cases of wine?
a. $2.00 per case.
b. $2.50 per case.
c. $4.00 per case.
McGraw-Hill/Irwin
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Quick Check 
Crest Winery in Woodinville leases an automatic
corking machine for $100,000 per year. If run at
full capacity, it can cork 50,000 cases of wine
per year. The company estimates 40,000 cases
of wine will be produced and sold next year.
What is the predetermined overhead rate based
on the estimated number of cases of wine?
a. $2.00 per case.
b. $2.50 per case.
c. $4.00 per case.
McGraw-Hill/Irwin
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Quick Check 
Crest Winery in Woodinville leases an automatic
corking machine for $100,000 per year. If run at
full capacity, it can cork 50,000 cases of wine
per year. The company estimates 40,000 cases
of wine will be produced and sold next year.
What is the predetermined overhead rate based
on the number of cases of wine at capacity?
a. $2.00 per case.
b. $2.50 per case.
c. $4.00 per case.
McGraw-Hill/Irwin
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Quick Check 
Crest Winery in Woodinville leases an automatic
corking machine for $100,000 per year. If run at
full capacity, it can cork 50,000 cases of wine
per year. The company estimates 40,000 cases
of wine will be produced and sold next year.
What is the predetermined overhead rate based
on the number of cases of wine at capacity?
a. $2.00 per case.
b. $2.50 per case.
c. $4.00 per case.
McGraw-Hill/Irwin
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Quick Check 
When capacity is used in the denominator in the
predetermined rate, what happens to the
predetermined overhead rate as estimated
activity decreases?
a. The predetermined overhead rate goes up when
activity goes down.
b. The predetermined overhead rate stays the
same; it is not affected by changes in activity.
c. The predetermined overhead rate goes down
when activity goes down.
McGraw-Hill/Irwin
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Quick Check 
When capacity is used in the denominator in the
predetermined rate, what happens to the
predetermined overhead rate as estimated
activity decreases?
a. The predetermined overhead rate goes up when
activity goes down.
b. The predetermined overhead rate stays the
same; it is not affected by changes in activity.
c. The predetermined overhead rate goes down
when activity goes down.
McGraw-Hill/Irwin
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Quick Check 
When estimated activity is used in the
denominator in the predetermined rate, what
happens to the predetermined overhead rate as
estimated activity decreases?
a.The predetermined overhead rate goes up when
activity goes down.
b.The predetermined overhead rate stays the
same; it is not affected by changes in activity.
c.The predetermined overhead rate goes down
when activity goes down.
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Copyright © 2006, The McGraw-Hill Companies, Inc.
Quick Check 
When estimated activity is used in the
denominator in the predetermined rate, what
happens to the predetermined overhead rate as
estimated activity decreases?
a.The predetermined overhead rate goes up when
activity goes down.
b.The predetermined overhead rate stays the
same; it is not affected by changes in activity.
c.The predetermined overhead rate goes down
when activity goes down.
McGraw-Hill/Irwin
Copyright © 2006, The McGraw-Hill Companies, Inc.
Basing the rate on capacity
Actual volume
Selling price
Variable production cost
Fixed manufacturing overhead
Capacity
Predetermined overhead rate
Fixed selling and admin. expense
Revenue
Cost of goods sold
Gross margin
Cost of idle capacity
Selling and admin. expense
Net operating income
McGraw-Hill/Irwin
40,000
$40.00
$24.00
$100,000
50,000
$2.00
$500,000
cases
per case
per case
per year
cases
per case
per year
$ 1,600,000
1,040,000
560,000
20,000
500,000
$
40,000
Copyright © 2006, The McGraw-Hill Companies, Inc.
Basing the rate on expected volume
Actual volume
Selling price
Variable production cost
Fixed manufacturing overhead
Expected volume
Predetermined overhead rate
Fixed selling and admin. expense
Revenue
Cost of goods sold
Gross margin
Cost of idle capacity
Selling and admin. expense
Net operating income
McGraw-Hill/Irwin
40,000
$40.00
$24.00
$100,000
40,000
$2.50
$500,000
cases
per case
per case
per year
cases
per case
per year
$ 1,600,000
1,060,000
540,000
500,000
$
40,000
Copyright © 2006, The McGraw-Hill Companies, Inc.
End of Chapter 3
McGraw-Hill/Irwin
Copyright © 2006, The McGraw-Hill Companies, Inc.
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