Chapter 2, Problem 2PSB

To determine

Overhead:

Overheads are the cost and the expenses a company incurs of the production of a particular goods or services which are not directly related to the production. It does not include labor and direct material.

Direct Material Cost:

Direct material cost is the cost that a company incurs while manufacturing a certain product or service. It includes all the cost and expenses that are directly associated with the production such as raw materials.

Direct Labor Cost:

Direct labor cost is the cost that a company incurs in giving wages to the people that are directly associated with the production work.

Journal Entries:

Journal entries are the entries that are made in the books of accounts to record every transaction that happens in the business in the chronological order.

Accounting rules for journal entries:

To Increase balance of the account: Debit assets, expenses, losses and credit all liabilities, capital, revenue and gains.

To Decrease balance of the account: Credit assets, expenses, losses and debit all liabilities, capital, revenue and gains.

Adjusted Trial Balance:

It is a statement which contain balances of all account after all the adjusting entries has been made.

Income Statement:

It is a financial statement which show the profit and loss made by the firm in a particular accounting period.

Balance sheet:

It shows the financial position of a firm. It consists of asset and liabilities.

1.

To prepare: Journal entries.

Explanation of Solution

a.

To record the entry to assign direct materials cost to work in process inventory.

Date	Account Title and Explanation	Post ref	Debit ($)	Credit ($)
	Work in Process inventory		12,200
	Raw materials inventory			12,200
	(To record raw materials assign to job)
Table (1)

• Work in process inventory is an asset account. The account increases as the raw materials are used in work in process that increases the balance of the work in process inventory account, hence it is debited.
• Raw materials inventory is an asset account. The account decreases as the raw materials are used in the work in process.

Working Notes:

Given,
Direct material to job 603 is $4,600.
Direct material to job 604 is $7,600.

Computation of total direct materials,
$\begin{array}{c}\text{Total}\text{Direct}\text{Materials}=\text{Direct materials to job 603}+\text{Direct materials to job 6}04\\ =\$4,600+\$7,600\\ =\$12,200\end{array}$

Total Direct materials are $12,200.

b.

To record the entry to assign direct labor cost to work in process inventory.

Date	Account Title and Explanation	Post ref	Debit ($)	Credit ($)
	Work in Process inventory		13,000
	Factory Wage Payable			13,000
	(To record cost of direct labor to job)
Table (2)

• Work in process inventory is an asset account. The account increases as the direct labor has been used in work in process inventory that increases the asset, hence it is debited.
• Factory Wage payable is an expense account. The account decreases as the expenses of direct labor are transferred to work in process inventory, hence it is credited.

Working note:

Given,
Direct labor assigned to job 603 is $5,000.
Direct labor assigned to job 604 is $8,000.

Computation of total direct labor,

$\begin{array}{c}\text{Total}\text{Direct}\text{Labor}=\left(\begin{array}{l}\text{Direct labor assigned to job 603}\\ +\text{Direct labor assigned to job 6}04\end{array}\right)\\ =\$5,000+\$8,000\\ =\$13,000.\end{array}$

Hence, the total direct labor is $13,000.

c.

To Record overhead applied.

Date	Account Title and Explanation	Post ref	Debit ($)	Credit ($)
	Work In Process		26,000
	Overhead			26,000
	(To assign cost of overhead to job)
Table (3)

• Work in process is an asset account. The account increases as the overhead is assigned to job as this increase the work in process, hence it is debited.
• Overhead is an expense account. The Account decreases as the overhead is assigned and transferred to work in process, hence it is credited.

Working note:

Given,
Overhead rate is 200%.

Formula to calculate the applied overhead,

$\text{Applied}\text{Overhead}=\text{Direct}\text{Labor}\text{Cost}\times \text{Overhead}\text{Rate}$

Substitute $13,000 for direct labor cost and 200% for overhead rate.

$$ $\begin{array}{c}\text{Applied}\text{Overhead}=\$13,000\times 200\%\\ =\$26,000\end{array}$

Hence, applied overhead is $26,000.

d.

To record indirect material costing $2,100

Date	Account Title and Explanation	Post ref	Debit ($)	Credit ($)
	Factory Overhead account		2,100
	Inventory-raw material			2,100
	(To record the overhead cost)
Table (4)

• Factory overhead is an expense account. Factory overhead increases as there is an indirect expense and all the expenses are debited.
• Inventory raw materials are an asset account. Inventory decreases as the expense is not directly related to the production and all the assets are credited as their value decreases.

e.

To record indirect labor

Date	Account Title and Explanation	Post ref	Debit ($)	Credit ($)
	Factory Overhead		3,000
	Factory Wages Payable			3,000
	(To record the overhead cost)
Table (5)

• Factory overhead is an expense account. Factory overhead increases as there is an indirect labor and all the expenses are debited.
• Factory Wages payable is an expense account. The account decreases as the balance of the indirect labor is transferred to factory overhead, hence it is credited.

2.

To determine

To prepare: T account for factory overhead and journal entry.

Explanation of Solution

Factory Overhead
Date	Particular	Debit ($)	Date	Particular	Credit ($)
	Balance b/f	27,000		Work in process inventory	26,000
	Raw materials inventory	2,100		Balance c/f	6,100
	Factory Wages Payable	3,000
		32,100			32,100
Table (6)

Hence, the under applied overhead and the balance figure is $32,100

To record the entry for under applied overhead

Date	Account Title and Explanation	Post ref	Debit ($)	Credit ($)
	Factory Overhead		32,100
	Cost of goods sold			32,100
	(To record under applied overhead)
Table (7)

• Factory overhead is an expense account. The account increases as the balance of over applied overhead has been transferred to factory overhead, hence it is debited.
• Cost of goods sold is an expense account. The account decreases as over applied goods is reduced from cost of goods sold that decreases the balance of cogs account. Hence, it is credited.

3.

To determine

To prepare: Trial balance.

Explanation of Solution

Adjusted Trial Balance
Particulars	Debit ($)	Credit ($)
Cash	64,000
Accounts Receivable	42,000
Raw materials inventory	11,700
Work in Process inventory	51,200
Finished goods inventory	9,000
Prepaid Rent	3,000
Factories Wage Payable		16,000
Accounts Payable		10,500
Notes Payable		13,500
Common Stock		30,000
Retained Earnings		87,000
Sales		180,000
Cost of goods sold	111,100
Operating Expense	45,000
Total	337,000	337,000
Table (8)

Hence, the trial balance is matched.

4.

To determine

To prepare: The income statement.

Explanation of Solution

BB System
Statement of Income
For the year ended on December 31
Details	Amount ($)
Sales revenue	180,000
Less: Cost of goods sold	(111,100)
Gross income	68,900
Less: Operating expense	(45,000)
Net income	23,900
Table (9)

Hence, the net income is $23,900.

5

To determine

To prepare: Balance sheet.

Explanation of Solution

BB System
Balance Sheet as on 31st December, 2017.
Details	Amount ($)	Amount ($)
Current Assets:
Cash	64,000
Accounts Receivable	42,000
Raw Material inventory	11,700
Work in process inventory	51,200
Finished goods inventory	9,000
Prepaid Rent	3,000
Total Assets		180,900
Liabilities and Equity:
Liabilities:
Factory Wages Payable	16,000
Accounts Payable	10,500
Notes Payable	13,500
Total Liabilities:		40,000
Equity:
Common Stock	30,000
Retained Earnings	110,900
Total Equity		140,900
Total Liabilities and Equity		180,900
Table (10)

Working note:

Given,
Retained earnings in beginning are $87,000.

Computation of total retained earnings,

$\begin{array}{c}\text{Total}\text{Retained}\text{Earnings}=\text{Retained}\text{Earnings}\text{at}\text{the}\text{beginning}+\text{Net}\text{Income}\\ =\$87,000+\$23,900\\ =\$110,900\end{array}$

Hence, the total retained earnings are $110,900.

5

To determine

To explain: The impact of error on the income statement and the balance sheet at December 31^st, 2017.

Explanation of Solution

Impact on income statement

• If the indirect materials of $5,600 would be treated as the direct materials then it would be deducted from the cost of goods sold in the income statement and net come will decrease.
Impact on balance sheet

• If the indirect materials of $5,600 would be treated as the direct materials, then the retained earnings would have decreased.

Hence, The treatment of indirect materials as direct materials would have a huge impact on income statement and balance sheet.