Job-order costing is used in situations where many different products, each with individual and unique features, are produced each period

In job-order costing system, costs are traced and allocated to jobs and then the costs of the job are divided by the number of units in the job to arrive at an average cost per unit

Bill of materials: Document that lists the type and quantity of each type of direct material needed to complete a unit of product

When an agreement has been reached with the customer concerning quantities, prices, and shipment for the order, a production order is issued

Materials requisition form: Document that specifies the type and quantity of materials to be drawn from the storeroom and identifies the job that will be charged for the cost of the materials

Job cost sheet: Records materials, labor, and manufacturing overhead costs charged to that job

Time ticket: Hour by hour summary of the employee's activities throughout the day

Labor charges that can't be easily traced directly to any job are treated as part of manufacturing overhead, e.g. maintenance, supervision, cleanup

Allocation base is a measure used to assign overhead costs to product costs and services, e.g. direct labor-hours, machine-hours, direct labor cost

1. Estimate amount of the allocation base required for next period's estimated level of production

2. Estimate total fixed manufacturing overhead cost for the coming period + variable manufacturing overhead cost per unit of the allocation base

4. Predetermined overhead rate =
   Estimated total manufacturing overhead cost : Estimated total amount of the allocation base (Step 1 : Step 3)

Overhead application: PHOR is used to apply overhead cost to jobs throughout the period

Overhead applied to a particular job =
PHOR x Amount of the allocation base incurred by the job

If an actual rate is computed monthly or quarterly, seasonal factors in overhead costs or in the allocation base can produce fluctuations in the overhead rate

As a result, two identical jobs, one completed in the winter and one completed in the spring, would be assigned different manufacturing overhead costs.

To avoid such fluctuations, actual overhead rates could be computed on an annual or less-frequent basis

if the overhead rate is computed annually based on the actual costs and activity for the year, the manufacturing overhead assigned to any particular job would not be known until the end of the year.

For these reasons, most companies use predetermined overhead rates rather than actual overhead rates in their cost accounting systems.

If the base in the predetermined overhead rate does not “drive” overhead costs, product costs will be distorted

(1) Automated equipment has taken over functions that used to be performed by direct labor workers,

(2) Products are becoming more complex and changes frequently, increasing the need for highly skilled indirect workers like engineers

The key point is that the allocation base used by the company should really drive, or cause, overhead costs, and direct labor is not always the most appropriate allocation base.