Hamilton Metal Fabricators, Inc., has a large job, No. 2734, that calls for producing various ore bins, chutes, and metal boxes for enlarging a copper concentrator. The following charges were made to the job in November 2013:
Direct materials................ $40,400
Direct manufacturing labour........... 22,600
Manufacturing overhead............. 11,300
The contract with the customer called for the total price to be based on a cost-plus approach.
The contract defined cost to include direct materials, direct manufacturing labour costs, and manufacturing overhead to be allocated at 50% of direct manufacturing labour costs. The contract also provided that the total costs of all work spoiled was to be removed from the billable cost of the job and that the benefits from scrap sales were to reduce the billable cost of the job.
1. In accordance with the stated terms of the contract, prepare journal entries for the following two items:
a. A cutting error was made in production. The up-to-date job cost record for this batch of work showed materials of $975, direct manufacturing labour of $600, and allocated over- head of $300. Because fairly large pieces of metal were recoverable, the company believed their value was $800 and that the materials recovered could be used on other jobs. The spoiled work was sent to the warehouse.
b. Small pieces of metal cuttings and scrap in November 2013 amounted to $1,995, which was the price quoted by a scrap dealer. No journal entries were made with regard to the scrap until the price was quoted by the scrap dealer. The scrap dealer’s offer was immediately accepted.
2. Consider normal and abnormal spoilage. Suppose the contract described above had contained the clause “a normal spoilage allowance of 1% of the job costs will be included in the billable costs of the job.”
a. Is this clause specific enough to define exactly how much spoilage is normal and how much is abnormal? Explain.
b. Repeat requirement 1a with this “normal spoilage of 1%” clause in mind. You should be able to provide two slightly different journal entries.