12 Spoilage and Rework

The Theory

Spoilage and rework occur in all kinds of costing systems. In this chapter, we will introduce the concept in a job costing context, but we will revisit spoilage and rework costs again when we learn about process costing and normal costing.

Spoilage consists of units that are ruined during production that cannot be sold as good units. In a job costing system, normal spoilage arises as a result of the normal production process. No production process is perfect, so normal spoilage is expected, and its cost should be treated as a normal cost of producing good units. Abnormal spoilage arises as a result of an unusual event, such as an accident or natural disaster. Customer-related spoilage arises when a customer rejects units that the company did not otherwise classify as spoilage. The cost of spoilage is the cost of the spoiled goods themselves, so it is the manufacturing cost of those spoiled goods.

Because the cost of normal spoilage is treated as part of the cost of producing good units, its cost should be shared among all jobs, not just the jobs in which normal spoilage actually occurred. We accomplish this by treating the cost of normal spoilage as an actual manufacturing overhead cost. When normal spoilage occurs on a job, that cost is removed from the job and added to actual manufacturing overhead costs by debiting the manufacturing overhead account. Total manufacturing overhead, including the cost of normal spoilage, is applied to all jobs using the predetermined manufacturing overhead rate, so the cost of normal spoilage will be spread out among all jobs.

Because it arises from abnormal, non-recurring events, the cost of abnormal spoilage is treated as a loss. When goods are abnormally spoiled during a job, their cost is removed from that job and debited to a loss account. The cost of customer-related spoilage, though, remains part of that particular job, because it arose from that job alone.

Rework costs are the costs of repairing defective units so that they can be sold as good units. These costs can be classified into the same categories as spoilage: normal rework, abnormal rework, and customer-related rework. The cost of rework is the cost to repair the units so they can be sold through normal channels, so it is a new cost, incurred in addition to the original cost of manufacturing the goods. Because the units do end up being sold, there is no need to do anything special with the cost of manufacturing those units in the first place; those costs stay in the job where they originated. The additional costs to repair the goods, though, are accounted for in the same way as the corresponding category for spoiled units: normal rework costs would be debited to the manufacturing overhead account, abnormal rework costs would be debited to a loss account, and customer-related rework costs would be added to the job where they originated. Where spoilage and rework costs start and end are summarized in the table below:

The Method

First, calculate the cost per unit to value spoilage by dividing the total cost of the job by the total units manufactured.

Next, calculate the cost for each category of spoilage and rework. For spoilage, multiply the cost per unit by the number of units in each category of spoilage. For rework, the repair cost should be given – you will not need to calculate it.

Next, calculate the cost of spoilage and rework that should be debited to the manufacturing overhead account or a loss account:

• Normal spoilage should be debited to manufacturing overhead.
• Abnormal spoilage should be debited to a loss account.
• Normal rework should be debited to manufacturing overhead.
• Abnormal rework should be debited to a loss account.

Finally, calculate the cost of the job after accounting for spoilage and rework:

• Normal spoilage cost should be removed from the job.
• Abnormal spoilage cost should be removed from the job.
• Customer-related rework cost should be added to the job.

Illustrative Example

Flash Industries worked on an order this period for 500 custom-made units. Overall, 510 units were actually manufactured, at a cost of $247,095, because 10 units were spoiled during the production process. Of those spoiled units, 8 were damaged as part of the normal production process, and 2 were damaged in an accident. In addition, 5 units required repair work at the direction of the customer; the cost of the repair work was $250 per unit.

Account for the cost of spoilage and rework.

First, calculate the cost per unit to value spoilage:

• $247,095 ÷ 510 = $484.50 per unit.

Next, calculate the cost for each category of spoilage and rework:

• Eight units of normal spoilage: $484.50 × 8 = $3,876
• Two units of abnormal spoilage: $484.50 × 2 = $969
• Five units of customer-related rework: 5 × $250 = $1,250

Next, calculate the cost of spoilage and rework that should be debited to the manufacturing overhead account or a loss account:

• Normal spoilage costs of $3,876 should be debited to manufacturing overhead.
• Abnormal spoilage costs of $969 should be debited to a loss account.

Finally, calculate the cost of the job after accounting for spoilage and rework:

Lecture Example

Your firm worked on a job costing $75,000 to manufacture 50 units. Eight of those units were defective: six were damaged as a normal part of the production process; five of those six units could be repaired at a cost of $500 each, while one was damaged beyond repair. Two of the defective units had been smashed when a machine malfunctioned; these units were damaged beyond repair.

1. Calculate the cost per unit to value spoilage.
2. Calculate the cost for each category of spoilage and rework.
3. Calculate the cost of spoilage and rework that should be debited to the manufacturing overhead account or a loss account.
4. Calculate the cost of the job after accounting for spoilage and rework.