Describe how the separation of (1) authorization of production transactions, (2) recording of these transactions, and (3) physical custody of inventories can be specified among the production, inventory, and cost accounting departments. How does the production order document provide a control over the quantity of materials used in production? From what population of documents would an auditor sample to determine (1) whether all are authorized, (2) production was completed and placed in inventory or written off as scrap, and (3) finished goods inventory was actually produced and properly costed?
On March 30, 2014, merchandise is sold for $100 cash and for $930 on account. The cost of the merchandise sold is $740. Prepare the two journal entries for this. What is the amount of the gross profit?
To specify the separation of authorization of production transactions, recording of these transactions, and physical custody of inventories among the production, inventory, and cost accounting departments, a company can establish a set of clear policies and procedures.
1) Authorization of Production Transactions:
- The production department should receive a formal production order document that specifies the quantity and type of products to be produced.
- The production order document is typically authorized by relevant managers or supervisors who have the authority to approve the commencement of production.
2) Recording of Transactions:
- The inventory department is responsible for recording the movement of inventories, including the receipt of raw materials and the transfer of finished goods into inventory.
- The cost accounting department tracks the costs associated with production, including labor, materials, and overhead expenses.
3) Physical Custody of Inventories:
- The inventory department should physically control and safeguard the inventories through proper storage and access controls.
- The production department should not have direct access to inventories without proper authorization.
Control over the Quantity of Materials:
The production order document serves as a control over the quantity of materials used in production by specifying the exact quantity required. This document is typically prepared based on an analysis of the product's bill of materials (BOM). The materials required for production are withdrawn from the inventory based on the quantities specified in the production order document.
Auditor's Sampling:
To determine whether all production transactions are properly authorized, completed, and accounted for, an auditor would typically sample from the following population of documents:
1) Authorization of Production Transactions:
- Production order documents: These should be reviewed to ensure that all required authorizations are present.
2) Completion and Inventory Placement:
- Material requisition forms: These documents should be sampled to verify that materials were properly withdrawn from inventory for production.
- Work-in-progress (WIP) reports: These should be examined to confirm that production was completed and whether products are in the process of being placed in inventory or written off as scrap.
3) Finished Goods Inventory and Costing:
- Finished goods inventory reports: These should be sampled to verify and reconcile the recorded quantities and costs of finished goods in inventory.
- Cost accounting records: These should be reviewed to ensure that proper costing methods were applied and costs were accurately allocated to finished goods inventory.
By sampling and examining these documents, auditors can assess whether production transactions were authorized, completed and placed in inventory or written off correctly, and whether finished goods inventory was produced and appropriately costed.