Accounting for Scrap

Learning Objective 7 Account for scrap

• reduces cost of job either at time of sale or at time of production

Scrap is residual material that results from manufacturing a product; it has low total sales value compared with the total sales value of the product. No distinction is made between normal and abnormal scrap because no cost is assigned to scrap. The only distinction made is between scrap attributable to a specific job and scrap common to all jobs.

There are two aspects of accounting for scrap:

1. Planning and control, including physical tracking
2. Inventory costing, including when and how scrap affects operating income

Initial entries to scrap records are commonly expressed in physical terms. In various industries, companies quantify items such as stamped-out metal sheets or edges of molded plastic parts by weighing, counting, or some other measure. Scrap records not only help measure efficiency, but also help keep track of scrap, and so reduce the chances of theft. Companies use scrap records to prepare periodic summaries of actual scrap versus budgeted or standard amounts. Scrap is either sold or disposed of quickly or stored for later sale, disposal, or reuse.

To carefully track scrap, many companies maintain a distinct account for scrap costs somewhere in their accounting system. The issues here are similar to the issues in Chapter 17 for accounting for byproducts:

• When should the value of scrap be recognized in the accounting records—at the time scrap is produced or at the time scrap is sold?
• How should the revenues from scrap be accounted for?

To illustrate, we extend our Hull example. Assume the manufacture of aircraft parts generates scrap and that the scrap from a job has a net sales value of $900.

Recognizing Scrap at the Time of Its Sale

When the dollar amount of the scrap is immaterial, it is simplest to record the physical quantity of scrap returned to the storeroom and to regard the revenues from the sale of scrap as a separate line item in the income statement. The only journal entry is shown below:

When the dollar amount of the scrap is material and it is sold quickly after it is produced, the accounting depends on whether scrap is attributable to a specific job or is common to all jobs.

Scrap Attributable to a Specific Job

Job-costing systems sometimes trace scrap revenues to the jobs that yielded the scrap. This method is used only when the tracing can be done in an economically feasible way. For example, the Hull Machine Shop and its customers, such as the U.S. Department of Defense, may reach an agreement that provides for charging specific jobs with all rework or spoilage costs and then crediting these jobs with all scrap revenues that arise from the jobs. The journal entry is as follows:

Unlike spoilage and rework, no cost is assigned to scrap, so no distinction is made between normal and abnormal scrap. All scrap revenues, whatever the amount, are credited to the specific job. Scrap revenues reduce the costs of the job.

Scrap Common to All Jobs

The journal entry in this case is as follows:

Because scrap is not linked with a particular job or product, all products bear its costs. Expected scrap revenues reduce budgeted manufacturing overhead costs and the budgeted manufacturing overhead rate used to allocate manufacturing overhead costs to jobs. This method of accounting for scrap is also used in process costing because scrap is common to the manufacture of identical or similar units (and cannot be identified with specific units).