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Accounting for Manufacturing Operations

The document explains the accounting for manufacturing operations, highlighting the differences between merchandising and manufacturing companies in terms of cost of goods sold. It classifies manufacturing costs into direct materials, direct labor, and manufacturing overhead, and distinguishes between product costs and period costs. Additionally, it outlines the types of inventories in a manufacturing business and their classification on financial statements.

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1 views10 pages

Accounting for Manufacturing Operations

The document explains the accounting for manufacturing operations, highlighting the differences between merchandising and manufacturing companies in terms of cost of goods sold. It classifies manufacturing costs into direct materials, direct labor, and manufacturing overhead, and distinguishes between product costs and period costs. Additionally, it outlines the types of inventories in a manufacturing business and their classification on financial statements.

Uploaded by

enolvaangel09
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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ACCOUNTING FOR

MANUFACTURING OPERATIONS
 A Merchandising company buys its inventory in
a ready-to-sell condition. T herefore, its cost of
goods is mostly composed of the purchase price
of the products it sells.
 A manufacturing company, how ever, produces
the goods that it sells. A s a consequence, its
cost of goods sold consists of various
manufacturing costs, including the cost of
materials, w ages earned by production
w orkers and a variety of other costs relating
to the operation of a production facility.
Classifications of Manufacturing Costs
A typical manufacturing company purchases raw materials and converts
these materials into finished goods through the process of production. The
conversion from raw materials to finished goods results from utilizing a
combination of labor and machinery. Thus manufacturing costs are often
divided into three broad categories:
(a) Direct materials – the raw materials and component parts used in
production whose costs are directly traceable to the products
manufactured.
(b) Direct labor - Wages and other payroll costs of employees whose efforts
are directly traceable to the products they manufacture, either by hand or
with machinery.
(c) Manufacturing overhead – a catch – all classification, which includes
all manufacturing costs other than the costs of direct materials and direct
labor.
Examples include factory utilities, supervisor salaries, equipment repairs
and depreciation on machinery.
Product Costs vs. Period Costs

The terms product costs and a period costs are helpful in explaining the
difference between manufacturing costs and operating expenses.

Product costs
- are those costs incurred to manufacture inventory.
- Until the related goods are sold, Product costs represent inventory. As such, they
are reported on the balance sheet as an asset. When the goods are ultimately sold,
product costs are transferred from the balance sheet to the income statement.
Where they are deducted from revenue as the cost of goods sold

Operating expenses (Period Costs) that are associated with time period, rater than
with the production of inventory, are referred to as period costs.
- Period costs are charged directly to expense accounts on the assumption that their
benefit is recognized entirely in the period when the cost is incurred. Period costs
include all selling expense, general and administrative expenses, interest expense,
and income tax expense.
Product Costs vs. Period Costs

 In short period costs are classified on the income statement separately from cost
of goods sold. As deductions from a company's gross profit. The flow of product
costs and period costs through the financial statements is shown in the diagram
below.

The Matching Principle


Inventories of a Manufacturing Business

• Raw Materials inventory – raw materials on hand and available for use
in the manufacturing process.

• Work in process inventory – partiality completed good on which


production activities have been started but not yet completed.

• Finished good inventory – unsold finished products available for sale to


customers. All three of these inventories are classified on the balance sheet
as current assets. The cost of the materials inventory is based on its
purchase price. The work in process and finished goods inventories are
based on the costs of direct martial. Direct labor and manufacturing
overhead assigned to them.
Determining the Cost of Finished Goods Manufactured
Financial Statements of a Manufacturing Company
Financial Statements of a Manufacturing Company
Sample Statement of CGS:

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