This is part 4 in our Management Accountability series where we're going
to be talking about manufacturing companies. The first thing I want us to
be aware of something we've already talked about is the income statement for
manufacturing company. If you will note it is exactly the same as the income
statement for the merchandising company. So we'll go through it another time
really quickly here. We start out with sales revenue. Again it's different from
a service company which has service revenue because now we're selling a
product. So we have sales revenue. We also have two contra-revenue accounts called
sales returns and allowances and sales discounts. Those effectively reduce our
sales revenue to give us net sales revenue. From net sales revenue we're
going to subtract our cost of goods sold to give us gross profit and from gross
profit we will give our we will subtract our operating expenses to give
us our operating income. So again the manufacturing income statement is
exactly like the merchandisers income statement. Let's look at product cost
in inventory accounts for a manufacturing company. A manufacturing
company uses three different costs to create a product. Those three costs are
called direct materials, direct labor, and
overhead. These three costs together or those three costs combined are called
product costs. You also could hear them called inventoriable costs or
manufacturing costs so please be aware of that.
In a manufacturing company we do not have one single inventory account. We
have three inventory accounts. The first inventory account is called materials
and this account is for all the materials that are used in production of
a product are contained. The second inventory account is called
work-in-process. This inventory account is where goods that are in the
manufacturing process but not yet completed are located. Once a good is
completed it moves out of work in process into account called finished
goods. This account is where we have our completed goods that will stay there
until they are sold. To give us a visual idea of this concept let's look at the
flow of cost and we're going to use our three inventory accounts in the form of
T accounts to see how these costs flow from one to the other. So again these are
inventory accounts and they will have a normal debit balance just like other
assets do. So our beginning balances will be debits and our ending will also be
debit balances. When we purchase materials that makes materials go up so
it's a debit to materials. Work in process- when materials are needed we'll
send a requisition or they will requisition materials and once they do
materials come out of our materials inventory account and we call those used
materials and they go into work in process as direct materials. Now there
are other materials we'll talk about later
that are called indirect materials. They do not go directly into process so for
our purposes right now we're only talking about direct materials.
In addition to materials we will have direct labor in our work in process
account and we will have overhead. Remember those three costs together are
called product costs. Once we've completed a good it comes out of work in
process and moves into finished goods. This is called our cost of goods
manufactured. Once the good is moved into finished goods it remains in finished
goods until the product is sold. Once the product is sold we call that cost of
goods sold. One other thing I'd like for you to recognize is the difference
in period cost and product cost. Period costs are expensed in the period they
are incurred. So period costs are your operating expenses, you're selling and
admin expenses, and they are expensed when they are incurred. Product costs are
materials, labor, and overhead. They are not expensed until the product is sold.
Once the product is sold we call that cost of goods sold and that's our
expense.
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