11th Edition
Chapter 2
McGraw-Hill/Irwin
Copyright © 2006, The McGraw-Hill Companies, Inc.
Costs Terms, Concepts and
Classifications
Chapter Two
McGraw-Hill/Irwin
Copyright © 2006, The McGraw-Hill Companies, Inc.
Manufacturing Costs
Direct
Direct
Materials
Materials
Direct
Direct
Labor
Labor
Manufacturing
Manufacturing
Overhead
Overhead
The Product
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Direct Materials
Raw materials that become an integral part of the
product and that can be conveniently traced
directly to it.
Example:
Example: A
A radio
radio installed
installed in
in an
an automobile
automobile
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Direct Labor
Those labor costs that can be easily traced to
individual units of product.
Example:
Example: Wages
Wages paid
paid to
to automobile
automobile assembly
assembly workers
workers
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Manufacturing Overhead
Manufacturing costs that cannot be traced directly
to specific units produced.
Examples:
Examples: Indirect
Indirect labor
labor and
and indirect
indirect materials
materials
Wages paid to employees
who are not directly
involved in production
work.
Examples: maintenance
workers, janitors and
security guards.
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Materials used to support
the production process.
Examples: lubricants and
cleaning supplies used in the
automobile assembly plant.
Copyright © 2006, The McGraw-Hill Companies, Inc.
Classifications of Costs
Manufacturing costs are often
classified as follows:
Direct
Direct
Material
Material
Direct
Direct
Labor
Labor
Prime
Cost
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Manufacturing
Manufacturing
Overhead
Overhead
Conversion
Cost
Copyright © 2006, The McGraw-Hill Companies, Inc.
Non-manufacturing Costs
Marketing or
Selling Cost
Administrative
Cost
Costs necessary to get
the order and deliver
the product.
All executive,
organizational, and
clerical costs.
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Product Costs Versus Period Costs
Product costs include
direct materials, direct
labor, and manufacturing
overhead.
Inventory
Cost of Good Sold
Period costs include all
marketing or selling
costs and
administrative costs.
Expense
Sale
Balance
Sheet
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Income
Statement
Income
Statement
Copyright © 2006, The McGraw-Hill Companies, Inc.
Quick Check
Which of the following costs would be considered a
period rather than a product cost in a manufacturing
company?
A. Manufacturing equipment depreciation.
B. Property taxes on corporate headquarters.
C. Direct materials costs.
D. Electrical costs to light the production
facility.
E. Sales commissions.
McGraw-Hill/Irwin
Copyright © 2006, The McGraw-Hill Companies, Inc.
Quick Check
Which of the following costs would be considered a
period rather than a product cost in a manufacturing
company?
A. Manufacturing equipment depreciation.
B. Property taxes on corporate headquarters.
C. Direct materials costs.
D. Electrical costs to light the production
facility.
E. Sales commissions.
McGraw-Hill/Irwin
Copyright © 2006, The McGraw-Hill Companies, Inc.
Comparing Merchandising and
Manufacturing Activities
Merchandisers . . .
Buy finished goods.
Sell finished goods.
Manufacturers . . .
Buy raw materials.
Produce and sell
finished goods.
MegaLoMart
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Balance Sheet
Merchandiser
Current assets
Manufacturer
Current Assets
Cash
◆ Cash
Receivables
◆ Receivables
Prepaid Expenses
Merchandise
Inventory
McGraw-Hill/Irwin
◆ Prepaid Expenses
◆ Inventories
Raw Materials
Work in Process
Finished Goods
Copyright © 2006, The McGraw-Hill Companies, Inc.
Balance Sheet
Merchandiser
Current assets
Manufacturer
Current Assets
Cash
◆ Cash
Receivables
◆
Receivables
Materials
waiting to
◆ Prepaid
be processed.
Expenses
Prepaid Expenses
Partially complete
Merchandise
products – some
Inventory
material, labor, or
overhead has been
added.
◆ Inventories
Raw Materials
Work in Process
Finished Goods
Completed products
awaiting sale.
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The Income Statement
Cost of goods sold for manufacturers differs only
slightly from cost of goods sold for merchandisers.
Merchandising Company
Cost of goods sold:
Beg. merchandise
inventory
+ Purchases
Goods available
for sale
- Ending
merchandise
inventory
= Cost of goods
sold
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$ 14,200
234,150
$ 248,350
(12,100)
$ 236,250
Copyright © 2006, The McGraw-Hill Companies, Inc.
Inventory Flows
Beginning
Beginning
balance
balance
$$
$$
Available
Available
$$$$$
$$$$$
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+
Additions
Additions
$$$
$$$
_ Withdrawals
Withdrawals
$$$
$$$
=
=
Available
Available
$$$$$
$$$$$
Ending
Ending
balance
balance
$$
$$
Copyright © 2006, The McGraw-Hill Companies, Inc.
Quick Check
If your inventory balance at the beginning of the
month was $1,000, you bought $100 during the
month, and sold $300 during the month, what would
be the balance at the end of the month?
A. $1,000.
B. $ 800.
C. $1,200.
D. $ 200.
McGraw-Hill/Irwin
Copyright © 2006, The McGraw-Hill Companies, Inc.
Quick Check
If your inventory balance at the beginning of the
month was $1,000, you bought $100 during the
month, and sold $300 during the month, what would
be the balance at the end of the month?
A. $1,000.
$1,000 + $100 = $1,100
B. $ 800.
$1,100 - $300 = $800
C. $1,200.
D. $ 200.
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Schedule of Cost of Goods
Manufactured
Calculates the cost of raw
material, direct labor and
manufacturing overhead used
in production.
Calculates the manufacturing
costs associated with goods
that were finished during the
period.
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Product Cost Flows
Raw Materials
+
=
–
=
Beginning raw
materials inventory
Raw materials
purchased
Raw materials
available for use
in production
Ending raw materials
inventory
Raw materials used
in production
McGraw-Hill/Irwin
Manufacturing
Costs
Work
In Process
Direct materials
As
Asitems
items are
are removed
removed from
fromraw
raw
materials
materialsinventory
inventoryand
andplaced
placedinto
into
the
theproduction
productionprocess,
process,they
theyare
are
called
calleddirect
directmaterials.
materials.
Copyright © 2006, The McGraw-Hill Companies, Inc.
Product Cost Flows
Raw Materials
+
=
–
=
Beginning raw
materials inventory
Raw materials
purchased
Raw materials
available for use
in production
Ending raw materials
inventory
Raw materials used
in production
McGraw-Hill/Irwin
Manufacturing
Costs
Direct materials
+ Direct labor
+ Mfg. overhead
= Total manufacturing
costs
Work
In Process
Conversion
Conversion
costs
costsare
arecosts
costs
incurred
incurred to
to
convert
convertthe
the
direct
directmaterial
material
into
intoaafinished
finished
product.
product.
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Product Cost Flows
Raw Materials
+
=
–
=
Beginning raw
materials inventory
Raw materials
purchased
Raw materials
available for use
in production
Ending raw materials
inventory
Raw materials used
in production
McGraw-Hill/Irwin
Manufacturing
Costs
Direct materials
+ Direct labor
+ Mfg. overhead
= Total manufacturing
costs
Work
In Process
Beginning work in
process inventory
+ Total manufacturing
costs
= Total work in
process for the
period
All
Allmanufacturing
manufacturing costs
costsincurred
incurred
during
duringthe
theperiod
periodare
areadded
addedto
tothe
the
beginning
beginning balance
balanceof
ofwork
workin
in
process.
process.
Copyright © 2006, The McGraw-Hill Companies, Inc.
Product Cost Flows
Raw Materials
Beginning raw
materials inventory
+ Raw materials
purchased
= Raw materials
available for use
in production
Manufacturing
Costs
Work
In Process
Direct materials
+ Direct labor
+ Mfg. overhead
= Total manufacturing
costs
Beginning work in
process inventory
Total manufacturing
costs
Total work in
process for the
period
Ending work in
process inventory
Cost of goods
manufactured
+
=
–
Costs
Costsassociated
associated with
withthe
the goods
goods that
that
are
arecompleted
completedduring
duringthe
theperiod
periodare
are
transferred
transferredto
tofinished
finished goods
goods
inventory.
inventory.
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=
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Product Cost Flows
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Manufacturing Cost Flows
Costs
Balance Sheet
Inventories
Material Purchases
Raw Materials
Direct Labor
Work in
Process
Manufacturing
Overhead
Selling and
Administrative
McGraw-Hill/Irwin
Finished
Goods
Period Costs
Income
Statement
Expenses
Cost of
Goods
Sold
Selling and
Administrative
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