Recording Product Costs in the Financial Statements
Where are Product Costs Recorded?
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Table of ContentsProduct Costs Recorded in the Financial StatementsAsset Accounts (Balance Sheet)Expense Account (Income Statement)
Product Costs Recorded in the Financial Statements
Product costs may appear in any of three inventory accounts as well as the cost of goods sold account. Which accounts are used depends upon the stage of product production and whether the product has been sold.
This is most complex for a company that manufactures the product that it sells. In that case, the product costs are recorded in the following accounts as they proceed through the production process.
Asset Accounts (Balance Sheet)
- Raw Materials Inventory Account - Record the cost of materials not yet put into production. The raw materials used to produce the product are recorded here.
- Work-in-Process Inventory Account - Record the cost of products that are in production but not yet complete. This will include direct materials used, direct labor invested in production, and manufacturing overhead.
- Finished Goods Inventory Account - Record the costs of products that are complete and ready to sell. These are known as Cost of Goods Manufactured. They include all of the costs that were previously recorded in the Work-in-Progress Inventory Account.
Expense Account (Income Statement)
Manufacturing companies employ three schedules to prepare an income statement for a manufacturing company, in the following order:
- Schedule of raw materials placed in production, which shows cost of direct materials added to work-in-process inventory and cost of indirect materials added to manufacturing overhead
- Schedule of cost of goods manufactured, which shows cost of goods completed and transferred out of work-in-process inventory into finished goods inventory
- Schedule of cost of goods sold, which shows cost of goods sold and transferred out of finished goods inventory into cost of goods sold
Note: Merchandising companies do not use a schedule of raw materials placed in production or a schedule of cost of goods manufactured, and they use a merchandise inventory account instead of a finished goods inventory account. Further, they use the term net purchases instead of cost of goods manufactured. They often include the schedule of cost of goods sold in the income statement rather than presenting it separately.
The company will apply the following cost flow equation to determine the costs in each schedule:
beginning balance (BB) + transfers in (TI) - transfers out (TO) = Ending balance (EB)
Ultimately, this information will be used to determine the cost of goods sold amount on the income statement for manufacturing companies.
Note: Merchandising companies do not calculate the raw materials placed in production or cost of goods manufactured. They purchase goods for sale. This is a net purchases expense on the income statement. Merchandisers use an account called merchandise inventory, or simply inventory, instead of finished goods inventory. This reflects that merchandisers do not produce goods.