Product Cost Definition | Examples | Calculator | Formula 2021:-Production cost is the total price paid for the resources used to manufacture a product or create a service, such as organic matter, labor, and others are called the production cost. The product/service created is to be sold to a customer.
The company provides products to the consumer at a cost. In the case of mining companies, the royalties owed are also treated as part of the production cost. Even the tax liabilities belong to this category.
The most common examples of product cost:
- Production overheads
- Raw materials.
- Wages on labor rent on the factory.
Product Cost Definition
Production costs comprise direct and indirect costs. The former is the cost involved to buy organic matter and labor cost. The latter involves other overheads, such as rent, utility expenses, and administrative sales. The production cost per unit can be determined by summing up the total raw material costs, labor costs, and manufacturing overhead, and dividing the result by the number of units manufactured.
The company provides products and services to the customers, It could be direct or indirect. The company creates products from organic matter into packing materials. Product cost is the information about the services and products in which the company provides services to the consumer.
Types of Product Costs
The raw materials that get transformed into a finished good by applying direct labor and factory overheads are referred to as direct material in cost accounting. Direct materials are those raw materials that can be easily identified and measured.
For example, an automobile manufacturing company typically requires plastic and metal to create a car. The amount of these resources can be easily counted or kept a record of.
Direct laborers are the employees or the labor force that gets directly involved in producing or manufacturing finished goods from raw material. The direct labor costs are the salaries, wages, and benefits (like insurance) that are being paid to these labor forces against their services.
For example, fix the screw apply oil and grease, the workers in an assembly line of an automobile factory that weld the metal and assemble pieces of metals and plastic into a car are direct laborers.
The indirect price related to manufacturing a finished product that cannot be directly traced is referred to as the factory or manufacturing overheads. In other words, overheads are that cost that is neither direct material nor direct labor.
- Indirect materials: The materials that get used in the manufacturing process but cannot be traced directly as raw materials are indirect materials. E.g., grease, oil, welding rods, glue, tape, cleaning supplies, etc. It is difficult as well as non-cost-effective to regulate the exact expense of indirect materials applied upon a single unit of a product.
- Indirect labor: In the company, the workers or employees that are required for the smooth functioning of the production process but do not get directly involved in creating a finished product are referred to as indirect materials. E.g., security guards, quality assurance teams, supervisors, safeguard, etc.
- Other overheads: The factory overheads that fall under neither of the above two categories of factory overheads can be classified as other factory overheads. E.g., electricity expenses cannot be classified as material or labor.
Product Cost Formula
Product Cost Formula = Direct Labor + Direct Material + Factory Overheads
Factory OH = Indirect Labor + Indirect Material + Other Factory OH
However, it is always better to calculate this cost per unit as it can help decide the appropriate sales price of the finished product. To determine this cost on a per-unit basis, just divide this cost as calculated above by the number of units produced.
Product Cost per Unit Formula = (Total Product Cost ) / Number of Units Produced.
The sales price must be equal to or greater than the product cost per unit to avoid losses. If the sale price is equal, then it is a break-even situation, i.e., no profit, no loss, and the sales price are just covering the cost per unit. Sales price higher than the cost per unit results in gains.
Product Cost Example
- Direct Material Purchase Budget
In the Direct Material purchase budget, your cash flow depends on your ability to manage your production budget functional without compromising on quality. Given that this figure can account for the majority of your operational costs, the importance of a direct material purchase budget (also known as a direct material usage budget) cannot be understated.
Direct Material Purchase budget is the products that company, produces products in budget. The budget is required to calculate the number of raw materials to be just fabric while the requirements of the other two materials cannot be directly tracked and hence considered as indirect.
- Direct Labor Budget
To maintain a direct labor budget, multiply the number of units to be produced (from the production budget) by the direct labor time needed to make each unit. The direct labor budget is basically used to calculate the number of labor hours that will be needed to produce the units itemized in the production budget.
- Factory Overhead Budget
The manufacturing overhead budget contains all manufacturing costs other than direct materials and direct labor. The information in this budget becomes part of the cost of goods sold line item in the master budget. In simple language factory overhead budget collects the company’s all cost of services and products.
A budget refers to the balance the income, expenses, information of cost, and financial goals for a particular length of time. In other words, it is a process of how much money you will make and spend money over a certain time, such as a month and a year.
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