In turn, steel becomes a direct material to an automobile manufacturer. Manufacturing companies use the most complex product costing methods. To ensure that you understand how and why product costing is done in manufacturing companies, we use many manufacturing company examples. However, since many of you could have careers in service or merchandising companies, we also use nonmanufacturing examples. Cost is a financial measure of the resources used or given up to achieve a stated purpose.
In general, overhead refers to all costs of making the product or providing the service except those classified as direct materials or direct labor. Manufacturing overhead costs are manufacturing costs that must be incurred but that cannot or will not be traced directly to specific units produced. In addition to indirect materials and indirect labor, manufacturing overhead includes depreciation and maintenance on machines and factory utility costs.
The time tickets are a log of the hours each direct labor employee worked on the production line. To calculate your direct labor payroll, you gather the time tickets from the manufacturing departments. You make a journal entry to record the gross pay amount and the withholdings for each employee.
Work-in-process and Labor costsC
Many employees receive fringe benefits—employers pay for payroll taxes, pension costs, and paid vacations. These fringe benefit costs can significantly increase the direct labor hourly wage rate. Other companies include fringe benefit costs in overhead if they can be traced to the product only with great difficulty and effort. In job order costing system, the method of measuring and recording direct labor cost is similar to measuring and recording direct materials cost. Period expenses are closely related to periods of time rather than units of products. For this reason, firms expense (deduct from revenues) period costs in the period in which they are incurred.
- In job order costing system, the method of measuring and recording direct labor cost is similar to measuring and recording direct materials cost.
- This technology increases the speed and accuracy of the whole process.
- For example, iron ore is a direct material to a steel company because the iron ore is clearly traceable to the finished product, steel.
- Period expenses are closely related to periods of time rather than units of products.
Product costs are the costs of making a product, such as an automobile; the cost of making and serving a meal in a restaurant; or the cost of teaching a class in a university. Learn about work-in-process inventory and understand how to use a work-in-process inventory account.
Measuring and recording direct labor cost
To illustrate, assume a company pays its sales manager a fixed salary. Direct labor hours worked, direct labor rate per hour, and total amount in dollars for each individual job or task is recorded on a document known as time ticket or employee time ticket. A separate time ticket is prepared by each worker for every working day.
- Look at the following for more examples of manufacturing overhead costs.
- Indirect materials are materials used in the manufacture of a product that cannot, or will not for practical reasons, be traced directly to the product being manufactured.
- Other examples of indirect labor are cleanup costs and supervision etc.
- The time tickets are a log of the hours each direct labor employee worked on the production line.
- Such materials, called indirect materials or supplies, are included in manufacturing overhead.
These days, many companies have replaced the manual process of recording direct materials cost with the computerized approaches. This technology increases the speed and accuracy of the whole process. Direct materials are those materials used only in making the product and are clearly and easily traceable to a particular product. For example, iron ore is a direct material to a steel company because the iron ore is clearly traceable to the finished product, steel.
The actual direct labor costs are assigned to individual jobs, and the actual direct labor cost…
Selling expenses are costs incurred to obtain customer orders and get the finished product in the customers’ possession. Advertising, market research, sales salaries and commissions, and delivery and storage of finished goods are selling costs. The costs of delivery and storage of finished goods are selling costs because they are incurred after production has been completed. Therefore, the costs of storing materials are part of manufacturing overhead, whereas the costs of storing finished goods are a part of selling costs. Remember that retailers, wholesalers, manufacturers, and service organizations all have selling costs.
Look at the following for more examples of manufacturing overhead costs. Direct labor costs include the labor costs of all employees actually working on materials to convert them into finished goods. As with direct material costs, direct labor costs of a product include only those labor costs clearly traceable to, or readily identifiable with, the finished product. The wages paid to a construction worker, a pizza delivery driver, and an assembler in an electronics company are examples of direct labor.
What is Direct Labor Cost?
Indirect labor is not included in direct labor cost and, therefore, becomes a part of the manufacturing overhead. In a manufacturing company, overhead is generally called manufacturing overhead. Any of these companies may just use the term overhead rather than specifying it as manufacturing overhead, service overhead, or construction overhead. Overhead is part of making the good or providing the service, whereas selling costs result from sales activity and administrative costs result from running the business. Your employees complete time tickets as unfinished goods move through the different manufacturing departments.
Indirect materials are materials used in the manufacture of a product that cannot, or will not for practical reasons, be traced directly to the product being manufactured. Indirect materials are part of overhead, which we will discuss later. The actual direct labor costs are assigned to individual jobs, and the actual direct labor cost is recorded with a debit to Work-in-Process Inventory.
In summary, product costs (direct materials, direct labor and overhead) are not expensed until the item is sold when the product costs are recorded as cost of goods sold. Period costs are selling and administrative expenses, not related to creating a product, that are shown in the income statement along with cost of goods sold. These costs include the costs of direct materials, direct labor, and manufacturing overhead. Firms account for some labor costs (for example, wages of materials handlers, custodial workers, and supervisors) as indirect labor because the expense of tracing these costs to products would be too great.
