MANUFACTURING ACCOUNTS

1.0 INTRODUCTION

A business entity engaged in the manufacturing of goods for sale will prepare a manufacturing account in addition to the trading, profit and loss account. The aim of preparing manufacturing account is to ascertain the cost of goods produced during the year. It is prepared in a manner to show the components of the cost of goods produced as analyzed below:  Direct Materials (that is cost of raw materials consumed) x Direct Labor (that is direct wages or manufacturing wages) x Direct Expenses (e. g royalty payable, hire of machine, etc) x Prime Cost x Factory/ Production Overhead Expenses x Cost of goods produced x

2.0 OBJECTIVES 

At the end of this unit, you should be able to:
understand the business setting in which the preparation of manufacturing account is required
understand the differences between a manufacturing account and a trading, profit and loss account explain the key terminologies used in a manufacturing account describe the principal adjustments normally being made to a manufacturing account.

3.0 MAIN CONTENT

3.1 Manufacturing Accounts

3.1.1 Inventories of a Manufacturing Concern

Manufacturing businesses have three types of inventories (stock). These are stock-in-trade, work-in progress inventory and raw material stocks. For a going concern, there is bound to be opening and closing balances of the three types of stock, two of which are to be considered in the manufacturing account before arriving at the cost of production.

SELF ASSESSMENT EXERCISE 1

1. Enumerate any three types of inventory in a manufacturing concern. 2. How should a going concern business report the three types of stock in its accounts? 

3.2 Types of Costs Relevant in the Manufacturing Accounts 

A cost can simply be defined as the economic resource used in production of goods or services. It can be classified into two main groups: direct costs and indirect costs. Direct costs are those that can be traced directly to a product or service. These are direct materials and direct labor costs. All other costs apart from the first two are indirect costs or manufacturing overheads.

From the above, one can conclude that manufacturing businesses need three manufacturing cost elements to produce finished products during the production operation. These are:

1. Direct Materials 
2. Direct Labour 
3. Manufacturing Overhead 

SELF ASSESSMENT EXERCISE 2

1. What is a cost? 
2.  How cost is mainly classified? 

3.3 Why is Cost Information Needed?

A manufacturing business must be conscious of cost information because of the following reasons:

1. Inventory Valuation

The values of inventories have to be determined before arriving at the cost of sales and the value to be included in the balance sheet in order to show a true and fair view of the financial position of the business. As costs vary from time to time, care must be taken in giving a value to the stock remaining in the store or in process.

2. Income Determination

There is the need for the knowledge of total cost to be deducted from revenue (sales) before determining the profit or loss of the business for a period.

3. Determining Selling Price

A good knowledge of the cost helps the manager in fixing the price that the products should bear as they are sold to customers.

4. Controlling Costs

By keeping the cost of production low, a manufacturer will be in a position to lower his prices and outsell his competitors. To be able to keep costs of production low, the manufacturer must first of all know what his costs are before finding ways of reducing them.

5. Financial Planning

Management requires cost information to plan for the future with desired financial goals. Cost information is necessary for a good budget to be prepared.

6. Decision Making

Management must always evaluate the costs associated with alternative courses of action before taking decision otherwise it would be putting the business in trouble. The evaluation would reveal the best option to be selected for the benefit of the business.

4.0 CONCLUSION

Businesses that manufacture goods for sale have to add costs of production to cost of opening stock plus other relevant costs before arriving at costs of sales. Manufacturing accounts are used to determine the cost of production of a manufacturing business concern before preparing its final accounts. This, therefore, means that the final accounts of a forward integrated business or a manufacturing business concern start from the level of manufacturing account. This Unit is introduction to the expected accounting system of a manufacturing business, including some aspects of cost accounting system to be put in place.

5.0 SUMMARY

Manufacturing business concerns need to account for three manufacturing cost elements to produce finished products during the production process. These are:

1.  Direct Materials: These are raw materials that are directly traceable to the finished goods and, so, serving as integral parts of the finished products. For example, the cotton used for making cloth is a direct material. 
2. Direct Labor: Compensations paid to employees whose efforts can be traced to the finished product is classified as a direct labor cost. For example, wages and salaries paid to maintenance people, supervisors, etc. 
3. Manufacturing Overhead: All manufacturing costs except direct material cost and direct labor cost are included in the manufacturing overhead costs. They are also called factory costs or factory burden. 

These include such cost items as maintenance, utilities, insurance, depreciation, glue, bolts, etc.
This Unit discusses the accounting treatments of all the above, including cost of work in progress, as a manufacturing business make effort to be prudent, accountable and transparent.

6.0 TUTOR-MARKED ASSIGNMENT

1. Write an article suitable for publication in an accountancy journal on the topic: The Necessity of Manufacturing Account for a Manufacturing Business. 
2. Write Short Notes on the Following concepts: