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Updated for 2011

Income

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Reporting Income for a Manufacturing Business

A manufacturing business purchases raw materials to make products. Each product is referred to as a unit of production.

Cost accounting is the discipline used to keep track of all manufacturing costs associated with each unit of production.

Manufacturing costs assigned to each unit of production consist of three elements:

Direct materials
Direct labor
Factory overhead

At the end of each accounting period, some units of production may have been fully completed while others may have been only partially completed.

Consequently, at the end of each accounting period, a manufacturer's inventory will generally consist of three elements:

Finished goods
- Fully completed units of production
Work in process
- Partially completed units of production
Direct materials
- Materials not consumed that remain available for use in the manufacturing process.

Figuring Net Profit

To figure net profit for a manufacturing business, the following calculation is performed:

Sales, minus
Cost of goods sold (see calculation below), equals
Gross profit, minus
Administrative and marketing expenses, equals
Net income from operations, plus
Other income-if any (e.g., royalties, dividends), minus
Other expenses-if any (e.g., interest on indebtedness), equals
Net income BEFORE income taxes, minus
Estimated income taxes, equals
Net income AFTER estimated income taxes

Cost of Goods Sold for a Manufacturing Business

Two-step process:

There are two steps for determining the cost of goods sold (item 2 above) for a manufacturing business:

First, determine the cost of goods MANUFACTURED.
Then, determine the cost of goods SOLD:

STEP 1: Cost of Goods Manufactured:

The following elements are included in the cost of goods manufactured:

Direct Materials Consumed equals:
- Direct materials on hand, January 1, 200X, plus
- Direct materials purchased during the year, minus
- Purchase returns and allowances, minus
- Materials inventory, December 31, 200X, plus
Direct labor, plus
Factory overhead, equals
Total manufacturing costs, plus
- Beginning work in process, minus
- Ending work in process, equals
COST of GOODS MANUFACTURED

Elements included in cost of goods manufactured explained:

a) Direct materials consumed.

Direct materials consumed are materials that become part of the finished unit of production.

b) Direct labor.

This is the cost of those employees whose work can be identified directly with the product manufactured.

c) Factory overhead.

Factory overhead is added to the cost of each unit of production.

Factory overhead includes items such as indirect labor, payroll taxes, utilities, depreciation for equipment, depreciation for the factory building (if the building is owned and not rented), factory supplies, insurance, repairs and maintenance, etc.

d) Beginning work in process.

These are units of production started in the previous year but remained unfinished as of the beginning of the current year.

e) Ending work in process:

These are units of production partially finished as of the end of the current year.

Step 2: Cost of Goods Sold:

Once the cost of goods manufactured is determined, the next step is to determine the Cost of goods sold.

The cost of goods sold is determined by adding the cost of goods manufactured to the difference between:

The cost of the beginning and ending inventory for FINISHED GOODS.

Example:

Cost of goods manufactured: $100,000, plus
- Inventory of finished goods, January 1, 200X: $10,000, minus
- Inventory of finished goods, December 31, 200X: $2,000, equals
Cost of goods sold: $108,000

Income: Rental Income; Bartering Income; Debt Cancellation Income; Investment Income; Miscellaneous Income

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