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Product Versus Period Costs

Kayaz Naturals / Bookkeeping  / Product Versus Period Costs

Product Versus Period Costs

Other examples of period costs include marketing expenses, rent (not directly tied to a production facility), office depreciation, and indirect labor. Also, interest expense on a company’s debt would be classified as a period cost. If you manufacture a product, these costs would include direct materials and labor along with manufacturing overhead. Most of the components of a manufactured item will be raw materials that, when received, are recorded as inventory on the balance sheet.

These can include administrative, logistical, financial, distribution, sales and marketing functions etc. Costs incurred on these other business activities that are not specifically linked to the manufacturing process qualify as period costs. As shown in the income statement above, salaries and benefits, rent and overhead, depreciation and amortization, and interest are all period costs that are expensed in the period incurred. On the other hand, costs of goods sold related to product costs are expensed on the income statement when the inventory is sold. Usually, companies seek to differentiate between product and period costs.

Start with a free account to explore 20+ always-free courses and hundreds of finance templates and cheat sheets. However, you’ll still have to pay the rent on the building, pay your insurance and property taxes, and pay salespeople that sell the products currently in inventory. If you’re currently in business, you need a good way to manage costs.

What are product costs?

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. Period cost (often referred to as period expense) is any other cost that is incurred by the entity that does not directly relate to the entity’s manufacturing process. While the production process is the core activity for a manufacturing entity, there are several other activities that it must conduct to keep its operations running.

The person creating the production cost calculation, therefore, has to decide whether these costs are already accounted for or if they must be a part of the overall calculation of production costs. Product costs are one of the most important costs managers need to know. Knowing the cost of a product is necessary to ensure its price is correct, or the company should increase or decrease production or even discontinue the product altogether. A financial professional will offer guidance based on the information provided and offer a no-obligation call to better understand your situation.

Inventoriable product costs are required for the cost of the assets, that is inventory, rather than total product costs. Both types of costs are an important component of your business’s financial statements, so it’s helpful to set up a real-time reporting system using accounting software. GoCardless blends seamlessly with numerous accounting partners, including Xero.

  • Under different costing system, product cost is also different, as in absorption costing both fixed cost and variable cost are considered as Product Cost.
  • By virtue of this concept, period costs are also recorded and reported as actual expenses for the financial year.
  • GoCardless is a global payments solution that helps you automate payment collection, cutting down on the amount of financial admin your team needs to deal with.
  • This distinction is important, as it paves the way for relating to the financial statements of a product producing company.

As the name suggests, period costs are those costs which are incurred due to the passage of time. They don’t form part of the cost of inventory and thus are expensed to the profit and loss account as and when they are incurred by the entity. Such a treatment of period costs is in accordance with the accrual concept of financial accounting. Examples of period costs include selling costs and administrative costs. On the other hand, period costs are considered indirect costs or overhead costs, and while they play an important role in your business, they are not directly tied to production levels.

On the other hand, period costs do not get apportioned or assigned to any unit of product. Instead, companies charged them to the income statement as an expense. In financial accounting, costs usually appear as account balances on the balance sheet or as expenses in the income statement.

Product costs are all the costs that are related to producing a good or service. These items are directly traceable or assignable to the product being manufactured. Product costs only become an expense when the importance of other comprehensive income they are sold and become period costss. 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.

Related Differences

Period costs include selling expenses and administrative expenses that are unrelated to the production process in a manufacturing business. Selling expenses are incurred to market products and deliver them to customers. Administrative expenses are required to provide support services not directly related to manufacturing or selling activities. Administrative costs may include expenditures for a company’s accounting department, human resources department, and the president’s office.

Timing of recognition as expense

Executive salaries, clerical salaries, office expenses, office rent, donations, research and development costs, and legal costs are administrative costs. Product costs are costs that are incurred to create a product that is intended for sale to customers. Product costs include direct material (DM), direct labor (DL), and manufacturing overhead (MOH).

Which of these is most important for your financial advisor to have?

Period costs are sometimes broken out into additional subcategories for selling activities and administrative activities. Administrative activities are the most pure form of period costs, since they must be incurred on an ongoing basis, irrespective of the sales level of a business. Selling costs can vary somewhat with product sales levels, especially if sales commissions are a large part of this expenditure. The type of labor involved will determine whether it is accounted for as a period cost or a product cost. Direct labor that is tied to production can be considered a product cost. However, other labor, such as secretarial or janitorial staff, would instead be period costs.

For example, you receive a utility bill each month that is not directly tied to production levels, but the amount can vary from month to month, making it a semi-variable expense. Both product costs and period costs may be either fixed or variable in nature. For a retailer, the product costs would include the supplies purchased from a supplier and any other costs involved in bringing their goods to market.

Difference Between Product Costs and Period Costs

Managing your costs is doubly important if you own a manufacturing business, since you’ll need to manage both product and period costs. Product costs, also known as direct costs or inventoriable costs, are directly related to production output and are used to calculate the cost of goods sold. From the above description, we can conclude that the cost due to the manufacturing unit is product cost, and the cost other than product cost is a period cost. Period cost is not in a straight line with the production of the end product. This period cost is not assigned to the products and is recorded on the income statement for the period they incurred.

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