Materials requisition, the movement of materials into the production process, is one of the early stages in the manufacturing of goods. The entire production process is recorded in the financial records of the company, and each stage of the process has its own journal entries. However, this doesn't mean that the overall inventory account balance actually changes. Learning the journal entries of the production process can help you determine the effects of production on the balances of balance of inventory or any other account. Show
Purchase of Raw Materials Journal EntryWhen you initially purchase materials for use, you record the purchase in the accounting records at cost. This entry consists of a debit to raw materials inventory and a credit to accounts payable or cash, reports Accounting Tools. The entry increases the total inventory account. If you make the purchase on account, it also increases current assets and current liabilities. However, if you make the purchase with cash, assets do not change. Because raw materials inventory is a permanent account, the purchased materials will remain at cost until you use the materials in production. Requisitioning MaterialsRequisitioning materials, also known as putting materials into production, is the second step in the production process. Company accountants must account for direct and indirect materials separately. The journal entry for direct materials, that is, materials that can be directly traced to products, is a debit to the work in process and a credit to the raw materials inventory accounts. Record indirect materials, materials that cannot be directly traced to products, as a debit to the manufacturing overhead account and a credit to raw materials inventory. Because the requisitioning process is a transfer between two inventory accounts, the overall inventory balance on the financial statements does not change. Finished GoodsOnce goods are completed, you transfer costs out of the work in process account and record them as finished goods. Make this entry as a credit to work in process and a debit to finished goods. Like a requisition, this entry is a transfer between two inventory sub-accounts, and the overall inventory balance does not change. The cost of goods manufactured will remain in the finished goods inventory account until the goods are sold, reports Bank of America. Cost of Goods SoldThe last step in the inventory process is to sell goods to customers. Record this step in the process as a debit to the costs of goods sold account and a credit to finished goods inventory. In addition, the company will record a credit to the sales account and a debit to the accounts receivable or cash account. The first entry accounts for the cost of the product, and the second entry accounts for the revenue from the sale. The difference between the two entries is the gross profit on the sale. The movement of cost from finished goods to cost of goods sold decreases assets and increases expense. However, the recognition of the sale of the goods in the second entry increases revenue and assets. If the item is sold at a profit, the increase in revenue in the second entry will be greater than the increase in expense in the first entry. Recommended textbook solutions
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Intermediate Accounting14th EditionDonald E. Kieso, Jerry J. Weygandt, Terry D. Warfield 1,471 solutions Accounting: What the Numbers Mean9th EditionDaniel F Viele, David H Marshall, Wayne W McManus 345 solutions Financial Accounting4th EditionDon Herrmann, J. David Spiceland, Wayne Thomas 1,097 solutions The company's total production costs for a specific period of time What is Cost of Goods Manufactured (COGM)?Cost of Goods Manufactured (COGM) is a term used in managerial accounting that refers to a schedule or statement that shows the total production costs for a company during a specific period of time. Just like the name implies, COGM is the total cost incurred to manufacture products and transfer them into finished goods inventory for retail sale. To learn more, launch CFI’s free accounting courses! The Formula to Calculate the COGM is:Add: Direct Materials Used Add: Direct Labor Used Add: Manufacturing Overhead Add: Beginning Work in Process (WIP) Inventory Deduct: Ending Work in Process (WIP) Inventory = COGM Example Calculation of Cost of Goods Manufactured (COGM)This can be more clearly seen in a T-account. For example, let’s say that a company that manufactures furniture incurs the following costs: Direct Materials: $100,000 Direct Labor: $50,000 Manufacturing Overhead: $60,000 Beginning WIP Inventory: $10,000 Ending WIP Inventory: $30,000
With this information, we can solve for COGM, which is on the credit side of the WIP Inventory T-Account. COGM = 10,000 + 100,000 + 50,000 + 60,000 – 30,000 = $190,000* To learn more, launch our free accounting courses! Determining Direct Materials UsedIn order to determine the actual direct materials used by the company for production, we must consider the Raw Materials Inventory T-account. Raw materials inventory refers to the inventory of materials that are waiting to be used in production. For example, if a company were to make a raw material purchase for use, these would be recorded in the debit side of the raw materials inventory T-Account. In addition, if a specific number of raw materials were requisitioned to be used in production, this would be subtracted from raw materials inventory and transferred to the WIP Inventory. Raw materials inventory can include both direct and indirect materials. Beginning and ending balances must also be used to determine the amount of direct materials used. Let’s also examine the following raw materials T-account.
The raw materials used in production (d) is then transferred to the WIP Inventory account to calculate COGM. To learn more, launch our free accounting courses! Determining Direct Labor and Manufacturing OverheadDetermining how much direct labor was used in dollars is usually straightforward for most companies. With time logs and timesheets, companies just take the number of hours worked multiplied by the hourly rate. For information on calculating manufacturing overhead, refer to the Job order costing guide. Linking COGM to COGSOnce all the individual parts are calculated and used to figure out the total cost of goods manufactured for the year, this COGM value is then transferred to a final inventory account called the Finished Goods Inventory account, and used to calculate the Cost of Goods Sold. Finished Goods Inventory, as the name suggests, contains any products, goods, or services that are fully ready to be delivered to customers in final form. The following T-account shows the Finished Goods Inventory. Beginning and ending balances must also be considered, similar to Raw materials and WIP Inventory.
With all the pieces together, we can construct a full Schedule of Cost of Goods Manufactured and Cost of Goods Sold. Final Cost of Goods Manufactured (COGM) Formula
To learn more, launch our free accounting courses! Why is COGM Important for Companies?In general, having the schedule for Cost of Goods Manufactured is important because it gives companies and management a general idea of whether production costs are too high or too low relative to the sales they are making. For example, if a company earned $1,000,000 in sales revenue for the year and incurred $750,000 in Cost of Goods Sold, they might want to look at ways to reduce their manufacturing costs to increase their gross margin percentage. Comparatively, if another company earned $800,000 in sales revenue and incurred only $400,000 in COGS, even though the company’s sales were lower, their gross margin percentage is much higher, which makes the latter company substantially more profitable. Therefore, by having a general picture of what the company is incurring in terms of manufacturing costs in all its specific components of materials, labor, and overhead, management can examine these areas more thoroughly to make any necessary adjustments or changes to maximize the company’s net income. To learn more, launch our free accounting courses! Download the Free TemplateEnter your name and email in the form below and download the free template now! Cost of Goods Manufactured TemplateDownload the free Excel template now to advance your finance knowledge! Additional ResourcesThank you for reading CFI’s guide to Cost of Goods Manufactured and How to Calculate COGM. To keep learning and advancing your career, the following resources will be helpful:
Does raw materials have a debit or credit balance?Accounting for Raw Materials Inventory
Raw materials of all types are initially recorded into an inventory asset account with a debit to the raw materials inventory account and a credit to the accounts payable account.
When indirect materials are issued to production the raw materials inventory account is credited?Explanation: When indirect materials are used, the manufacturing overhead account is debited and the raw material inventory account is credited. A debit to the manufacturing overhead account represents an increase in actual manufacturing overhead used in production. 2.)
What is raw materials in accounting?Raw material expenses refer to the cost of the components that go into a final manufactured product. They are one of three expenses included in a manufacturer's cost of goods sold (COGS). The other two are: labour expenses and amortization expenses.
What is the correct journal entry for raw materials?Company accountants must account for direct and indirect materials separately. The journal entry for direct materials, that is, materials that can be directly traced to products, is a debit to the work in process and a credit to the raw materials inventory accounts.
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