Production costs definition
/What are Production Costs?
Production costs are those costs incurred when a business manufactures goods. The three main categories of costs that comprise production costs are noted below. Once these costs are incurred, they are assigned to units produced, and then charged to the cost of goods sold once the goods are sold.
Direct Labor Costs
Direct labor consists of the fully burdened cost of all labor directly involved in the production of goods. This usually means those people working on production lines or in work cells. Other types of production labor are recorded within the category of factory overhead costs.
Direct Material Costs
Direct materials consists of those materials consumed as part of the production process, including the cost of normal scrap that occurs as part of the process. Excess scrap, which is known as abnormal scrap, is charged to expense as incurred, and is not considered a normal outcome of the production process.
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Factory Overhead Costs
Factory overhead consists of those costs required to maintain the production function, but which are not directly consumed on individual units. Examples are utilities, insurance, materials management salaries, production salaries, maintenance wages, and quality assurance wages. In many organizations, the proportion of production costs classified as factory overhead exceeds the costs of direct materials and direct labor.
Presentation of Production Costs
Production costs initially appear in a company’s balance sheet within the inventory line item. It is classified as a current asset on the balance sheet, since it is expected to be liquidated within the next 12 months. Once goods are sold, this cost is shifted over to the income statement, where the costs are stated within the cost of goods sold line item.