 In this presentation, we will take a look at product costs and period costs. When considering a manufacturing company, we can break out the costs to those costs that are used to create the product, to create the inventory, the inventory that we will eventually sew, and those that will not. Support accounting instruction by clicking the link below, giving you a free month membership to all of the content on our website, broken out by category further broken out by course, each course then organized in a logical reasonable fashion, making it much more easy to find what you need than can be done on a YouTube page. We also include added resources such as Excel practice problems, PDF files, and more like QuickBooks backup files when applicable. So once again, click the link below for a free month membership to our website and all the content on it. The product costs are going to include costs of direct labor, direct material, and overhead. So we just want to memorize these types of things as the three main categories we will be using when we manufacture inventory, when we make the asset of inventory, when we make the stuff that we're going to sell. That stuff is comprised of not just stuff, meaning not just direct materials, in other words, the creation of something like a guitar that we intend to sell is not composed of just the materials in the guitar, the woods, the strings, and whatnot, but is substantially composed of other things such as labor and overhead. So these are the three things that make up the cost of the guitar that we're going to sell, make up the cost of whatever product it is that we sell. The direct materials are pretty straightforward. This is going to be the material that goes directly into the units of inventory that we're creating. So if we're creating guitars, for making guitars, the wood is clearly a direct material that we can assign specifically to inventory and more specifically to whatever batch of inventory, whatever unit of guitar that we are making. The direct labor is very similar in that we are applying labor directly to a unit of production. So if we're making guitars and we have a custom guitar, let's say, and an individual producing making that guitar, then the labor that's being put in will be included in that guitar. And again, it's a little bit less conceptual to think about that the labor is being included in the guitar. It's not physically in the guitar. It's something that's intangible within the guitar. But when we think about the cost of the guitar, it's far more than just the wood that's in the guitar. The cost is primarily the labor that's going to be in the guitar, the thing that converts that wood into something useful, a guitar. So that's going to be the direct labor that we can apply directly. And then we have this bucket of overhead, the most confusing bucket, the bucket we're going to have to do something about something with and those are going to be things that we cannot apply directly to a specific unit. So if we're or a specific area, so for example, if we're making guitars and we're applying costs directly to a guitar, if we make custom guitars, then things that we can't apply directly might be things like glue because it's so small that we don't want to apply it directly would take too much time for us to apply out the glue to the guitar. So to track the amount of glue we use and whatnot. So what we'll do is we'll put it in the overhead, and then we'll find some type of cost allocation to then allocate it out. And that's going to include anything that we can't allocate directly. So if we think about things like overhead in the factory, anything within the factory that we use that we cannot apply directly pretty much anything other than direct materials or direct labor, things like the depreciation on the factory, we're going to have to apply that out to the guitars. We need the factory to make the guitars. If we weren't making guitars, we wouldn't have the factory and therefore wouldn't be depreciating it. And so the cost of that depreciation should be allocated to the guitars, but we want to allocate it specifically to units of guitars if we're using a like a job cost system. Things like a supervisor salary. We don't know who the supervisor was supervising at any given time or how much time was spent supervising one job versus another job. And therefore we're going to have to allocate that production supervisor to overhead and then figure out some type of allocation method. So the utilities on the factory, same way, the maintenance on the factory. So we're going to have this is going to be the most challenging of our segments here. So we know it's part of production. That's not a problem. Anything on the factory is part of production. But it becomes challenging to note, if we're in a job costs or process costs, what job or what process should this overhead go to? And then we're going to have period costs. Now the period costs are typically you can think of them as things that are not going to be part of the production part of the inventory. These costs up here, direct labor, direct materials and overhead are going to be cost the production costs are going to be cost that we're going to use to create the product. And therefore they're going to be capitalized when we use them. And this will this will seem a little unusual if you're used to looking at a service company, because when we do something like pay wages, for example, we're not used to we're pretty much used to just saying it's going to be wages expense. And in here, we're going to put it as part of the inventory, an asset. When we when we use materials, we might think of it as a materials expense, we're going to capitalize it as an asset. When we do things such as overhead depreciation and things like that, we're used to saying depreciation expense and expense. But here, we're going to capitalize it because it's part of the product that we're going to make when are we going to expense it when we sell the product. The period costs, on the other hand, are going to be costs that are not related to the production of the product. And they're going to act more typically as we would think when we're dealing with like a service type company, they're going to be costs for a particular time period. And they're typically broken out between two items selling and administrative. And they act like we would think for a service type company. So if we're talking about the executive salary, anything that's not in the warehouse, anything that's not in the production area, which will be very distinct and like a book problem, we'd have to separate that and separate what's in production and what's not. If we're talking about the corporate office that's not in the production, anything in there will probably act very similar as to a service company, meaning if we pay the salary of administrative staff or the accounting staff, then that's going to be done during the period because the cost was incurred. During that period, we paid people in order to do the job that time period, the matching principle would then allow us to expense it at the point in time that basically the wages happen for the most part. The utilities on the executive office, unlike the utilities on the production on the factory, which would go into overhead, if it was utilities bill on the office, the executive office, we would expense it like we would typically think. If we're talking about depreciation, if it was depreciation on the executive office, we would depreciate the expense. If it was on the factory, we would include it in once again, the inventory in some way. So these selling and administrative expenses are typically going to act a little bit more like we would think if we're used to having dealt with companies that aren't production companies that don't deal with making inventory, companies that either buy or sell inventory or companies that are service companies. As you would imagine, that most of our time here is going to be up here in the in the production cost to make the product one because that's the most interesting part because that's where we have to all the activities happening within a manufacturing company that we have to track all this stuff and do because that's going to be something that's different than other types of industries. Therefore, that's where we want to focus our time. If we look at some examples of the type of classifications we've had so far, we had variable cost versus fixed cost, direct or indirect cost and product or period costs. So if we think let's look at some examples and think about where they would go in these cost allocations. And again, when we first learn this stuff, some some people probably learn a few of these allocations better than others. It's important for us to know all of them. So the variable cost versus fixed cost, the behavior that we're going to have between the cost and direct or indirect, can we apply the cost out to a particular unit, a particular function, and a product cost or period cost really is dealing with are we dealing with the inventory stuff that we're in that's making the inventory, or are we dealing with non inventory stuff, which is basically admin, administrative and selling. So let's take a look at wood, we're going to make guitars up here. So if we have wood, and this is a wood guitar, you can see here. So if it's a wood guitar, we would say it's typically going to be variable. Because every time we make a new guitar, we're going to have to have a fixed number of increase in wood cost, you would think. And so that's going to be a variable cost as opposed to fixed. It's going to be direct typically, because if we're making custom guitars, we would know exactly which guitar that would goes to we would be able to assign the guitar out directly. And the product or period, it's going to be clearly a product cost, because the wood is going to be for the production of the guitar. If we have direct wages, someone actually making the guitar, we're paying someone to make the guitar, it once again will be variable, because if we make two guitars, we would expect the wages to go up at some variable rate. If we have a direct or indirect, we're going to say it's direct, because that that person is we can apply their cost directly to whatever guitars they work on. And then the product or period, it's clearly a product cost, because we're working on the production, the cost of those wages. And again, that's something different, because then when we actually record the journal entry, and we say instead of wages expense, we're going to debit the guitar, we're going to debit like working process inventory of some kind, we'll talk more about that later. And then that's going to be unusual at first, because a lot of times when we go through just memorizing transactions, we think of wages as an expense just automatically without knowing the rule, so much or applying the rule, same with like utilities, we're going to have utilities, not utilities expense the debit, but go into some type of asset for the inventory. That's going to feel unusual if we've just memorized the rule saying that utilities is always utilities expense debit and we credit cash. So these things, it makes sense right here. But as we record the journal entries, we'll have to really think about it probably in or impossibly unlearn some rules. Advertising that's going to be typically fixed. Oftentimes, it's going to be a fixed advertising. Is it going to be direct or indirect? It's going to be indirect. Now these are going to be things advertising isn't dealing with production. So it's not within the production. So when we think about direct or indirect, oftentimes, we're thinking about the production process. Is this something that we can assign directly to a particular guitar, for example, or, or is it something that I don't know which guitar was worked on? If it's selling an admin, it may not some sometimes you might think, well, that's not applicable. That's not as applicable because we're not really even dealing with production at all. This is going to be, as we see a period costs. So here you could put like in a or not not as applicable or indirect. And it's going to be a period cost, meaning it's not part of the production process. It's going to be something when we pay for selling an admin. And then we have the manager salary. So manager salary, we're going to say it's fixed. We're going to say it's going to be because because they get paid salary and not wages as we produce guitars. It's going to be indirect. If they're managing the warehouse, then again, we don't even know which guitar they're actually managing there. You know, so we're gonna have to apply their cost out to the guitars in some format. And we're going to say it's a product cost because we're going to say they're managing the warehouse. So this is going to be a fixed cost as opposed to what we would think that the workers of the guitar would probably be variable. We're going to say this was an hourly, this is salary. It's indirect, even though they're in the warehouse, because we don't know which guitar they're working on. We don't know who they're supervising. But we're gonna have to allocate that somehow. And it's going to be a product cost because they are in the warehouse. So we're gonna have to allocate it out somehow. Admin, equipment, depreciation. So if we talk about the depression, depreciation for the administrative office, like the fax machines or something like the copy machines or something like that, where depreciation in the administrative office, not the factory, we're going to say it's fixed depreciation, we know exactly what it's going to be. It's going to be indirect or not applicable because it's not in the production, it's not in the warehouse, it's not going to the making of the product. And then it's going to be a period cost, because it's in the admin, it's in the administrative office. And therefore, it's not part of production. So it's not going to be in the production area. And then we have factory depreciation, factory depreciation on this type. It's both depreciation here. But notice if it's on the factory, it's still going to be fixed, because we know exactly what the depreciation will be. You know, it's a set amount. It's still going to be indirect. Not because it's not in the factory this time, however, it is in the factory, meaning it should go into the production of our guitars. But we don't know which guitar it's going to go to. It's we made all the guitars in the factory. So how if we have a job cost system, how do we apply it to a job to process cost system? How do we apply it to a process? And so it's going to be a product cost. So it does apply to the product, but it is indirect because I don't know which product exactly it goes to something like glue that we used to make to put the guitar together. It's going to be variable because it changes with the number of units of guitar, we're going to need more glue with more guitars. It's going to be indirect, however, because we don't really know how much glue we used on one particular guitar. So we don't know we can estimate it. And that's what we'll have to do, but we don't know exactly what that estimate should be. And then it's going to be a product cost. So it's going to be part of the production process. So and the idea here on glue is just going to be pretty small compared to something like the wood. So if you compare the glue and the wood up here, then we're going to say, well, the wood is variable, but it's direct because I can I can assign, you know, I probably had to assign the wood that I took out to a particular job, whereas the glue down here is is variable, but it's not direct because I probably didn't have to go assign out the to get the glue. I just went and got the glue. I didn't have to get any kind of documentation telling me how much glue I'm going to get to put to a particular job. It wouldn't be worth our time to track that. And therefore it's going to be an indirect cost that we're just going to have to take that glue, whatever we paid for the glue overall and allocate it using some kind of allocation method sales commission. So commission on the sales. It's variable, which is unusual for a period costs. So this is a period cost that would be variable. It's going to be indirect or not applicable because it's not part of the production process. And it's going to be a period costs. So this is one of those costs which are a little bit confusing, because it most period costs are oftentimes fixed. So most salaries are fixed that are in the corporate office. We don't typically have a lot of variable costs with the sales, except for the commission here. And when we do our different types of allocations, that's kind of how do we deal with that? We're going to have to deal with that when we think of something like projections. We're going to have to break this out to a variable cost. And in that format, it will probably be grouped more with some of the production costs, because we're trying to break out variable versus fixed oftentimes when we're looking at projections, that is. So sales commission's variable, it's indirect or not applicable. And it's a period cost because it doesn't deal with the production process.