Raw materials inventory represents items that the manufacturer has purchased or produced to use in manufacturing a product.

The cost of all raw materials at any point in time comprises raw materials inventory.

Raw materials can be classified as direct or indirect materials. As we have discussed earlier, direct materials are raw materials that can be physically and directly associated with the finished product.

For example, Friends Corporation will classify plastic parts, paint, and metal parts as direct materials because those can be directly associated with a valve (or batch of valves) produced.

Indirect materials do not physically become part of the final product or their association with the final product is too small to be easily traced to the final product.

For example, Friends Corporation will classify janitorial supplies for the factory, grease for the machinery, and light bulbs as indirect materials because they do not physically become part of the final product.

When materials (both direct and indirect) are purchased, they are recorded in the Raw Materials Inventory account. For example, during March 20X9 Friends Corporation purchased $2,000 of paint, $7,000 of plastic and metal parts, and $500 of light bulbs on account ($2,000 + $ 7,000 + $500 = $9,500). The journal entry to record the purchase is as follows:

The Raw Materials Inventory T-account includes the following information (also refer to the below illustration with the T-account):

• Amount of raw materials available at the beginning of an accounting period (i.e. beginning balance as a debit because inventory is an asset account).
• Cost of materials purchased during the accounting period (debit side).
• Cost of materials used in the manufacturing process (credit side).
• Available (not used) raw materials at the end of the accounting period (ending balance as a debit). The ending balance in this accounting period becomes the beginning balance in the following accounting period.

Illustration 8: Raw materials inventory T-account

When a manufacturing company uses raw materials in the production process, the Raw Material Inventory account is credited (decreased) and the Work-in-Process Inventory account is debited (increased). Therefore, raw materials used in production (both direct and indirect) are the cost transferred out of the Raw Materials Inventory account and the cost added to the Work-in-Process Inventory account.

Going back to our Friends Corporation example, assume that in March 20X9 the company used $1,000 of paint and $4,000 of plastic and metal parts for a total of $5,000.

The following journal entry is posted:

In addition, assume that Friends Corporation used $100 light bulbs (indirect materials or overhead) during the same period.  The journal entry to record their use is presented below:

Let’s see how the above amounts are reflected in the Raw Materials Inventory T-account. In our example, on March 1, 20X9 Friends Corporation had the beginning balance (BB) in the Raw Materials Inventory account of zero ($0).  The raw materials purchased and raw materials used are recorded in the T-account format as follows:

Illustration 9: Friends Corporation raw materials inventory T-account

As we can see from the T-account above, Friends Corporation debited $9,500 for materials purchased (i.e. cost added) and credited $5,100 for materials used (i.e. cost transferred out (debited) to the Work-in-Process Inventory account).