## 4.8. Cost of goods manufactured and cost of goods sold

As we noted earlier, when finished goods are sold, their cost is called the cost of goods sold (COGS). The cost of goods sold is based on the cost of goods manufactured (COGM).

Refer to the illustrations below showing how COGS and COGM are determined:

Illustration 17: Formula for cost of goods manufactured (COGM)

 (+) Beginning Balance of WIP Inventory (+) Direct Materials (+) Direct Labor (+) Factory Overhead (–) Ending Balance of WIP Inventory (=) Cost of Goods Manufactured

Illustration 18: Formula for cost of goods sold (COGS)

 (+) Beginning Balance of FG Inventory (+) Cost of Goods Manufactured (–) Ending Balance of FG Inventory (=) Cost of Goods Sold

Manufacturing companies normally prepare the schedule of costs of goods manufactured before they prepare the income statement. Using the same data as in the previous sections, let's prepare the schedule of cost of goods manufactured for Friends Company for March 20X9:

Illustration 19: Schedule of cost of goods manufactured for Friends Company

 Friends Company Statement of Cost of Goods Manufactured For the Month Ended March 31, 2009 Direct Materials Beginning Inventory \$ 0 Purchases 9,000 Direct Materials Available 9,000 Ending Direct Materials Inventory (4,000) Direct Materials Used 5,000 Direct Labor 2,000 Factory Overhead 1,100 Total Manufacturing Cost 8,100 Add: Beginning Work-in-Process Inventory 5,000 Total Manufacturing Cost to Account For 13,100 Less: Ending Work-in-Process Inventory 4,500 Cost of Goods Manufactured \$ 8,600

A few notes in relation to the table are presented below:

• Direct material purchases included \$2,000 of paint and \$7,000 of plastic and metal parts.
• Friends Company also purchased some light bulbs. The \$500 of light bulbs purchased was included in the Raw Materials Inventory account, but since the bulbs are not direct materials, they were not recorded as part of the direct materials cost. Later, Friends Company used \$100 of light bulbs in the manufacturing process, and this cost was recorded as part of the Factory Overhead cost.
• Factory Overhead of \$1,100 = \$100 (light bulbs) + \$400 (depreciation of factory equipment) + \$600 (factory utilities).

Friends Company could use a slightly different format of the schedule as well, refer to the illustration below:

Illustration 20: Schedule of cost of goods manufactured for Friends Company

 Friends Company Statement of Cost of Goods Manufactured For the Month Ended March 31, 2009 Beginning Working-in-Process Inventory \$ 5,000 Direct Materials Beginning Inventory 0 Purchases 9,000 Direct Materials Available 9,000 Ending Direct Materials Inventory (4,000) Direct Materials Used 5,000 Direct Labor 2,000 Factory Overhead Indirect Materials 100 Depreciation of factory equipment 400 Factory Utilities 600 Total Factory Overhead 1,100 Total Manufacturing Costs 8,100 Total Cost of Work-in-Process 13,100 Less: Ending Work-in-Process Inventory (4,500) Cost of Goods Manufactured 8,600

Note that the resulting cost of goods manufactured does not change between the two formats. The only difference is the order of accounts presentation.

The Raw Materials, Work-in-Process, and Finished Goods Inventory accounts are real accounts. That is, they are not temporary accounts and are not closed to Retain Earnings at the end of the accounting period. These inventory accounts are reported in the assets section of the balance sheet.

## 4.9. Income statement for manufacturing companies

Using information from the previous sections (including the schedules for the cost of goods manufactured), Friends Company prepared the following income statement:

Illustration 21: Income statement for Friends Company

 Friends Company Income Statement For the Month Ended March 31, 2009 Sales \$15,000 Cost of Goods Sold Beginning Finished Goods Inventory 6,000 Cost of Goods Manufactured 8,600 Cost of Goods Available for Sale 14,600 Ending Finished Goods Inventory (6,700) 7,900 Gross Margin 7,100 Selling and Administrative Expenses 4,900 Operating Income 2,200

For the finished goods amounts refer to the section where we talked about the finished goods. For the selling and administrative expenses refer to the section where we discussed the selling and administrative expenses (i.e., nonmanufacturing or period costs).

Note that the COGS account is a nominal account. That is, it is a temporary account that is closed to Retained Earnings at the end of the accounting period. The same is true for other income statement accounts.

Related accounting material
Not a member?
See why people join our
online accounting course:
Lecture Contents:
Free Study Notes
Download free accounting study notes by signing up for our free newsletter (example):
First Name:
E-mail:
We never share or sell your e-mail to third parties.
Ask a Question
Suggest a Topic
Do you have an interesting question or topic?
Suggest it to be answered on Simplestudies.com: