Manufacturing
Accounts deal with working out the cost of making products rather than buying
them. The production costs therefore
replace the purchases in the Income Statement.
However before we get there we need a separate statement to show the
costs involved in making the items.
There are
two types of costs in a Manufacturing account
- Direct Costs – related to production
- Raw Materials, Direct Expenses, Direct Labour and Royalties
- Indirect Costs - Costs which are clearly linked to manufacturing but not directly attributable
- Supervisors wages, depreciation of machinery
NB If it is not to do with manufacturing
then put it in the Income Statement!!
Below is an
example of a manufacturing account. Please
note we have had to make adjustments for closing inventory of raw materials and
work in progress. These will be used
next year. Work in progress are items
which have started being produced but not yet complete. Think of a loaf of bread fresh out of the
over and not yet cut and wrapped!
What is Factory
Profit
Manufacturers want to gauge how efficiently their factory
runs
They compare their own manufacturing cost with the cost of
‘buying in’ from another supplier (A ‘make or buy’ decision)
This does not show how profitable the factory is though. Firms may therefore decide to ‘add in’ a factory
profit of a certain percentage. This
increases the manufacturing (or production) cost.
NB Increasing production cost lowers the Gross and Net
Profit from Trading.
This enables the
manufacturing element of the business to be kept separate from the Retail
element – allowing ‘Profit Centres’.
Production Cost £115,500
Add Factory Profit (10%) £
11,550
Transfer Price £127,050
Doing this has
therefore increased our production cost to the retail element of the business
allowing the manufacturer to show a profit.
Since we added in a
Factory profit in the manufacturing account (thus lowering Gross Profit) we
must add it back into the accounts in the profit and loss account after Net
profit to give a revised Net Profit for the group as a whole.
A sample Income
statement showing this is shown below
