Period Costs vs Product Costs: What’s the Difference?

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As such, these costs are used to value inventory and once those products are sold, the product costs fold into the costs of goods sold. Company management needs to know the total costs to price goods high enough to cover these costs and still make a normal profit. Inventoriable product costs, sometimes just product costs, are only incurred during the value chain’s production stage. Inventoriable product costs are required for the cost of the assets, that is inventory, rather than total product costs.

Therefore, period costs are listed as an expense in the accounting period in which they occurred. In accounting, product costs are usually measured as part of the inventory. They’re often broken down into subcategories of fixed and variable costs, which can be used for calculating things like the break-even point. When a company sells its products, the product costs form part of the cost of goods sold (COGS) on the income statement. Product costs are those related directly to the cost of production, including things like direct labor, materials, and factory overhead. For example, a retailer would include the cost of any purchases from suppliers as well as the cost of shipping these items to a retail unit.

If you manufacture a product, these costs would include direct materials and labor along with manufacturing overhead. Most of the components of a manufactured item will be raw materials that, when received, are recorded as inventory on the balance sheet. Only when they are used to produce and sell goods are they moved to cost of goods sold, which is located on the income statement. When the raw materials are brought in they will sit on the balance sheet. When the product is manufactured and then sold a corresponding amount from the inventory account will be moved to the income statement.

However, other labor, such as secretarial or janitorial staff, would instead be period costs. Product costs are often treated as inventory and are referred to as “inventoriable costs” because these costs are used to value the inventory. When products are sold, the product costs become part of costs of goods sold as shown in the income statement. The product costs measured and recorded in the company’s records are also used to prepare the financial statements.

What are period costs?

There is little difference between a retailer and a manufacturer in this regard, except that the manufacturer is acquiring its inventory via a series of expenditures (for material, labor, etc.). What is important to note about these product costs is that they attach to inventory and are thus said to be inventoriable costs. Period costs are the costs that your business incurs that are not directly related to production levels. These expenses have no relation to the inventory or production process but are incurred on a regular basis, regardless of the level of production. Under different costing system, product cost is also different, as in absorption costing both fixed cost and variable cost are considered as Product Cost.

  • It is important to keep track of your total period cost because that information helps you determine the net income of your business for each accounting period.
  • Regardless of differences, both types are significant in the cost accounting and profit appropriation of a business entity.
  • The product costs measured and recorded in the company’s records are also used to prepare the financial statements.
  • If you’re using the wrong credit or debit card, it could be costing you serious money.
  • On the other hand, process costing uses an approach in which all the costs of material, labor, supplies and overhead during the batch production process are summed up.

Adding product costs to the financial statement is required in both IFRS(International Financial Reporting Standards) and GAAP(Generally Accepted Accounting Principles). To illustrate, assume a company pays its sales manager a fixed salary. Period costs are costs that cannot be capitalized on a company’s balance sheet.

Key Differences Between Product Cost and Period Cost

For example, iron ore is a direct material to a steel company because the iron ore is clearly traceable to the finished product, steel. In turn, steel becomes a direct material to an automobile manufacturer. As a general rule, costs are recognized as expenses on the income statement in the period that the benefit was derived from the cost.

Instead, these expenses are incurred and recorded in a lump sum for the whole business entity. Some companies have a regulation to transfer some periodic costs to the product costs as a percentage of each period cost. The product costs also include the factory overhead cost that goes into manufacturing or procuring the products.

Product cost vs. period cost

On the other hand, in Marginal Costing only the variable cost is regarded as product cost. An example of such cost is the cost of material, labour, and overheads employed in manufacturing a table. Period cost is not in manufacturing or transporting the assets to their final destination. Period costs capital budgeting decisions are generally based on are on the income statement as expenses in the period they were incurred. Classification of cost into periods and products is generally for financial accounting purposes. A proper determination of revenues and expenses must be based on a well-defined distinction between Period cost and Product cost.

The difference between product costs and period costs

An example of a product cost would be the cost of raw materials used in the manufacturing process. Product costs also include Depreciation on plant, expired insurance on plant, production supervisor salaries, manufacturing supplies used, and plant maintenance. Both of these costs are considered period costs because selling and administrative expenses are used up over the same period in which they originate. Both product costs and period costs may be either fixed or variable in nature.

By analogy, a manufacturer pours money into direct materials, direct labor, and manufacturing overhead. Should this spent money be expensed on the income statement immediately? This collection of costs constitutes an asset on the balance sheet (“inventory”). This inventory remains as an asset until the goods are sold, at which point the inventory is gone, and the cost of the inventory is transferred to cost of goods sold on the income statement.

What are Product Costs?

However, the handling of all costs in each financial statement is different. In this article, we will differentiate between the product costs and period costs for any business entity. They are the costs that are directly and indirectly related to producing an item.

Managing your costs is doubly important if you own a manufacturing business, since you’ll need to manage both product and period costs. Product costs, also known as direct costs or inventoriable costs, are directly related to production output and are used to calculate the cost of goods sold. Period costs are not assigned to one particular product or the cost of inventory like product costs.

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