Learning Outcomes

• Understand the purpose of preparing Manufacturing Account.
• Learn the items to be included in the Manufacturing Account.
• Draw Manufacturing accounts of Manufacturing entities.

2.1 Introduction

• The manufacturing entities generally prepare a separate Manufacturing Account as a part of Final accounts in addition to Trading Account, Profit and Loss Account and Balance Sheet.
• The objective of preparing Manufacturing Account is to determine manufacturing costs of finished goods for assessing the cost effectiveness of manufacturing activities.
• Manufacturing costs of finished goods are then transferred from the Manufacturing Account to Trading Account.

2.2 Purpose

• (1) It shows the total cost of manufacturing the finished products and sets out in detail, with appropriate classifications, the constituent elements of such cost.
• (2) It provides details of factory cost and facilitates reconciliation of financial books with cost records. It also serves as a basis of comparison of manufacturing operations from period to period.
• (3) The Manufacturing Account may also be used for various other purposes. For example, if the output is carried to the Trading Account at market prices, it shows the profit or loss on manufacture.

2.3 Manufacturing Costs

• Raw Material Consumed is arrived at after adjustment of opening and closing Inventory of raw materials:

• If there remain unfinished goods at the beginning and at the end of the accounting period, cost of such unfinished goods (also termed as Work-In-Process) is shown in the Manufacturing Account.
• Opening inventory of Work-in-Process is posted to the debit of the Manufacturing Account and closing inventory of Work-in-Process is posted to the credit of the Manufacturing Account.

Direct Manufacturing Expenses

• Direct manufacturing expenses are costs, other than material or wages, which are incurred for a specific product or saleable service.
• Examples:
  • (i) Royalties for using license or technology if based on units produced
  • (ii) Hire charge of the plant and machinery used on hire, if based on units produced

Indirect Manufacturing Expenses or Overhead Expenses

• These are also called Manufacturing overhead, Production overhead, Works overhead, etc.
• Overhead is defined as total cost of indirect material, indirect wages and indirect expenses.

• Indirect material: Materials which cannot be linked directly with the units produced (e.g., stores consumed for repair and maintenance work, small tools, fuel and lubricating oil)
• Indirect wages: Wages which cannot be directly linked to the units produced (e.g., wages for maintenance works, holding pay)
• Indirect expenses: Expenses which cannot be directly linked to the units produced (e.g., training expenses, depreciation of plant and machinery, factory shed insurance)

By-Products

• In most manufacturing operations, the production of the main product is accompanied by the production of a subsidiary product which has a value on sale.
• The subsidiary product is termed as a by-product because its production is not consciously undertaken but results out of the production of the main product.
• Examples:
  • Molasses is the by-product in sugar manufacturing
  • Butter milk is the by-product of a dairy which produces butter and cheese
• By-products are generally valued at net realizable value, if their costs cannot be separately identified.
• The correct treatment would be to credit the sale value of the by-product to Manufacturing Account so as to reduce, to that extent, the cost of manufacture of main product.

2.4 Design of a Manufacturing Account

Note: Nowadays no manufacturing business entity prepares manufacturing account as part of its final set of accounts. The items of manufacturing account are shown either in trading account (for non-corporate entities) or in Statement of profit and loss (for corporate entities).

Illustration 2

Mr. Vimal runs a factory which produces soaps. Following details were available in respect of his manufacturing activities for the year ended on 31.3.2022:

Summary

• Direct manufacturing expenses are costs, other than material or wages, which are incurred for a specific product or saleable service.
• Indirect Manufacturing expenses are also called Manufacturing overhead, Production overhead, Works overhead, etc. Overhead is defined as total cost of indirect material, indirect wages and indirect expenses.
• Indirect material means materials which cannot be linked directly with the units produced (e.g., stores consumed for repair and maintenance work, small tools, fuel and lubricating oil).
• By-product is a secondary product produced from the same raw materials used for producing the main product.

Test Your Knowledge

True and False

• 1. By-products valued at cost or net realisable value whichever is lower. False
• 2. The manufacturing account is prepared to ascertain the profit or loss on the goods produced. False
• 3. If there remain unfinished goods at the beginning and at the end of the accounting period, cost of such unfinished goods is shown in the Manufacturing Account. True
• 4. Raw Material Consumed = Opening inventory of Raw Materials + Purchases — Closing inventory of Raw Materials. True
• 5. The Trading Account will show the quantities of finished goods, raw materials and work-in-progress. False
• 6. Overhead is defined as total cost of direct material, direct wages and direct expenses. False
• 7. Manufacturing A/c is prepared by an enterprise engaged in trading activities. False

Multiple Choice Questions