HEXCO · Polytechnic · NC Accountancy

Business Accounting 2: Manufacturing Accounts

Learning Outcome 5 of 6

Free HEXCO NC Accountancy notes on Manufacturing Accounts, learning outcome 5 of 6 in Business Accounting 2. Correction of errors, control accounts, partnerships, incomplete records, manufacturing accounts and ratio analysis. Semester 2, module 310/22/M06.

Here we learn what a manufacturing business is, the terms used in manufacturing accounts, how to allocate shared expenses between the factory and the office, and how to prepare a manufacturing account and the related trading section.

A manufacturer does not simply buy and resell goods: it buys raw materials and turns them into finished goods, so it needs an extra account to find the cost of the goods it makes.

5.1 Structure and Content of Manufacturing Accounts

A manufacturing business is one that converts raw materials into finished products using labour, machinery and other factory resources, such as a furniture factory, a bakery or a fertiliser plant.

Its manufacturing account shows the cost of producing the finished goods, which then replaces purchases in the trading section of the statement of profit or loss.

Terms Used in Manufacturing Accounts

The table explains the main terms, in the order in which they appear in the manufacturing account.

Term	Meaning
Raw materials consumed The cost of materials used in production.	Opening inventory of raw materials + purchases of raw materials + carriage inwards - returns - closing inventory of raw materials.
Direct costs Costs that can be traced to each unit made.	Direct materials (raw materials consumed), direct labour (wages of machine operators) and direct expenses (such as royalties paid per unit).
Prime cost The total of all direct costs.	Raw materials consumed + direct labour + direct expenses.
Factory overheads Indirect factory costs, also called factory costs or indirect costs.	Costs of running the factory that cannot be traced to each unit, such as supervisors' wages, factory rent, power, and depreciation of machinery.
Work in progress Partly finished goods.	Goods started but not finished at the start or end of the period. Opening WIP is added and closing WIP is deducted.
Production cost of finished goods The cost of the goods completed.	Prime cost + factory overheads + opening WIP - closing WIP. It is transferred to the trading section.

5.2 Allocation of Expenses

Some expenses, such as rent and electricity, are shared by the factory and the office.

They must be divided so that the factory part goes to the manufacturing account and the rest to the statement of profit or loss.

Meaning of Allocation

Allocation of expenses is the dividing of a shared expense between the departments that use it, using a fair basis, such as floor area for rent and rates, meter readings or machine hours for power, and number of employees for canteen costs. The question normally gives the percentages or ratios to use.

Applying Percentages and Ratios

The expense is multiplied by each department's share. The factory share is a factory overhead, and the office share is an administration expense.

Here you are sharing an expense between the factory and the office. If percentages are given, multiply the expense by each percentage. If a ratio or measurements such as floor area or meter readings are given, add the parts, divide the expense by the total, and multiply by each department's part. Below, we show you how it is done, step by step.

Rent of $12,000 is shared factory 3/4 and office 1/4. Electricity of $5,000 is shared factory 80% and office 20%.

Rent: factory = 12,000 × 3/4 = $9,000; office = 12,000 × 1/4 = $3,000
Electricity: factory = 80% × 5,000 = $4,000; office = 20% × 5,000 = $1,000

Answer: Factory overheads: rent $9,000 and power $4,000; office expenses: rent $3,000 and electricity $1,000

Insurance of $3,600 is shared factory to office in the ratio 2:1. Building depreciation of $9,000 is shared by floor area: factory 4,500 m², office 1,500 m².

Insurance: total parts = 2 + 1 = 3; one part = 3,600 ÷ 3 = $1,200
Factory insurance = 2 × 1,200 = $2,400; office = $1,200
Floor area total = 4,500 + 1,500 = 6,000 m²
Factory depreciation = 4,500 ÷ 6,000 × 9,000 = $6,750; office = 1,500 ÷ 6,000 × 9,000 = $2,250

Answer: Factory: insurance $2,400 and depreciation $6,750; office: $1,200 and $2,250

Supervisors' wages of $14,000 are shared 60% factory and 40% office. Electricity of $7,500 is shared by meter readings: factory 12,000 units, office 3,000 units.

Wages: factory = 60% × 14,000 = $8,400; office = 40% × 14,000 = $5,600
Total units = 12,000 + 3,000 = 15,000
Electricity: factory = 12,000 ÷ 15,000 × 7,500 = $6,000; office = 3,000 ÷ 15,000 × 7,500 = $1,500

Answer: Factory: wages $8,400, electricity $6,000; office: wages $5,600, electricity $1,500

5.3 Preparing Manufacturing Accounts

The worked example below follows the full layout, from raw materials consumed to the production cost of finished goods.

The production cost is then used in the trading section to find the gross profit.

The Information

Kuda Furniture Manufacturers provides the following for the year ended 31 December 2025: inventory of raw materials 1 Jan $6,000 and 31 Dec $7,000; purchases of raw materials $40,000; carriage inwards on raw materials $1,000; direct wages $25,000; royalties $2,000; indirect factory wages $8,000; rent $12,000 (factory 3/4); factory power $4,000; depreciation of machinery $5,000; work in progress 1 Jan $4,000 and 31 Dec $5,000; finished goods 1 Jan $10,000 and 31 Dec $12,000; sales $150,000.

The Manufacturing Account

Raw materials consumed are 6,000 + 40,000 + 1,000 - 7,000 = $40,000. Prime cost is 40,000 + 25,000 + 2,000 = $67,000. Factory overheads are 8,000 + 9,000 + 4,000 + 5,000 = $26,000. Production cost is 67,000 + 26,000 + 4,000 - 5,000 = $92,000.

The Trading Section

In the trading section, the production cost of finished goods takes the place of purchases, and the inventories used are those of finished goods. Cost of sales is 10,000 + 92,000 - 12,000 = $90,000, so gross profit is 150,000 - 90,000 = $60,000. The office share of rent, $3,000, is charged with the other administration expenses below gross profit. In the statement of financial position, all three closing inventories, raw materials $7,000, work in progress $5,000 and finished goods $12,000, are shown as current assets.