Understanding every aspect of your company is vital for any aspiring business owner. This means knowing how much you made, lost, sold, and manufactured. Unlike retailers, manufacturers have unique inventory categories such as raw materials, work in process, and finished goods, all of which contribute to the calculation of the cost of goods manufactured, an important metric to understanding the health and status of your business.
What is Cost of Goods Manufactured?
The cost of goods manufactured (COGM) is a calculation that is used to gain a general understanding of whether production costs are too high or low when compared to revenue. The equation calculates the manufacturing costs incurred with the goods finished during a specific period. In other words, the total amount of expenses for a company to turn inventory into the finished product.
How Do We Calculate Cost of Goods Manufactured?
To calculate the cost of goods manufactured, you must add your direct materials, direct labor, and manufacturing overhead to get your businesses’ total manufacturing cost. Next, you will add the beginning work-in-process and subtract the ending work-in-process from the total manufacturing cost to get the cost of goods manufactured.
Unfortunately, it is not as simple as it seems, as each working part has multiple equations within. The COGM schedule was created to simplify this process. The schedule reports the total manufacturing costs for the period that were added to the work‐in‐process (WIP). It then adjusts these costs for the change in the WIP inventory account to arrive at the cost of goods manufactured. A break down of this schedule can be visualized below.
The simple version:
COGM = Beginning WIP Inventory + Total Manufacturing Cost – Ending WIP Inventory
The Cost of Good Manufactured Schedule
|Direct Materials||(Beginning Raw Materials + Purchases – Ending Raw Materials)|
|+ Direct Labor Costs|
|+ Manufacturing Overhead|
|= Total Manufacturing Cost||(Direct Materials + Direct Labor + Manufacturing)|
|+ Beginning Work in Process (WIP) Inventory|
|– Ending WIP Inventory|
|= Cost of Goods Manufactured||(Total Manufacturing Cost + Beginning WIP – Ending WIP)|
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How is COGM Related to COGS?
If you’re wondering where you can find the cost of good manufactured, take a look at the cost of goods sold section on the income statement. COGM is a key component of computing the cost of goods sold (COGS).
As a reminder, COGS is it’s the amount of money a company spends on labor, materials, and certain overhead costs relating to producing a product or service. Once each part of the COGM is calculated, the final amount is placed into the finished goods inventory. This inventory contains any products of goods or services that are in their final form. With all the pieces into place, we can compute the cost of goods sold.
Importance of Cost of Goods Manufactured
By having a clear picture of what a company is manufacturing, management is able to analyze each individual player in the COGM formula. Then, adjustments can be made to maximize the company’s net income. Overall, COGM gives the company vital information: the elements of cost.
In addition to this, COGM contributes to the overall clarity and planning of a company. It allows the company to plan and modify the pricing strategy for its products. It gives an accurate comparison of manufacturing operations from year to year. It will enable the planning of resource use and volume produced each period.
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