Common mistakes in manufacturing accounts

A manufacturing account adds up the costs of making goods to find the cost of production. That figure then replaces purchases in the income statement. Students go wrong in the structure: prime cost, then factory overheads, then adjustments for work in progress.

Once the layout is clear, each stage follows from the one before, and the account becomes a reliable source of method marks. Here are the mistakes we see most often.

Confusing direct and indirect costs

Prime cost is made up of direct costs: direct materials, direct labour and any direct expenses. Factory overheads are the indirect costs of running the factory, such as factory rent, power and the supervisor’s wages. A common error is putting an indirect cost into prime cost, or a direct cost among overheads.

Ask whether the cost can be traced directly to the product. A machine operator paid for hours spent making the product is direct labour.

The supervisor who oversees the whole floor cannot be traced to one unit, so that salary is an overhead. Royalties paid per unit made are a direct expense, which surprises many students.

Including non-factory costs

Only factory costs belong in the manufacturing account. Office salaries, selling expenses and carriage outwards belong in the income statement. Putting every expense into the manufacturing account overstates the cost of production.

Depreciation needs care. Depreciation of factory machinery is a factory overhead. Depreciation of office equipment or delivery vehicles stays in the income statement.

When one expense, such as rent or insurance, covers both factory and office, the question usually tells you how to split it. Take only the factory share into the manufacturing account.

A worked mini-illustration

These figures are invented for teaching. Opening raw materials are RM8,000, purchases RM52,000, carriage on raw materials RM2,000 and closing raw materials RM6,000. Direct materials consumed are 8,000 + 52,000 + 2,000 - 6,000 = RM56,000.

Add direct labour of RM40,000 and a direct expense (royalties) of RM4,000. Prime cost is RM100,000. Add factory overheads of RM30,000 (factory rent, power, supervisor’s wages and machinery depreciation) to get RM130,000.

Finally adjust for work in progress: add opening WIP of RM5,000 and deduct closing WIP of RM7,000. Cost of production is 130,000 + 5,000 - 7,000 = RM128,000.

Mishandling work in progress

Add opening work in progress and deduct closing work in progress to reach the cost of production. This mirrors the inventory adjustment in a trading account. Forgetting it, or adjusting the wrong way, is a frequent slip.

Goods half-made at the start were finished this period, so their opening value is added. Goods left half-made at the end will be finished next period, so their closing value is taken out. Reason from this rather than memorising signs.

Forgetting the raw materials adjustment

Direct materials consumed is not simply purchases. Adjust for opening and closing raw materials inventories and add carriage on raw materials. Using the purchases figure directly distorts prime cost.

Carriage inwards on raw materials is a cost of getting materials to the factory, so it increases materials consumed. Carriage outwards is a selling cost and never appears here. In the example above, RM52,000 of purchases became RM56,000 of materials consumed after carriage and the two inventories.

Muddling the three inventories

A manufacturer holds three kinds of inventory: raw materials, work in progress and finished goods. Raw materials are adjusted in prime cost. Work in progress is adjusted in the cost of production. Finished goods are adjusted in the trading section of the income statement.

Follow the physical journey: materials come in and are consumed, sit part-finished as work in progress, then become finished goods ready to sell. The adjustments follow those stages.

Not carrying the cost of production forward correctly

The cost of production moves into the income statement in place of purchases. Students sometimes leave it in the manufacturing account, or add it to purchases instead of replacing them.

In the income statement, cost of sales is opening finished goods + cost of production - closing finished goods. This is the normal trading shape, with cost of production standing in for purchases.

Why this matters in the real accounts

The split drives the cost per unit that a business uses for pricing and for valuing closing inventory. If overheads leak into prime cost, or office costs inflate the cost of production, inventory is misvalued and profit is misstated. Only real production costs should be carried in inventory to a future period.

Presentation

Label the stages: prime cost, then add factory overheads, then adjust for work in progress to reach the cost of production. Show each subtotal. Set out direct materials consumed as its own working, and give factory overheads their own heading.

How to practise

Work a full manufacturing account into the income statement, so the cost of production connects to the trading section. Include carriage on raw materials and work in progress.

Try one question where an expense must be split between factory and office, and another with a per-unit direct expense. Redo after a gap.

If manufacturing accounts still confuse your child, one of our teachers can walk through prime cost, overheads and the three inventories using their own past-paper attempts. Book a trial class to get started.

Syllabus reference: Cambridge 0452 and 0985, syllabus for 2027 to 2029, sub-topic 5.4 Manufacturing accounts (page 17).