Formula to Calculate Product Cost of a Company
Product Cost can be defined as those costs which shall be incurred by the firm or the organization to manufacture the product or to create the goods. The formula for calculating product cost is represented as follows,
Where,
- Factory Overheads shall be indirect Material cost, indirect labor cost, and other costs.
Calculation of Total Product Cost (Step by Step)
- Step 1: Identify the cost which is directly related to the revenue generation of the product.
- Step 2: Distinguish those cost among various categories like Material, Labor and Overheads
- Step 3: Overheads could be the indirect cost which means they would be incurred in the generation of revenue of the product however are not depended on the number of units produced.
- Step 4: Add up all of the cost which are identified above which shall give the total cost of the product.
Examples
Example #1
XYZ limited produces one product and it wants to price its product. The factory records have provided the management with the following details. You are required to calculate product Cost.
Solution
Therefore, the calculation of the product cost is as follows,
- = 2,00,00,000 + 3,00,00,000 + 5,50,00,000
Product Cost will be –
- = 10,50,00,000.00
Therefore, the total product cost is 10,50,00,000.00.
Example #2
Whirpool Inc. makes a product called “Whirpool X” and as per the MIS submitted by the central financial planning and analysis team, the product has been undergoing losses for the last few quarters. The management has decided to review the cost associated with the same and whether the pricing of the product has been correct.? The profit margin was setup 25% on the cost and it came to notice to the management that the total cost of the product was reported 35,00,000.
Below details have been provided by the production department.
Based on the above information, you are required to compute the product cost assuming that every quarter the units produced are close to an average of 1000 units.
Solution
Here the management is worried about the costing as they fear that incorrect costing might be reported which could be one of the potential reasons for reporting losses.
Hence, in order to calculate the product cost, we need to calculate total cost by adding those cost per below formula:
We are not given the direct material cost and direct labor cost and we need to calculate the same.
Direct Material
= 1,000 x 250
- Direct Material = 250,000
Direct Labor
= 1,000 x 200
- Direct Labor = 200,000
Therefore, the calculation of the product cost is as follows,
= 250,000 + 200,000 + 11,00,000 + 15,00,000
Product Cost will be –
- = 30,50,000
Therefore, the total cost of the product is 250,000 + 200,000 + 11,00,000 + 15,00,000 which equals to 30,50,000.
Example #3
Richheal is trying to introduce new products in the market and it wants to make sure it has competitive pricing in the market. However, they also want to please their shareholders by increasing their return on investment and therefore increase the value of the company. The production department has given them the below details for the product cost.
The management wants to earn a 25% profit on cost.
You are required to calculate the total product cost and selling price per unit.
Solution:
We will first calculate the total cost of the product and then selling price per unit.
Therefore, the calculation of the product cost is as follows,
=31250+36250+150000+100000
Product Cost will be –
- =317500
Product Cost Per Unit
Now, we can calculate the selling price per unit which shall be 317,500 divided by a number of units which is 250 that will be equal to 1270 product cost per unit.
=317500/250
- =1270
Selling Price
=1270*(1+0.25)
- =1587.50
The firm wants to earn 25% on the cost which shall be 1270 X 25% which is 317.50 and when we add this to 1270 we shall get selling price per unit as 1,587.50.
Relevance and Uses
For any of the expense which has to qualify as the cost of production then it should be connected directly for generating sales for the firm. Producers will carry those costs of production that are related to the labor and the raw materials needed in order to produce or manufacture those goods. Service industries will be carrying the cost of production that shall be related to the labor which is required to provide those services and any cost of materials that are involved while implementing those services.
Production costs shall incur both indirect costs and direct costs. For example, for manufacturing an automobile, direct costs incurred would be materials like metal and plastic, as well as labor’ wages. Indirect costs, in this case, could be overheads like administrative salaries, rent and other expenses such as utility expenses.
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