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What is a Product Cost?

By Ken Black
Updated May 17, 2024
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Product cost is the cost associated with producing or acquiring a product for a particular business. Manufacturing companies, when looking at costs, must consider raw materials, labor and other overhead. For a retailer or wholesaler, the formula is very similar, except that the raw material costs are replaced with the acquisition costs. Overhead and labor are important components no matter what the business is. Product cost accounting takes into account the cost in each unit item to help determine a sales price and maintain profitability.

Determining the value of a product is not as easy or obvious as it may seem, especially in the manufacturing world. It may be relatively simple to determine how many units a person or line is capable of producing in a given amount of time. However, when taking into account facilities, utilities, and depreciation, coming up with the actual costs could prove to be a difficult measure. Many companies use formulas for things like depreciation, understanding that eventually equipment is going to have to be replaced. This all goes into the total unit price.

One of the other key factors in determining product cost is to look at the cost of direct materials. These are items that go into making a specific product. The cost of materials has a tendency to fluctuate, especially if the materials involve the use of commodities, plastics, or metals. The volume in which these materials are purchased can also affect the cost as well. Therefore, the cost of the product could change regularly to keep pace with those changes and thus help to maintain a certain margin of profit. Indirect materials' cost could also be substantial and companies must also account for those.

At the retail or wholesale level, determining product cost may be slightly easier. Retailers and wholesalers still have to deal with some variables such as utilities, rate of sales and possibly even manpower, but do not have as much depreciation to consider. As a result, one difficult piece of the puzzle is removed. Even retailers, however, must consider building maintenance and other variables that could change as buildings age or upgrades are needed to keep pace with competition.

In accounting, product cost takes those principles and applies them in an analytical way. In the basic sense, this type of accounting seeks to assign a certain level of cost for each product, or each grouping of product. The objectives of this type of accounting could be to determine a selling price, provide information for making decisions, control costs, determining profit or help in preparing financial statements. Once the formulas are set up, this becomes simply a matter of plugging in the right numbers to the right spaces

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