Updated July 13, 2023
Definition of Product Cost Example
Product Cost refers to all the costs incurred in producing a product, whether direct or indirect. These costs are incurred to make the product ready and available for its intended use. These costs are normally the direct material, direct labor, and all overhead, whether directly or indirectly attributable to the product in question.
Product Cost holds relevance in business as it is the basis behind the pricing of products and the consequent profitability of the business. The following article provides an outline for Product Cost Examples.
Explanation
The business manufactures Products and incurs a lot of costs to make them ready for use by customers. These costs are broadly bifurcated into three types, namely:
- Direct Material Cost involves all raw materials required for manufacturing the goods. For example, all milk, sugar, and color additives form part of the direct material product cost to produce ice cream.
- Direct Labor Cost involves the cost of labor directly involved in manufacturing the product. Like in the example above, the cost of labor involved placing the ice cream cubes.
- Overhead Cost involves manufacturing, selling, and distribution expenses not directly attributable but forming part of the Product cost. For example, the packing cost of Ice cream, the cost of setting up Ice cream stores, etc.
A simple example to illustrate the same is shown below:
ABC Limited incurs the following cost in relation to the production of 1000 Chairs during Feb 2020. Based on the same compute per unit Product Cost:
|
Particulars |
Total Cost |
| Wood and basic ply cost (Raw material) (A) | $4000 |
| Labor hours spent | 100 |
| Labor Cost per hour | $25 |
| Direct Labor Cost (B) | $2500 |
| Selling Expenses and Advertisement Overheads © | $1200 |
| Total Product Cost (A+B+C) | $7700 |
| Product Cost per unit ($7700/1000) | $7.70 |
Examples of Product Cost
Let us understand the different aspects of Product Cost with the help of the following examples:
Example #1
QPR International Limited has provided the following data. Based on the same compute Product cost:
Product Cost is calculated as
Example #2
XYZ decided to identify its Product Cost to decide the selling price for its product. Based on the information below, compute the Product Cost and selling Price for its Product.
Product Cost is calculated as
Example #3
Mason Company has provided the details of its Inventory, Labor, and Overhead Cost. Based on the same Product Cost has been computed as furnished below:
Example #4
Axon International Limited has provided a break up of its Cost card
Example #5
Zen International has two subsidiaries Company A and Company B. Both companies are into the manufacturing of Air Conditioners and serve two different markets. The company intends to venture into the manufacturing of Air conditioner Coils and decide to price the Product cost by mapping the various expenses to determine the Product cost and the applicable margin (11%) to derive the Selling Price for the same. The company can utilize both the subsidiaries to manufacture Air Conditioner Coils and did break up analysis of Product Costs shown below:
As observed above, Company A has a higher product cost per unit than Company B, primarily due to its higher raw material cost. However, it is important to note that subsidiary Company A incurs lower labor costs than Company B, thanks to the availability of cheap and skilled labor in its area of operation. By analyzing the cost structure of its subsidiaries, Zen International can actively optimize resource allocation to leverage the efficiency and price benefits derived from these disparities.
Thus, Zen International can allocate Raw Materials from subsidiary Company B and labor input from subsidiary Company A by undertaking product cost analysis.
Conclusion
Product Costs are traceable costs linked to the product and included in determining inventory values shown in the Balance Sheet as assets until they are sold. Therefore, these costs don’t affect the income until they are sold and hold relevance in Product pricing.
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