Problem 11 Freight outwards is (a) shown ... [FREE SOLUTION] (2024)

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The Manufacturing Account serves a very specific purpose in financial accounting. Particularly in businesses involved in production, it's essential to keep track of the costs directly associated with the creation of products. This account takes into account raw materials, direct labor, and factory overheads, essentially breaking down the cost of goods manufactured. Distinct from the Trading or P&L Accounts, the Manufacturing Account solely captures the stages from procurement of raw materials to the finished goods ready for sale.

By isolating production costs, businesses can identify areas of efficiency or excess, helping strategize for more cost-effective manufacturing processes. When it comes to freight outwards, which is the cost incurred to ship finished goods to customers, it doesn't fall under manufacturing costs. Hence, this expense does not feature in the Manufacturing Account.

The Trading Account is a financial statement that lays out the foundation for determining a company's gross profit or loss. Revenues from sales are matched against the direct costs of goods sold, which includes purchases and direct expenses such as freight inwards but excludes operating expenses. Freight inwards refers to the transportation costs of bringing raw materials or inventory to the business location.

Freight outwards, the subject of our exercise, is distinctly different as it relates to the delivery of goods to the customer, hence it is not included in the Trading Account. This differentiation ensures that the Trading Account precisely reflects the success of trading activities, excluding the subsequent costs of delivering the product to the end customer.

The Profit & Loss (P&L) Account, also known as the Income Statement, captures the company's overall financial performance. It encompasses all the revenues and expenses involved in the business operations during an accounting period. What makes the P&L Account distinct is its inclusivity of indirect costs that are not directly tied to the production or selling of goods but are necessary for running the business.

In context to our exercise, the P&L Account is where you would find freight outwards, as it's an expense associated with delivering goods to customers, an indirect cost. By including it here, the P&L Account paints a comprehensive picture of the net profit or loss, highlighting the business's operational efficiency beyond just the selling of goods.

Cost of Goods Manufactured (COGM) is a pivotal term within manufacturing and accounting, representing the total cost incurred to produce goods that are ready for sale during an accounting period. It sums up the direct materials, direct labor, and manufacturing overhead applied to those goods. COGM is a crucial marker for determining pricing strategies, as it affects the gross profit once the goods are sold.

Understanding the distinction between costs such as freight outwards and those included in COGM is fundamental for accurate financial reporting. Freight outwards, being a selling expense, is excluded from COGM as it does not pertain to the production phase of goods but rather their distribution.

Direct and indirect costs are two main categories that provide a blueprint for how expenses are categorized in business accounting. Direct costs are those that can be directly traced to the production of goods, such as raw materials and direct labor. Indirect costs, on the other hand, are expenses that are not tied to a specific product or production process, such as utilities, rent, and of course, freight outwards.

Understanding the distinction between these types of costs is essential for accurate accounting and financial analysis. It impacts the way costs are accounted for on the Manufacturing Account, Trading Account, and P&L Account. The differentiation also guides managerial decisions on budgeting, costing, and pricing of products or services.