Material Cost

Material cost is the cost of materials used to manufacture a product or provide a service. Excluded from the material cost is all indirect materials, such as cleaning supplies used in the production process. Follow these steps to determine the amount of material cost to assign to a unit of production (such as a completed finished goods item):

1. Ascertain the standard quantity of the material used to manufacture one unit.
2. Add the standard amount of scrap associated with manufacturing one unit.
3. Determine the standard amount of scrap associated with setting up the production run, and apportion it to the individual unit.
4. If any scrap is then sold, apportion the revenue back to the individual unit.

For many materials, the cost of scrap and the revenue from the resale of scrap are so small that it is not worthwhile to apportion it to the material cost.

If the material cost has been established as a standard, then you can subsequently calculate the material yield variance to see if actual materials usage was as expected, or you can calculate the purchase price variance to see if the purchase price of the material was as expected. These variances are useful for investigating problems in the production and purchasing areas of a business.

Production of every product requires some form of basic materials. Materials are therefore, indispensable for every production process. Materials constitute the substances or the essential parts of which product is made. They may be classified into three broad categories: (i) Raw Materials: The term raw materials includes materials which are in their natural or raw form e.g. cotton for a textile unit, etc. (ii) Semi-finished Materials: The term semi-finished materials includes materials which are not completely finished in all respect. In other words, some processing till remains to be done before the product can be sold. For instance, a furniture manufacturer may purchase unpolished furniture from market and may sell it after polishing.

(iii) Finished Materials: The materials comprise finished components which are used as raw materials for manufacturing a product

DIRECT AND INDIRECT MATERIAL The term ‘materials’ refers to all commodities or components which are consumed in the process of manufacturing. The materials may be classified into direct materials and indirect materials. 1. Direct Material ‘’All materials which can be allocated to a product or batch of products is direct materials. Such material thus becomes an essential part of the product.’’ 6 Direct materials are those which can be identified in the product and which can be measured and directly changed to the products. One more thing is that the direct materials form the main part of prime cost. In simple words, it can be said that direct material cost is the material cost which can be easily identified with the cost center or cost unit, and is allocated accordingly. The direct material may include any material specially purchased for manufacturing a particular item, any material or semi-finished goods or components made use in the manufacturing of particular items, the primary packing materials. Direct materials is material specially identified with a job order or a process. In most instances, this is material that enters into the final manufactured product, but it may also be material obviously traceable to a particular job or operation even though used up in the process of manufacture.

In general, the following are normally classified under direct materials: (a) Materials purchased for a particular job, product or process. (b) Primary packing materials. (c) Materials passing from one operation or process to another. (d) Semi-finished or finished components purchased for a particular product, job or process. (e) All raw materials passing from one process to another. (f) All material components and parts.

Thus, in judging what is a direct material, due consideration must be given to the nature of the material, its use in the manufacturing process and its impact on the total cost of the product. Moreover, direct material is also known as production material, process material, prime cost material and convertible material. 2. Indirect Material Indirect material is all other material used in the manufacturing process. The cost of indirect material is treated as one of the cost elements of indirect manufacturing expense. Typical indirect material are factory supplies of various sorts such as machine lubricants or janitors supplies. In addition, some materials entering into the final product may be treated as indirect for accounting purposes because of the difficulty or expense of identifying them with specific job order. Indirect materials indirectly used for conversion from raw materials to finished products. They cannot be easily identified with a particular cost unit. ICMA England, defines indirect material cost as ‘’material cost which cannot be allocated, but which can be apportioned to or absorbed by cost center or cost units is known as indirect material.’’ Cost of indirect material is used for the purpose of ancillary to the business and cannot be conveniently assigned to specific physical units in terms as indirect material may be used in factory, office or selling and distribution divisions.

Indirect material forms part of overheads which can be factory overheads, office and administration overheads or selling and distribution overheads. Indirect materials are used to aid the production of such finished product and it is not possible to ascertain the quantity used for production of one finished unit. Materials which are minor in importance such as small, relatively inexpensive pins or screws, or which do not physically become a part of the finished product such as polishing materials, are called indirect materials or supplies. All materials which are used as ancillary to production and which cannot be conveniently signed to specific physical units is termed as indirect material. Key point for indirect material can be summarized as under: (i) Indirect material cost does not change in proportion to the production. (ii) It does not become part of production cost. (iii) Even if it becomes part of production cost, the cost of indirect material is low than that of direct material. The cost of indirect materials is collectively ascertained for a department or process and then suitably absorbed over the products on an equitable basis. In fact, these materials are those (i) which are minor in importance, small, and inexpensive and may become a part of the finished product, or (ii) which do not physically become a part of the finished products.