How To Calculate The Cost Of Product Prices

Table of Content

image via freepik

To obtain the desired profit margin, the company must determine the sale price of the product carefully and correctly. Taking into account all factors and variables related to the production of such goods to be obtained competitive selling price and can compete with competitors on one side, while the other side of the company also still get the expected profit margin.

What is the Cost of the Product Selling Price?

The cost or price of goods to be sold refers to the direct costs incurred in the production process of the goods sold by the company. This amount includes the cost of raw materials and supporting materials, and the labor costs are directly used to produce the goods. This calculation excludes cost outlay expenses, such as distribution costs and product salespeople costs.

The cost of goods sold is also referred to as "Sales Fee"

Formula and Product Sale Price Calculation

Production products sold appear in the company's revenue report under the sales account. The supply of The good for the beginning of the year is the remaining stock of the previous year, i.e. merchandise that is not sold in the previous year.

Production or additional purchases made by manufacturing or retail companies are added to the initial inventory. At the end of the year, products that are not sold will be deducted from the initial inventory amount and any additional purchases made. The last digit obtained from the calculation is the cost of goods sold for this year.

The balance sheet has an account known as the current asset account. Under this account, there is an item called inventory. The balance sheet only captures the company's financial health at the end of the accounting period. This means that the inventory value recorded under the current asset is the final inventory.

Since its inception, inventory is what the company has provided at the beginning of the accounting period, it means that the initial inventory is also an expired inventory of companies at the end of the previous accounting period.

What does it do for a Product Selling Price?

For product sales pricing is an important metric on financial statements as it will be deducted from the company's revenue to determine the company's gross profit. Gross profit is a measure of profitability that evaluates how efficiently the company is in managing manpower and supplies in their production processes.

Because the selling price of the product is the cost of doing business, then it is then recorded as a business expense on the income statement. Knowing the cost of goods sold will help analysts, investors, and managers estimate the company's bottom line. If COGS (Cost Of Goods Sold) increases, then net income will decrease.

While this is beneficial for paying income tax, then the business of the company will have less profit for the shareholders. Businesses thus try to keep their product sales costs low so the net profit will be higher.

The cost of goods sold is the cost of production of products sold by the company over some time, so the only costs included in this site are those that are directly tied to the production process of the product, including labor costs, raw materials as well as supporters, and manufacturing overhead costs.

As an example, the cost of COGS for cars will include material costs for the purchase of components entered into the assembly and production of the car plus the labor cost used to produce the car. The cost of shipping the car to the dealer and labor costs used to sell the car will be excluded, as it is not included in the direct cost of production.

Furthermore, costs incurred by companies on cars that are not sold during this year will not be included when calculating the sales value, whether it is a direct or indirect cost. In other words, the sale price of the product includes the direct cost used to produce the goods or services purchased by the customer during the year.

Accounting Methods and Product Selling Price

The value of the cost of goods sold will depend on the method of costing the inventory adopted by the company. There are three types of methods that companies can use when recording inventory levels sold over a certain period, namely:

First In First Out (FIFO)
Last In First Out (LIFO)
Average Cost method

Fist In First Out Method (FIFO)

The original goods (raw materials and supporters) that have been purchased or produced by the company will be considered as sold items in advance. Since price tends to rise over time, a company that uses the FIFO method will sell the most expensive product first, which translates to a lower product selling price than COGS recorded under the LIFO. Therefore, net profit using the FIFO method increases over time.

Last In First Out Method (LIFO)

The latest (last) items added to the inventory will be considered the first sold material. During the period of price increases, items with a higher cost are sold first, leading to a higher amount of product selling price. Over time, net profits are likely to continue to decline.

Average Cost Method

The flat price of all items in stock, regardless of when the date of purchase of the goods, is used to respect the goods sold. Taking a flat product cost over a certain period has a smoothing effect that prevents the selling price of the product from running because it is heavily influenced by the extreme cost of one or more acquisitions or purchases.

Exclusion of Cuts for Product Selling Price (goods)

Many service companies do not have the cost of goods sold at all. For the sale price of products (goods) is not addressed in every detail in the general accounting principles accepted, but the product sale price is defined as the cost of item inventory sold over a certain period.

Not only services companies that do not have the value of goods to sell, but pure service companies also do not have inventory or supplies. If COGS is not listed on the income statement, no deduction can be applied for that cost.

For example, pure service companies include accounting companies, legal offices, real estate appraisers, business consultants, professional dancers, and so on. Although all of these industries have business costs and usually spend money to provide their services, they don't have COGS. Instead, they have what is referred to as "service fee " which does not count towards reducing the selling price of the product.

Cost of Income vs Product Sale Price

The existing income costs for the ongoing contract service may include raw materials, direct labor, shipping costs, and commissions paid to the salesman's employees. This item cannot be claimed as a COGS without a physically produced product for sale.

Some examples of " business personal services " that do not compute COGS on their revenue reports for example are doctors, lawyers, carpenters, and painters.

Many service-based companies have multiple products for sale. For example, airlines and hotels primarily provide services such as transportation and lodging, but they also sell gifts, food, drinks, and other items.

This Item is considered an item, and the company certainly has the inventory of such items. These two industries can enter the COGS list on their revenue reports and claim them for tax payment purposes.

Business Expense vs Product Sale Price

Both operational costs and cost of goods sold are expenses that are natural companies by running their business. However, it is a cost that is separated from the income statement. Unlike COGS, the operating cost is an expense that is not directly tied to the production of goods or services.

Usually, it is sales, general, and administrative expenses, including in operating costs as a separate item. Sales and administration fees are indirect expenses tied to products such as overhead costs.

Examples of operational costs include:

Rent
Utility
Office Supplies
Legal fees
Sales and marketing
Payroll
Insurance fee
Limitation of the product selling price (goods)

COGS can be easily manipulated by accountants or managers who want to process sales reports.

It can be changed for example:

Allocate to supply higher manufacturing overhead costs than incurred
Great Discounts
Exaggerating back to suppliers
Change inventory amount in stock at the end of the accounting period
Overvaluing Supplies
Failed to write-off outdated inventory

When the inventory increases artificially, then the selling price of the product (item) will be reported under the desired, in turn, will lead to higher than the actual gross profit margin, and hence, net income will be seen increasing.

Investors who view the company's financial statements can view unreasonable inventory accounting by examining inventory buildups, such as inventory that increases faster than the revenue or total reported assets.

Example of How to use Product Selling Price

For example (I quote from investopedia.com), we calculate the cost of goods sold for J.C. Penney (NYSE: JCP) for fiscal year (FY) expires 2016.

The first step is to find the initial and final inventory on the company's balance sheet:

Initial inventory, inventory recorded in fiscal year expires 2015 = $2.72 billion
Inventory end, recorded inventory in fiscal year expires 2016 = $2.85 billion
Purchase for 2016: Use the above information = $8.2 billion
By using the formula for COGS, we can calculate the following:
$2.72 + 8.2-2.85 = $8.07 billion

If we look at the revenue report of 2016 companies, we see that the COGS reported are $8.07 billion, as appropriate and exactly as we calculated here.

That's an article on how to calculate product price costs. Hopefully, this article is useful and can add insight to your knowledge.

reference