How to Prepare a Manufacturing Account

When a business moves beyond simply buying and selling goods to actually producing them, its accounting needs change significantly. A regular trading account is no longer sufficient to capture the full picture of costs. This is where the manufacturing account comes in – a specialized financial statement that calculates exactly how much it costs to produce goods during a specific accounting period. For agribusinesses involved in food processing, feed manufacturing, or any form of agricultural production, understanding and correctly preparing this account is a foundational financial skill.

What is a manufacturing account? 🔗

A manufacturing account is a financial statement prepared by businesses that produce goods from raw materials. As explained by Vedantu, it records raw materials used, direct labor, and manufacturing overheads to determine the cost of goods manufactured during the period. It precedes the trading account in the sequence of final accounts, separating production costs from trading activities. This separation is critical: without it, a business cannot tell whether its costs arise from inefficient production or poor sales management.

NetSuite describes manufacturing accounting as a specialized type that focuses on valuing inventory, determining the cost of goods manufactured (COGM), and calculating the cost of goods sold – all of which are vital metrics for manufacturers in any sector. The manufacturing account is, in essence, the starting point of that entire chain.

The three-tier accounting system for manufacturing businesses 🔗

Unlike a trading firm that prepares only a trading account and a profit and loss account, a manufacturing business works through a three-tier structure:

Manufacturing Account → Trading Account → Profit and Loss Account

The manufacturing account feeds the total cost of goods produced into the trading account, which then calculates gross profit by comparing that production cost against sales revenue. The profit and loss account follows to show the net profit after all administrative and selling expenses. Each tier depends on the accuracy of the one before it, which is why the manufacturing account must be prepared with care.

Key components of the manufacturing account 🔗

The manufacturing account is built around two broad categories of cost: direct costs and indirect costs (factory overheads). Together, they determine the total production cost, also called the cost of goods manufactured.

1. Direct materials (raw materials consumed) 🔗

This is the cost of raw materials actually used in production during the period. It is not simply the amount purchased – it must account for opening and closing stock. According to Zoho Books, the formula is:

Direct Material Consumed = Opening Stock of Raw Materials + Purchases + Carriage Inwards − Returns Outwards − Closing Stock of Raw Materials

For an agribusiness, this would include items like raw grain, oilseeds, fertilizer inputs, or any other unprocessed material that forms the physical basis of the finished product.

2. Direct labor 🔗

Direct labor refers to the wages paid to workers who are directly involved in the production process – those physically handling, processing, or assembling the product. As Rootstock explains, direct labor costs represent wages and benefits paid to people who run equipment or perform roles that directly impact the production of goods. In an agri-processing unit, this includes machine operators, processing line workers, and quality sorters on the factory floor.

3. Direct expenses 🔗

These are any other costs that can be directly traced to specific units of production. A common example is royalties – payments made for the right to use a particular production process or formula. Carriage inwards on raw materials also falls here since it is a cost incurred to bring materials into production.

4. Prime cost 🔗

Once direct materials, direct labor, and direct expenses are totaled, the result is the prime cost. As noted by AccountingCoach, indirect manufacturing costs (factory overheads) are not part of prime cost – it consists only of costs that can be directly traced to production units. The formula is straightforward:

Prime Cost = Direct Materials Consumed + Direct Labour + Direct Expenses

5. Factory overheads (indirect costs) 🔗

Factory overheads cover all indirect costs that support manufacturing but cannot be traced to individual product units. According to Zoho Books, factory cost equals prime cost plus factory overhead, which includes indirect wages, indirect materials, and indirect expenses. Typical examples include factory rent and rates, electricity on the production floor, depreciation of plant and machinery, salaries of supervisors, factory insurance, and maintenance costs. An important point: depreciation on factory assets is treated as a factory overhead, while depreciation on office equipment goes into the profit and loss account – not the manufacturing account.

6. Work-in-progress (WIP) adjustment 🔗

Manufacturing rarely finishes perfectly at the end of an accounting period. Some units will be partially complete – no longer raw materials but not yet finished goods. These are called work-in-progress (WIP). As Corporate Finance Institute explains, beginning and ending WIP balances must be used to determine the cost of goods actually completed in a period. The adjustment works as follows:

Add: Opening WIP (started last period, completed this period)
Less: Closing WIP (started this period, not yet complete)

This ensures that only the cost of goods fully completed during the period is transferred forward – not the cost of partially finished items.

The manufacturing account format 🔗

The standard layout of a manufacturing account follows a logical sequence, building from the cost of raw materials to the total production cost. Below is a simplified format based on the structure outlined in standard accounting references:

This production cost is then carried forward into the trading account, where it is treated similarly to the “cost of goods purchased” in a standard trading business – the key difference being that the figure originates from internal production rather than external procurement.

From manufacturing account to trading account 🔗

Once the production cost of goods completed is calculated, it is transferred to the trading account. Here, the beginning and ending stocks of finished goods are accounted for to arrive at the cost of goods sold (COGS). As described by Lumen Learning, cost of goods sold includes the cost of goods manufactured plus the beginning finished goods inventory minus the ending finished goods inventory. The trading account then subtracts COGS from net sales to reveal the gross profit.

It is important to note the distinction between the three terms often confused in practice: total manufacturing cost is the sum of all production inputs during the period; cost of goods manufactured adjusts that figure for WIP; and cost of goods sold further adjusts for finished goods inventory. Each figure answers a different management question.

Items that do not belong in the manufacturing account 🔗

A common source of error is placing non-factory costs into the manufacturing account. The following items should never appear here – they belong in the profit and loss account:

Office rent and rates, salaries of administrative staff, selling and distribution expenses, depreciation of office equipment, bank charges, and audit fees. These are costs of running the business, not of running the factory. Accounting Tuition is explicit on this point: indirect costs in the manufacturing account are specifically factory expenses – costs incurred in running the operation of the factory, not the broader business.

Why the manufacturing account matters for cost control 🔗

The manufacturing account is far more than a compliance exercise. It is one of the most direct tools available for monitoring production efficiency. As the Corporate Finance Institute notes, having a schedule of cost of goods manufactured gives companies a general idea of whether production costs are too high or too low relative to the sales being made. When direct material costs rise unexpectedly, the manufacturing account flags it. When factory overheads balloon relative to output, it shows up clearly in the account before it damages the profit and loss statement.

For agribusinesses, this is particularly relevant. Raw material prices – whether for paddy, sugarcane, oilseeds, or animal feed ingredients – are volatile and subject to seasonal fluctuations. A well-maintained manufacturing account allows managers to track raw material consumption period over period, compare labor costs against production volumes, and identify which overhead items are growing out of proportion. This kind of granular visibility is exactly what separates businesses that manage their margins from those that discover problems only after the year-end audit.

A practical note on the three types of stock 🔗

Manufacturing businesses carry three distinct categories of inventory, each appearing in a different financial statement. Raw materials and work-in-progress are accounted for within the manufacturing account. Finished goods, however, appear in the trading account. All three closing stock figures are then reported as current assets in the balance sheet. Getting this classification right is essential – placing finished goods stock in the manufacturing account, or raw materials stock in the trading account, will distort both the production cost and the gross profit figure.

What do you think? If two agribusinesses produce the same product at the same selling price but one consistently shows a higher prime cost in its manufacturing account, what does that tell you about the business’s operational efficiency – and what steps would you take to investigate the gap? Similarly, how might a seasonal spike in raw material prices for an agro-processing firm show up across the different sections of its manufacturing account, and what management decisions could that data drive?

References

1. https://www.vedantu.com/commerce/manufacturing-account
2. https://www.netsuite.com/portal/resource/articles/accounting/manufacturing-accounting.shtml
3. https://www.zoho.com/books/academy/accounting-principles/cost-sheet.html
4. https://www.rootstock.com/cloud-erp-blog/manufacturing-accounting-and-costing/
5. https://www.accountingcoach.com/blog/what-is-prime-cost
6. https://corporatefinanceinstitute.com/resources/accounting/cost-of-goods-manufactured-cogm/
7. https://courses.lumenlearning.com/suny-managacct/chapter/the-statement-of-cost-of-goods-manufactured/
8. https://www.accounting-tuition.com/grade-13/manufacturing-accounts