It's worth noting that not only do manufacturing companies have an inventory account on their balance sheet. That inventory account is comprised of three different types of inventory. Raw materials inventory, work-in-process inventory and finished goods inventory. Now as you can imagine from its name, the raw materials inventory contains materials that have not yet been put into the production process. Work-in-process inventory, as it sounds, contains inventory that has been partially but not fully completed. So the account contains the cost of material that has been used thus far in the production process, the cost of labor that has been used thus far in the process and the overhead or indirect costs that has been incurred to get the inventory to its current state. And then finally, the finished goods inventory account is just as it sounds. It contains the cost of all inventory that's been completed but not yet sold. Now with that, let's look more closely at how cost flowed through the financial statement for a manufacturing company. There are two types of costing systems generally used by manufacturing companies. One is called a job costing system and the other is called a process costing system. I want to note that the details of accounting for job and process costing systems for financial statement or financial accounting purposes can be complex, and it's beyond the scope of this course. But I'm going to provide you with an overview so that you have a general understanding of them as needed. And you should know that the managerial implications of costing issues that we're talking about in this course are essentially the same and thus equally applicable for both systems. And both job costing and process costing track direct materials, direct labor and manufacturing overhead, and the objective in both systems is to determine the cost of an individual unit of product or service. The difference is that job costing systems track these costs by job and determine the cost of an individual unit after the job is completed by dividing the cost of the job by the number of units in the job. But a process costing system tracks these cost by process or department and determines the cost of an individual unit at the end of a time period by dividing the cost of the departments by the number of units completed during that time period. Examples of companies that might use a job costing system include companies that make sports teams uniforms that feature specific team's logo or mascot, or an accounting firm that performs audits for different clients, or our t-shirt manufacturer if it makes t-shirts designed for a specific five-k race for example or a specific company. These products are usually customized or each job is designed to meet specific customers needs. Now examples of companies that might use process costing systems include companies that make beverages, cereals or pharmaceuticals and things like that. These products are made using standardized production processes that make up large quantities of identical products through a continuous flow of processes. Looking at the flow of costs through the financial statements under each of these systems, we see that the general flow is the same. Direct material, direct labor and manufacturing overhead, all product or manufacturing costs are included in inventory, and then moved to the income statement as cost of goods sold once the product is sold to a customer. The primary difference is that with a job costing system, costs are accumulated in work-in-process inventory by job. And once a job is completed, it moves from work-in-process inventory to finished goods inventory. But with a process costing system, costs are accumulated in work-in-process inventory by department as units of products are completed, and then they move from the last department in work-in-process inventory to finished goods inventory. In both systems, product or manufacturing cost are included in inventory on the balance sheet and moved to the income statement as an expense when they're sold. And under both systems, those costs include direct costs like direct material and labor and indirect or overhead cost.
