An accountant follows these steps to make the cost of goods sold budget. Enter the start work in process inventory balance (from the beginning balance sheet). Add the budgeted direct materials, budgeted direct labor, and budgeted producing overhead employed in production. Then after adding the above, deduct the budgeted ending work in process inventory balance to get the budgeted cost of goods manufactured (COGM). Add the start finished merchandise inventory balance (from the beginning balance sheet). Subtract the budgeted ending finished merchandise inventory balance.
Weighted average Cost Method
Under this method, the average price is used to calculate the cost of goods sold. The entry or purchase date is totally ignored under this method. It gives a smoothing effect by preventing the impact of higher or lower costs of some products.
Specific Identification Method
This valuation method is applied in cases where the purchases made by a company can be separated physically. It tracks the price of the item from purchase to resale. It eventually is used to determine the ending inventory cost.
Example
Sofia’s Sports is a retailer merchant with 3totally different locations. Sofia specializes in winterwear and other outdoor gear and requires a good supply of inventory to sell during the vacation seasons. Sofia is finishing her year-end accounting and calculated the subsequent inventory numbers:
Starting inventory: $200,000
Fresh purchases: $250,000
Ending inventory: $15,000
Here is how to find the cost of goods sold for Sofia’s goods
As you can see, Sofia sold goods costing her $435,000 throughout the year leaving her with only $15,000 worth of product on December 31.
This information will not solely help Sofia arrange out buying for the coming year, it will additionally help her value his costs. For example, Sofia can list the costs for each of her product categories and compare them with the sales. This comparison will provide her the selling margin for every product.
Limitations of COGS budget
COGS budget is very susceptible to alterations. It can easily be manipulated by accountants or managers wanting to cook the books. There are various ways by which these can be altered:
Allocation of higherproducing overhead costs than those incurred to the inventory
Showing extra discounts
Showing extra returns to suppliers
Manipulating the inventory available at the end of an accounting period
Over valuation of in-hand inventory
When inventory is overvalued, COGS budget will be under-reported that, in turn, will cause over the actual gross profit margin, and then extra earnings will be shown.
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