Direct Cost, Indirect Cost % and Overhead Rate in Work Center

Direct Cost is used to capture the direct labour cost production, which is the wages paid to production worker that directly involved in manufacturing a product.

Overhead Rate and Indirect Cost % in Work Center Card are used to capture Manufacturing Overhead cost. Manufacturing Overhead Cost are the cost incurred in the manufacturing facilities other than direct material cost and direct labour cost. Example of Manufacturing Overhead Cost are:

• Depreciation of factory building
• Depreciation of manufacturing equipment
• Electricity
• Material handling cost
• Salary for plant manager, maintenance staff, cleaning staff, etc. 
• Plant insurance

Post Output Cost to G/L Account

Navision will post Cost Amount (Actual) in Item Ledger Entry and Value Entries to G/L Account based on the following criteria:

"Item Ledger Entry".Type=Output ==> Debit Inventory Account

"Value Entries".Type=Direct Cost ==> Credit WIP Account

"Value Entries".Type=Indirect Cost ==> Credit Overhead Applied Account

"Value Entries".Type=Variance AND "Value Entries"."Variance Type"=material ==> Credit Material variance Account

"Value Entries".Type=Variance AND "Value Entries"."variance Type"=capacity ==> Credit Capacity Variance Account

"Value Entries".Type=Variance AND "Value Entries"."Variance Type"=capacity overhead ==> Credit Capacity Overhead Variance Account

"Value Entries".Type=Variance AND "Value Entries"."Variance Type"=Subcontracted ==> Credit Subcontracted Variance Account

"Value Entries".Type=Variance AND "Value Entries"."Variance Type"=Manufacturing Overhead ==> Credit Manufacturing Overhead Variance Account

* Above posting accounts are based on Standard Costing.
* Inventory, WIP, Material Variance, Capacity Variance, Capacity Overhead Variance, Subcontracted Variance, Manufacturing Variance accounts are defined in Inventory Setup
* Overhead Applied Account is defined in General Posting Setup

Post Consumption Cost to G/L Account

Navision will post the Cost Amount (Actual) in Item Ledger Entry to G/L Account based on the following criteria:
"Item Ledger Entry".Type = Consumption ==> Debit WIP Account and Credit Inventory Account
* Inventory Account and WIP Account are defined in Inventory Setup

Types of Inventory and Inventory Accounts for manufacturing company

In Manufacturing company, the cycle start from purchase of raw material and end at the selling of finished goods:
Purchase Raw Material >--(convert)--> Work-In-Process >--(convert)--> Finished Goods >>>> Sales of Finished Goods

Thus, there are 3 types of inventory for a typical manufacturing company:
1) Raw Material Inventory - raw material to be used as input in manufacturing process
2) Work-in-Progress (WIP) Inventory - Goods which are still in the process of converting to finished goods. It's not yet a finished good.
3) Finished Goods Inventory - Completed unit output from manufacturing process.

Correspondingly, three inventory accounts are needed.
1) Raw Material Inventory Account
2) Work-in-Progress (WIP) Inventory Account
3) Finished Goods Inventory Account

When raw material is purchased, the cost of the raw material will be posted to the Raw Material Inventory account. Raw Material Inventory Account will store the value of raw materials received but not yet issued to production department.

When the raw material is transferred to production department, the cost of the material will be transferred from Raw Material Inventory Account to WIP Inventory Account. Direct Manufacturing Labor Cost and Manufacturing Overhead Cost will also be debited into WIP Inventory Account.

When the finished good is completed, the WIP Inventory Account will be credited with the total manufacturing cost and the cost will be debited into Finished Goods Inventory account.

When the Finished Good is sold, the cost will be transferred from Finished Goods Inventory Account to Cost of Goods Sold (COGS) Account.

Advantages and Challenges to use Standard Cost in Manufacturing environment

One of the greate advantage of Standard Cost is Standard cost not tied to time factor. Thus, cost of manufactured items can be calculated at any time based on the predetermined standard cost. If actual cost is used (eg. average cost), time factor is very important in determining the actual production cost. Let's consider the following example, you have received raw materials from suppliers and used the materials to produce finished goods but not yet received invoice from supplier. Without the purchase invoice from supplier, you won't be able to get the actual production cost because the actual raw material cost is not known yet. The production order is posted with an estimated cost first. After purchase invoice is received from supplier, you need to post the invoice and run adjust cost to recalculate the actual production cost, then only you can get the actual production cost.

Determining the initial standard cost and how often to update the standard costs is a very challenging tasks and a lot of effoerts are required to keep the standard cost up to date. Another problem with Standard Cost is Standard cost cannot accurately determine the cost of the item produced if the material cost fluctuates considerably.