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April 29, 2022

What are Period Costs?

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Period costs are one of the basic costs that companies must indicate in their financial statements. Nowadays, every successful entrepreneur must know how to report period costs. It helps fill out the ledger accurately and plan your budget effectively for manufacturing procedures.

This article is about period costs, their classification, and business importance. We also explain step by step how to evaluate this type of expense.

The definition of period costs

In the managerial accounting period, costs refer to expenses not linked to the production of goods (directly or indirectly). That’s why they don’t include in the price of one product and inventory cost for the company. Nevertheless, period costs are commonly incorporated into selling and administration expenditures on the statement of profit & loss during a specific period.

This section of balance includes marketing and sales costs together with the corporate office costs the business acquires.

Classification of period costs

Now we use such categories of period expenses:

  • Historical Period Expenses. These costs have happened a time earlier than now. Specialists don’t consider them when they make decisions in the current situation. You can analyze this information for comparative purposes.
  • Current Period Expenses. These are the expenses that the company has incurred at present. The company’s managers consider current costs to evaluate financial situation and perspectives. It is essential to use this data effectively to decide in the short-term period.
  • Pre-Determined Period Expenses. These are expenses that the company plans to incur in the future. During the assessment, consider the latest trends and general situation in the financial market. Management use indicators while they prepare the budget for the following periods.

According to another classification, period costs are divided into fixed and variable.

How experts calculate the period cost

There isn’t a specific algorithm or formula for computation period costs. Management accountants must check all records of expenses and determine those items included in the income statement and not directly related to the production of inventories.

Some advice how to report period costs:

  • Keep a tab on period costs. Observe how much money the company spends on period costs. We recommend keeping invoices, pay stubs, and other financial documents.
  • Enter costs into the balance sheet. It reduces the tax base – income taxed by a taxing authority. You can divide the total period costs into separate items to understand your prices for each type of expense.
  • Regularly reevaluate period costs. Not all time expenses are fixed. Before planning the budget, you can cut total costs by reevaluating period expenses.

Make your business more resilient.

What are Period Costs?

Period costs vs. Product costs

When the specialist makes a financial statement, he must classify all expenses as product or period costs. These groups of expenses have many differences, as you can see from the table.

Product costs Period costs
Explanation Expenses appear during production Costs not linked with production
Form of recording They entered into the balance as inventory. Finally, these costs expensed to the price of

product sold on the income statement

They are included into financial documents at the time of occurrence
The most common examples Direct labor, raw materials, manufacturing supplies etc. Marketing expenses, rent, administrator expenses etc.

 

Sometimes people don’t understand; they deal with period or product cost. In this case, ask yourself: «Is the cost related to the production of goods? ». If the answer is negative, it’s period cost.

Some examples of period costs

The list of the most common company’s period items:

  • Fees to specialists. Payment for services of lawyers, accountants, and other professionals.
  • Office expenses. Its money is spent on rent, repair of equipment, and maintenance of working space.
  • Utilities. It’s impossible to work without water, gas, and electricity.
  • Advertising. Marketing costs to promote products on social media and other ways.
  • Business trips. Travels are essential for staff training and professional partnerships.
  • Salaries. The company must pay each employee for their work.
  • Employee benefits. Employees are provided with medical insurance, paid vacation, and disability benefits.
  • Insurance. Company’s owners should ensure their assets.
  • Interest on loans. Many entrepreneurs prefer to use borrowed capital to invest in company development.

Prepaid expenses (for example, prepaid rent, insurance, interest, taxes) don’t include in period costs.

Why is it principal to count up period costs?

It’s essential to track period costs to understand the company’s net income during the accounting period. This information helps to avoid mistakes when you pay taxes. If a business owner knows the total period costs, it’s easier to prepare for the audit.

Calculation of period costs allow:

  • make your budget more balanced,
  • cut expenses,
  • focus on business development and check your prices,
  • find the best method to control all payments.

Proper management of period costs help the company prepare an optimal budget and allow the company to use increased profits for rapid development.

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Author: Charles Lutwidge

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