PERIOD COSTS: Types and Examples

In the realm of accounting and finance, period costs represent a pivotal concept that distinguishes costs not directly tied to the production of goods. Unlike direct costs, which are incurred during the manufacturing process, period costs are linked to time and are expensed in the period they are incurred. These costs are not assigned to the cost of goods sold but are treated as expenses that impact the profitability of a company in the period they occur.

• This can be achieved through the use of predetermined overhead rates or activity-based costing (ABC) systems.
• These two categories of costs are treated differently because they reflect distinct aspects of business operations.
• Understanding these costs is not just about recording numbers; it’s about grasping their broader implications on pricing strategies, budgeting, forecasting, and tax considerations.
• Businesses must accurately calculate depreciation for each asset, record depreciation expense in the accounting records, and comply with accounting standards and regulatory requirements.

What Is a Period Cost and How Is It Accounted For?

• Now let’s look at a hypothetical example of costs incurred by a company and see if such costs are period costs or product costs.
• These expenditures encompass everything from acquiring raw materials to paying employee salaries and maintaining facilities.
• If advertising happens in June, you will receive an invoice, and record the expense in June, even if you have terms that allow you to actually pay the expense in July.
• For example, if you alter insurance premiums or even switch to a firm with lower premiums, the price difference must be reported.

A period cost is charged to expense on the income statement as soon as it is incurred. In addition, a period cost is more likely to be a fixed cost, while a product cost is likely to be a variable cost. They are considered assets on the balance sheet until the related product is sold. Only when the product is sold are these costs then transferred from inventory to the income statement as bookkeeping Cost of Goods Sold (COGS). This deferral means that product costs are expensed at the point of sale, aligning the expense with the revenue it helped generate. This matching principle ensures that the costs of producing an item are recognized in the same period that the revenue from selling that item is recorded.

Examples

Depreciation is a non-cash expense that represents the systematic allocation of the cost of tangible assets over their useful lives. Direct Allocation is a method of assigning Period Costs directly to the specific cost object based on a clear cause-and-effect relationship. This method is straightforward and https://lobosperu.com/2021/07/14/guide-what-is-business-process-automation-bpa-2/ suitable for costs that can be easily traced to a single cost object. Marketing expenses can be categorized into several types, including digital marketing, print advertising, public relations, branding and design, and market research.

Mixed Expenses

Companies may decide to absorb certain period costs temporarily to gain market share or enter a new market, setting prices that are competitive yet may what are period costs not fully cover these expenses in the short term. This approach can be particularly effective in industries where customer acquisition costs are high, but the lifetime value of a customer is significant. The pricing strategy must then be adjusted over time as the business scales and these costs become a smaller proportion of the total expenses.

The costs in the initial inventory are moved out in a lump sum under FIFO costing. FIFO costing does not combine former tenure costs (in beginning inventory) with current period expenses. Period costs are the costs incurred by a corporation to create items or deliver services that cannot be capitalized into prepaid expenses, inventories, or fixed assets. Period costs are not tied to the production of a specific product, but rather to the day-to-day operations of a business.