1.
Please distinguish between product costs and period costs as they relate to inventory.
Solution
Product costs cling to the units of products purchased or manufactured. If a unit is unsold, the
product costs will be reported as inventory, a current asset on the balance sheet. The product
costs for a retailer will be the amount paid to the supplier plus any freight-in. Product costs for a
manufacturer will be the direct materials, direct labor, and manufacturing overhead. Product
costs will be reported on the income statement as the cost of goods sold expense in the period
that the units of product are sold.
Period costs do not cling or attach to the units of product and will not be included in the cost of
inventory. For example, the interest incurred by a retailer to finance its operations will be
expensed in the period in which the interest occurs. Interest is not deferred by adding it to the
cost of the units in inventory. Similarly, selling expenses and general administrative salaries are
expensed in the period that the employees earn those salaries, the same period in which the
company incurs the salaries expense. The insurance premiums that a company pays for
nonmanufacturing protection will be expensed in the period in which the insurance premiums
expire. (Insurance premiums for the factory building will be included in the manufacturing
overhead which will be part of the products' cost.)