Final answer:
Costs in a firm begin as raw materials and flow through work-in-progress and finished goods inventory before being recorded as COGS upon a sale. Fixed and variable costs are used to calculate various average costs which help inform long-term profitability strategies.
Step-by-step explanation:
The flow of costs through various inventory accounts into the Cost of Goods Sold (COGS) is fundamental in accounting for a firm's production and sales. Initially, costs are tabulated as part of the production function. This includes fixed costs, such as rent and salaries that do not change with the level of production, and variable costs, which fluctuate based on production volume, like materials and labor.
These costs give rise to the average total cost, average variable cost, and marginal cost. For a product, costs begin as raw materials, which are listed in the inventory accounts. Upon production, these costs are transferred to work-in-progress inventory. Once the goods are completed, the costs move to the finished goods inventory. Finally, when a sale occurs, the associated costs are moved from finished goods inventory to COGS, reflecting the expense related to the revenue earned from the sale.
The merchandise balance and the current account balance assist in tracking the value of goods and services and the payments for them. This helps in monitoring both the production expenses and income, which in turn helps in determining profitability. By looking at the firm's cost structure from a long-run perspective, businesses can strategize on their profit-maximizing quantity and pricing decisions, taking into account their overall market structure.