what are conversion costs

Conversion costs are the production costs required to convert raw materials into completed products. They are used in cost accounting to derive the value of ending inventory, which is then reported in the balance sheet. Conversion costs can also be used to determine the incremental cost of creating a product, which could be useful for price setting purposes. The formula to calculate conversion costs is: Conversion costs = Direct labor + Manufacturing overhead. Direct labor and manufacturing overhead are the labor and overhead expenses that “convert” raw materials into a completed unit. Examples of conversion costs include direct labor and related benefits and payroll taxes, equipment depreciation, equipment maintenance, factory rent, factory supplies, factory insurance, machining, inspection, and production utilities.