What is Cost of Goods Sold (COGS)?
Cost of goods sold (COGS) is the total cost of acquiring or producing the goods that a company sells during a specific period of time.
If a company’s revenue is the sum of the sales of its goods and services, then COGS is the total cost of making or obtaining those goods.
Product companies are required to use inventory costing techniques in order to comply with the COGS accounting term, which has a precise definition under U.S. Generally Accepted Accounting Principles (GAAP). It also includes a method for calculating Cost of Goods Sold and instructions for which costs should be included. The determination of a company’s gross profit and gross margin, two crucial business indicators, depends in large part on COGS.
The difference between the two is known as the gross margin, which is calculated by dividing the gross profit by the revenue. A company’s gross profit decreases as Cost of Goods Sold increases. Thus, understanding COGS is crucial.
COGS, sometimes known as “cost of sales,” is stated directly beneath the revenue line on an organization’s financial statement.
COGS is the total of all direct expenses incurred to produce the goods a business sells. The majority of these expenses—such as materials and labor—are variable costs associated with producing the good, but others may be fixed expenses like factory overhead.
Asking if a cost would be incurred even if no goods were produced is a good litmus test for determining if it should be included in COGS. If the response is no, the expense is probably already reflected in COGS.