Cost Of Goods Sold

Business, Legal & Accounting Glossary

Definition: Cost Of Goods Sold

Quick Summary of Cost Of Goods Sold

Materials, labour and other costs directly related to the goods or services provided.

What is the dictionary definition of Cost Of Goods Sold?

Dictionary Definition

The total cost of buying raw materials.

For companies that sell physical items, the cost of goods sold is the sum of any purchases made during the accounting period plus the difference between the beginning and ending inventory. It is also referred to as Cost of Sales.

<math>COGS = Beginning\ inventory + Purchases\ made – Ending\ inventory</math>

For companies that sell services, the “cost of goods sold” is the cost of providing those services.

COGS and inventory

COGS is rarely the actual cost spent to acquire inventory items a, b, and c. That can only be determined if the cost of every individual widget is tracked — quite impossible for all the washers or screws sold by Home Depot, for instance.

Instead, COGS is determined more usually from the value of inventory at the beginning of the accounting period, the amount of money spent to purchase new inventory, and the value of inventory at the end of the period. The values of the inventory at the beginning and end of the period depend on the accounting method used. For instance, if a company starts a financial period (e.g. a quarter) with $12 million as inventory, spends $4 million during the quarter, and ends the period with $11 million, then the COGS would be $4 + ($12 – $11) = $5 million.

These numbers can be obtained from the balance sheet and the cash flow statement. Beginning and ending inventory are on the balance sheet, while the cash flow statement shows how much was spent in purchasing new inventory. in the section on operating cash flows.

Costs includes not only the cost of materials (including shipping charges for delivery charged to the purchasing company), but also the labor to assemble items into the products the company actually sells. Cost includes all costs at a manufacturing site–including security costs, insurance, and property taxes, but excludes overhead/SARE costs.

In a period of rising prices (the most common situation), for LIFO (last in, first out), COGS will be higher than for FIFO (first in, first out). Thus, LIFO would give an accurate picture of the actual costs today for what is being sold.

Revenue minus COGS is gross profit.

Full Definition of Cost Of Goods Sold

Cost of goods soldCOGS, or “cost of sales”, includes the direct costs attributable to the production of the goods sold by a company. This amount includes the materials cost used in creating the good along with the direct labour costs used to produce the good. It excludes indirect expenses such as distribution costs and sales force costs. COGS appears on the income statement and can be deducted from revenue to calculate a company’s gross margin.

COGS is the costs that go into creating the products that a company sells; therefore, the only costs included in the measure are those that are directly tied to the production of the products. For example, the COGS for an automaker would include the material costs for the parts that go into making the car along with the labour costs used to put the car together. The cost of sending the cars to dealerships and the cost of the labour used to sell the car would be excluded.

The exact costs included in the COGS calculation will differ from one type of business to another.

The cost of goods attributed to a company’s products is expensed as the company sells these goods. There are several ways to calculate COGS but one of the basic ways is to start with the beginning inventory for the period and add the total amount of purchases made during the period, and then deducting the ending inventory. This calculation gives the total amount of inventory (the cost of this inventory) sold by the company during the period. Therefore, if a company starts with $10 million in inventory, makes $2m in purchases and ends the period with $9m in inventory, the company’s cost of goods for the period would be $3m ($10m + $2m – $9m).

Subtracting the cost of goods sold from the amount billed when selling the goods (sales revenue) produces the gross profit on the goods.

The net income, what most people understand as the business’ income or profit, is determined by subtracting the cost of goods sold and the indirect expenses from the sales revenue.

Figuring out the Cost of Goods Sold on a per-item basis is a tedious and unnecessary process. In most cases, goods or products enter the Inventory at varying times and at varying costs. There are changes in the cost of raw materials, labour, transport, etc, from period to period and from time to time. It will be very difficult to be accurate even with the aid of a computer.

The science of accounting has established a procedure for figuring out the Cost of Goods Sold on a wholesale basis, thus avoiding the tedious process of a per item costing.

To the beginning Inventory of a period (which is the ending Inventory of the previous period), the value of Purchases during the same period is added. From the result is subtracted the ending Inventory of the period. The final result is the Cost of Goods Sold corresponding to the Sales during the period.

Accounting Method

The revenue from merchandise sold must be matched with the COGS. Cost of sales or cost of goods sold is the identification of the cost of those items sold in the most recent accounting period. It can be done by specific identification, taking inventory, or different methods using estimates such as the “retail” method.

COGS is also the determining factor in arriving at gross profit and is determined under the periodic method as follows:

Sales--------------------------------- $100,000
Cost of Goods Sold 
  Inventory 01/01/03-- $ 5,000
  Purchases------------ 45,000
  Direct Labor--------- 30,000
  Less: Inventory 12/31/03----- 10,000

  Net Cost of Goods Sold---------------- 70,000

Gross Profit on Sales------------------ $30,000

To determine the net profit, one would then compute the indirect expenses such as office expenses, light, heat, etc. Determining the cost of goods sold is the first step in arriving at the net profit.

If the COGS is too high, then the gross profit will not support the indirect expenses and the result will be a loss for the accounting period.

Synonyms For Cost Of Goods Sold

COGS, Cost of sales

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Cost Of Goods Sold. Payroll & Accounting Heaven Ltd. September 23, 2021
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Cost Of Goods Sold. Payroll & Accounting Heaven Ltd. (accessed: September 23, 2021).
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Definition Sources

Definitions for Cost Of Goods Sold are sourced/syndicated and enhanced from:

  • A Dictionary of Economics (Oxford Quick Reference)
  • Oxford Dictionary Of Accounting
  • Oxford Dictionary Of Business & Management

This glossary post was last updated: 4th August, 2021 | 9 Views.