Cost of Goods Sold Definition
Cost of goods sold Definition – “Costs directly associated with making a product”.
COGS is the cost that incurs in creating a product sold by the company. This costs involves the cost incur in producing a good or material, direct labor and overhead cost. COGS appears in the Income statement. This cost is deducted from Gross sales in order to get the Net sales or gross margin.
Generally, this is the cost that incurs in creating the product or service that an organization sells. So only those costs are involved which are related directly to the production of the goods or services.
For example – COGS for the garment manufacturing firm are the material cost of clothes, threads and the cost of labor plus the rent of land. However, the cost of taking it from point of production to point of sales is not included.
The most important point to note that, this cost differ from one industry to other industry. There are various method of calculating COGS. The most simplest way is given below –
Cost of Goods Sold = Inventory at the beginning of year + Purchases made during the period – Inventory at the end of the year
Example of Cost of Goods Sold
To understand Cost of goods sold definition more clearly, here is an example. Suppose ABC is a garment manufacturing firm. It consists of Rs. 1,00,000 of inventory at the beginning of the year, spend Rs. 50,000 in purchasing various items for the inventory. In the end of the year, the inventory left is Rs. 60,000.
So the COGS will be –
Add: Inventory at the beginning = 1,00,000
Add: Purchases during the year = 50,000
Less: Inventory at the end of the year = 60,000
Cost of goods sold = 90,000
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What is included in COGS
Materials – It refers to the matter with which a product is made. This material may differ from industry to industry. For a automobile company, material cost is the parts used to manufacture the cars.
Direct Labor – Labor force who is directly involve in creating a product or service. workers used for maintaining, distribution and support activities.
Overhead expenses – Overhead expenses consists of mostly all the costs that appears on Income statement excluding direct labor, direct materials and direct expenses. For example – rent, insurance,etc.