Cost Of Goods Sold (COGS) represents all the direct costs of the products manufactured and sold by a business. For most manufacturing businesses, the COGS will consist of material and labor costs that contribute directly to the value of a product.
COGS will, however, exclude any indirect costs. Indirect costs are costs that don’t directly contribute to the value of a product. These may include costs such as research and development, selling and distribution, etc.
The Cost Of Goods Sold of a business is straightforward to calculate. First of all, the business must establish the cost of its products. It helps the business determine its inventory costs, which is a required part of the COGS calculation.
COGS calculation mainly includes calculating the exact cost of the goods which the business sells. It is important because of the matching concept of accounting, which requires expenses to match the related revenues.
A business can use the following formula to calculate its COGS:
Cost Of Goods Sold = Opening Inventory + Purchases – Closing Inventory
Is Cost Of Goods Sold The Same As Expenses?
While the Cost Of Goods Sold is technically an expense that a business bears on goods it produces, it is different from other expenses. From an accounting point of view, COGS is an expense for a business.
However, businesses don’t usually calculate their COGS until the end of an accounting period when preparing the Statement of Profit or Loss. The Statement of Profit or Loss is also where a business presents its COGS separate from other expenses.
COGS and other expenses appear separate in the statement to differentiate between the COGS, which is the main cost for any business that deals in inventory, and other costs, which may also apply to all businesses.
The COGS also represents all the costs that a business bears directly on producing a product for sale. On the other hand, other costs are those which a business must bear to keep it running but may not directly add to the cost of a single product.
There’s also a difference between expenses and costs that businesses must understand. While these differences are minor, they are still worth considering.
Cost vs Expense:
The main difference between cost and expense is that cost refers to the amount a business spends on acquiring or producing an asset. On the other hand, expense refers to the amount that it spends to generate revenues quickly and in the long run.
While this is the general difference between cost and expense, there are also many more differences. The term cost refers to the investment of a business in the purchase or production of an asset. It doesn’t matter whether it is for a fixed asset or inventory.
A business bears costs with the expectation of benefiting from it in the future. On the other hand, expenses are not investments but rather a tool for a business to help achieve revenue generation.
Businesses also bear costs once and add them to the asset’s value for which it bears the cost. On the other hand, expenses are more regular. Similarly, costs relate more to the Statement of Financial Position or balances.
However, costs may sometimes also relate to the Statement of Profit or Loss but must follow the matching principle of accounting. On the other hand, expenses only relate to the Statement of Profit or Loss and are transactions rather than balances.
Similarities of COGS with expenses
As mentioned above, the Cost Of Goods Sold is an expense in the Statement of Profit or Loss. Therefore, it is similar to other expenses of the business.
However, in the statement, the COGS is presented separately from other expenses. There are many reasons why they are separated.
The first reason is that it is necessary to calculate Gross Profit and needs to be separated. The second reason is that COGS is fully tax-deductible as opposed to other expenses. However, in essence, COGS is an expense the same as other types of expenses.
Differences of COGS with expenses
While COGS may be similar to expenses, there is still a difference. The difference is due to the source of costs and expenses. With costs, the money of a business goes towards the manufacturing of products of a business.
As mentioned above, costs are more of an investment rather than an expense. On the other, expenses go towards keeping the business operational and not towards any product.
In summary, COGS, and expenses are different because COGS shows the direct expenses of business while other expenses are indirect.
How Do the Cost of Goods Sold and Expenses Reported in the Income Statement?
The cost of goods sold (COGS) and expenses are documented in the income statement, also referred to as the profit and loss statement.
This financial report outlines a company’s revenue, expenses, and net income over a set period of time, usually a month or quarter.
The cost of goods sold, which includes direct costs of producing and selling a product, such as raw materials, labor, and overhead expenses, is included in the expenses section of the income statement.
It is calculated by adding up all the costs associated with the goods sold during the reporting period.
Expenses, on the other hand, represent the indirect costs incurred in running a business, such as administrative expenses like rent, utilities, salaries, marketing, and other operating costs.
These expenses are listed below the revenue section in the income statement and are subtracted from the revenue to determine the net income.
Do Cost of Goods Sold and Expenses Report in Balance Sheet?
The balance sheet does not show the cost of goods sold (COGS) and expenses. Instead, this information can be found in the income statement or profit and loss statement. The income statement provides a summary of a company’s revenue, expenses, and net income over a designated period, such as a month or quarter.
The COGS, which represents the direct costs incurred from producing and selling a product, including raw materials, labor, and manufacturing overhead, is listed under the expenses section of the income statement. It is calculated as the sum of all costs related to the goods sold during the reporting period.
Expenses, on the other hand, are indirect costs associated with running a business, such as administrative expenses like rent, utilities, salaries, marketing, and other operating expenses.
These expenses are reported below the revenue section of the income statement and are subtracted from the revenue to calculate the net income.
Although the COGS and expenses are not reflected on the balance sheet, they do have an impact on it. The balance sheet is a financial statement that gives a snapshot of a company’s financial position at a specific point in time, detailing its assets, liabilities, and equity.
The net income, which is calculated by subtracting the COGS and expenses from the revenue in the income statement, is included in the equity section of the balance sheet, indicating the company’s financial performance and aiding in determining its financial position.
Conclusion
The Cost Of Goods Sold represents all the direct expenses of a business in the Statement of Profit or Loss. Businesses calculate COGS following the matching principle of accounting. There are some differences between the COGS of a business and other expenses.
A business must first consider the difference between costs and expenses generally to understand the difference between COGS and other expenses.
The similarity of COGS with other expenses is that they are all expenses in the Statement of Profit or Loss. The difference is that COGS represents direct costs, while expenses represent indirect costs.
