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 labour 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 business is straightforward to calculate. First of all, the business must establish the cost of its products. It helps the business in determining the costs of its inventory, 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 with 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 business bears on goods it produces, it is different from other types of 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 they are 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 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 the acquisition or production of an asset. On the other hand, expense refers to the amount that it spends for its operations to ensure it can generate revenues in the short and 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. Expenses, on the other hand, are not investments, but rather a tool for a business to help in its objective of revenue generation.
Businesses also bear costs once and add them to the value of the asset 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. Expenses, on the other hand, 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 for the calculation of 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.
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.