Definition Definition

What Is Cost of Goods Sold (COGS)? Understanding the COGS Formula with Example

What is Cost of Goods Sold (COGS)?

Cost of Goods Sold (COGS) is a category of the expense of a merchandising company which refers to the total cost of merchandise sold during the period. This expense is directly related to the revenue recognized from the sale of goods.

Understanding Cost of Goods Sold (COGS)

The cost of goods sold (COGS) is a crucial measure to consider when managing a store that delivers any kind of commodity or service. COGS are expenses that are closely applicable to either the brand or product sold by a business or the cost of getting stocks to sell to customers. 

They are a core component of financial statements. Any successful entrepreneur must have a firm grasp of how the cost of goods sold (COGS) functions and impacts business outcomes because it is a significant factor in overall success.

Costs Included in Cost of Goods Sold (COGS)

COGS are sometimes referred to as the cost of selling goods or cost of services, which is the price you pay to create the goods or perform the services that your company offers. Costs below are included in COGS:

  • Raw material costs
  • Items purchased for resale
  • Freight-in costs
  • Purchase returns and allowances
  • Trade or cash discounts
  • Factory labor
  • Parts used in production
  • Storage costs
  • Factory overhead

A business's criteria, together with indirect costs, to establish pricing for a given item is the cost of goods sold. Do not consider the expense of producing goods or services that business doesn't sell into the cost of the goods sold calculation.


The cost of goods sold formula is computed by deducting the ending inventory for the duration from the initial balance and adding expenditures for the timeframe. 

Cost of Goods Sold = Beginning Inventory + Purchases – Ending Inventory

Practical Example

Let's use one as an illustration. Delta Automobile Company just completed its accounting calculations. It started off with $10,000 in inventory the previous month and added $5,000. They had a successful month last season, and then at the end of that period, they still had $12,000 in inventory. To understand the outcomes, they utilized their accounting department to calculate COGS.

By using the formula, they obtained-

COGS = $10,000 + $5,000 - $12,000 = $3000

They can use this method to assess prices in addition to planning their purchases for the upcoming year. They may, in particular, display the prices associated with each of their market segments and contrast those costs with profits. They may analyze which items they are overpaying for and which goods are allowing them to make a profit by using this contrast to determine the sales margins for each item.

In sentences 

  • The cost of goods sold plays a crucial role in assessing a company's profit margin as well as the viability and scalability of an enterprise.


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