What is Cost of Goods Sold (COGS)?
The Short Answer
Cost of Goods Sold (COGS) explained simply
Cost of Goods Sold (COGS) is a direct expense. It covers the costs directly linked to making the products or services a business sells. Think of it as the money spent on raw materials, direct labor, and manufacturing overhead. COGS does not include indirect costs like marketing or administrative salaries. It is subtracted from revenue to calculate gross profit.
Real-World Example
The T-Shirt Business
Imagine a business that sells custom T-shirts. Each T-shirt costs $5 for the blank shirt and $2 for the printing labor. The total COGS for one T-shirt is $7. If they sell 100 T-shirts, their total COGS is $700. This $700 is then subtracted from their total sales revenue to find their gross profit.
Why this matters
COGS is important because it directly impacts a business’s profitability. A lower COGS means higher gross profit. Understanding and managing COGS helps a business price its products correctly and improve its profit margins. It also affects how a business is valued, as it directly influences earnings.
Keep a close eye on your COGS. Even small changes in material costs or labor can significantly impact your bottom line. Negotiate with suppliers and look for efficiencies.
Keep a close eye on your COGS. Even small changes in material costs or labor can significantly impact your bottom line. Negotiate with suppliers and look for efficiencies.
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