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How to Calculate Cost of Goods Sold: Formula and Examples

This article is devoted to an economic index called Cost of Goods Sold: what it is, what it is used for, how it is calculated, and what accounting methods it has.

What is the cost of goods sold

Cost of Goods Sold (COGS) is an index that evaluates the main cost of goods sold. It takes into account the costs of producing goods and services. Principal expenses are often the second line on the income statement, right after the income line. HPP helps calculate the company's gross profit.

Primary costs include the main costs that are directly related to the production of goods and services:

costs of raw materials and supplies, including transportation costs;
payroll bills for employees, including insurance and pension payments;
production cost;
Storage costs.
Basically, COGS is the cost of everything that needs to be done and purchased to sell a product. However, the index does not take into account indirect expenses, such as: B. for sales and marketing. In addition, HPP depends on the calculation method.

What is COGS used for?

COGS is one of the most important indices in financial statements used to calculate gross profit. Gross profit is the difference between major revenues and expenses and is one of the most important indices of a company's profitability. Thus, COGS enables an assessment of the dynamics of production expenditures and helps management to make well-weighted decisions.

Companies that are able to properly manage their raw material and labor expenditures throughout the production cycle, and reduce COGS where necessary, will achieve higher gross profits. On the other hand, if a company spends more on the production of its goods and services and COGS is too high, its gross profit will fall.

With Cost of Goods Sold, economists and investors can assess whether a company can run its business efficiently. As the index grows, net income falls. This can be great for lowering corporate income taxes, but the business becomes less attractive to investors. So usually, companies try to keep COGS quite low and net profit rather high, making it more attractive to invest.

How COGS is calculated

An important part of proper primary costing is the determination and classification of inventory. This means that information needs to be updated regularly.

The task of COGS is to show the main costs of sales for a given period, taking into account the remaining inventory. Index required for calculation:

Opening Inventory (BI) is the inventory of goods at the beginning of TF;
Purchase (P) to replenish stock;
Ending Inventory (EI) is a commodity available at the end of the TF.
Calculation formula:

HPP = BI + P – EI

Example of HPP calculation
If the company had BI = $5,000 at the beginning of the month, P = $3,000, and EI = $4,000 at the end of the month, COGS would be $4,000.

HPP = 5000 (BI) + 3000 (P) – 4000 (EI) = 4000

Then we subtract the result from the monthly income and get the gross profit. Now we can find the net profit by subtracting the other costs from the first, i.e. B. Taxes.

COGS accounting method

Cost of goods sold depends on the accounting method used by the entity for changes in inventory. To calculate COGS for a given TF, three settlement methods are used:

FIFO (First In, First Out) is a reserve valuation and management method based on the idea that goods received first are sold first.
LIFO (Last In, First Out) is a reserve valuation and management method based on the idea that the goods received last are sold first. The selling price is based on the last existing lot price, while the reserve cost is based on the last selling price.
The Cost-Average method literally means the average cost of all items in inventory regardless of the time of purchase or production. This smooths COGS and keeps it from fluctuating due to price differences.
the main thing is
COGS shows the main cost of goods sold over a certain period of time. It is one of the main economic metrics used to calculate a company's gross profit and assess the effectiveness of its business model.