Cost of goods sold (CoGS) is an accounting term referring to all direct costs incurred when producing a good. In other words, it’s the sum of all direct costs attributable to a specific good’s production. For example, raw material, labor and packaging costs comprise a product’s cost of goods sold. At times, overhead costs, freight charges, manufacturing facility rent, etc. directly attributable to a product are also accounted for in CoGS.
If the finished product needs to be warehoused before shipping, total inventory charges also get added to the product’s cost during shipping. Cost of goods sold doesn’t include indirect expenses such as marketing and advertising, administration, etc. as these activities cannot be directly attributed to a single product or service.
The components adding up as cost of goods sold for a product could vary across companies and industries. For instance, CoGS variables may differ for manufacturing and service businesses.
The Importance of CoGS
The cost of goods sold is related to a company’s profit figures and overall financial health. Deducting CoGS from gross profits helps determine business efficiency and how much money a firm is generating from sales. If a product’s CoGS is higher than its market price, it indicates the product is not priced to make profits.