Cost of Goods Sold (COGS)

What Is Cost of Goods Sold?

COGS captures every cost that is directly tied to creating or acquiring the products you sell. For a manufacturer, this includes raw materials, factory worker wages, and production equipment costs. For a retailer, it is the wholesale price of inventory. For a service business, it typically includes the direct labor costs of delivering the service.

For example, if you sell handmade candles, your COGS would include wax, wicks, fragrance oils, jars, labels, and the wages of anyone directly involved in making the candles. Your website hosting, marketing expenses, and office rent would not be included in COGS.

Why It Matters for Your Business

Understanding COGS is fundamental to pricing your products correctly and knowing whether your core business is profitable.

• Pricing strategy: If you do not know what it costs to produce a product, you cannot set a price that ensures profitability.
• Gross profit calculation: Revenue minus COGS equals gross profit. This tells you how much money is left to cover operating expenses and generate net income.
• Efficiency tracking: Rising COGS as a percentage of revenue may signal supplier price increases, waste, or inefficiencies in your production process.

Tracking COGS carefully also has tax implications. Since it is deducted from revenue before calculating taxable income, accurate COGS records ensure you are not paying more tax than necessary.