“My coat of many colors that my momma made for me. Made only from rags but I wore it so proudly.” -Dolly Parton
The coat made her feel rich even though the rags cost her nothing. I love this story but business owners have a cost to making or producing their products!
It’s called cost of goods sold or COGS and calculating it can be confusing. You have to know what to include and exclude. It is an extremely important but sometimes difficult task.
I like to ask, “Would you incur that expense if you hadn’t provided the product or service?”
COGS is more applicable to product business than service businesses. A service based business with COGS would be someone who provided a product in addition to the service. If you are a photographer and provide a photo album with prints, that photo album would be part of your COGS but not the camera equipment. This is because you would need the camera equipment no matter how many photo shoots you did but the photo album is specific to that one client.
Product businesses have more COGS because there are direct costs to producing and delivering the products.
The raw materials, shipping materials, and other supplies that go into each product made would be considered COGS. These can be categorized into separate subaccounts of COGS and are helpful reporting tools.
Expenses like computers, online advertising, and legal fees would be expenses regardless of how many products you make or clients you provide services to and are not considered COGS.
Overall, COGS is important because you want to know how much it costs you directly to make/produce each item. Without knowing that…how will you know what to charge?