Ever find yourself trying to quantify your goods and services? What does it take to put together that finished product? If you can’t break down the journey, you’ll have a hard time justifying the means. Enter… COGS or Cost of Goods.
So! What exactly does the term Cost of Goods (COGS) and Gross Profit mean? And, how does knowing this information help your business?
Let’s start with Cost of Goods or COGS!
COGS is a highly informational account in your bookkeeping software (or registry). It carries more information on the health of your company than any other account reporting. The COGS section can be made up of 1 goods account or 20 goods accounts; depending on your business.
COGS is the accounting of what it takes to “make” the end product that you, in turn, sell to your customers. A service-based business would most likely have 1 or 2 accounts in this section; something like subcontractors and other expenses. Whereas a Flower Shop (retail) could have dozens of accounts such as fresh cut, vases & pots, plants, ribbons, packaging, cards, candies, or other.
It’s not uncommon for your sales accounts and COGS accounts to sometimes have the same descriptions. COGS is the cost breakdown and quantification of the total cost of production for a specific product or service you then sell to your customers.
The COGS number comes from the sale of your items. For those who carry inventory, when making a sale, the product comes out of inventory and the cost of that inventory hits the COGS account. The COGS is the cost of the item that you are selling. If you have a service-based business the COGS is where you would put the cost of the subcontractor(s) or vendor(s).
Onto Gross Profits
The Gross Profit is calculated when you take the amount of the sell and subtract the cost of the product or item you are selling. That end total is the Gross Profit.
When you take the total of COGS and divide by the total sales, you end up with the percentage of profit. Different industries have different percentage margins to hit based on the industry standards. This is where you can tell if your proposals are making you enough profit for your company or if you need to adjust your available offerings or, at the least, changes to the billable costs of those goods or services.
You can also use this formula for each individual project, client, or product line to see if that item or client is good for your business; whether it’s making your business money or costing you revenue.
Once you’re armed with that information you can make strategic decisions about future proposals and budgets. For some, this is where there’s either an “ah-ha” moment or a true bomb goes off in your company.
I can’t highlight enough the importance of understanding your Gross Profit number. This number provides so much information and has different information for each business that can’t be effectively covered in one blog. This is information that is specific to each business owner and needs to be talked about on a one-on-one basis. This is the true reading of how the company is doing.