Costs are crucial to the operations and business of a company. They help create assets that help in generating revenues. However, not all expenditure falls under costs. On top of that, companies may also categorize these costs to understand their operations better. One such categorization includes the cost of sales, an essential part of the income statement.
What is Cost of Sales (COS)?
The term cost of sales (COS) refers to the total costs incurred in generating revenues from products or services. In other words, it represents the accumulated expenses on items a company has sold. Companies calculate this amount for every period. While they may differ from one company to another, there are some common elements in every COS calculation.
The cost of sales is crucial to understanding how much money a company spends on its products and services. However, it is the expenses incurred for items sold during a specific period. It does not represent the cost of all units produced or purchased. Once calculated, companies use the COS to measure gross profits by deducting them from revenues for a period.
How to calculate the Cost of Sales?
As stated above, the cost of sales calculation may differ from one company to another. The primary difference in this calculation is the overheads that companies may capitalize as a part of their products or services. Accounting standards provide the following cost of sales formula as a part of the income statement.
Cost of Sales = Opening stock + Purchases/Production – Closing inventory
However, the above formula for cost of sales only represents a part of the calculation. It only accounts for the direct material used in products or services sold. Companies may also include other items in the cost of sales calculation, containing the following.
- Labour costs
- Transport and freight charges
- Purchase returns and allowances
- Spare parts used for machinery
- Storage and handling costs
- Factory overheads
What is the difference between Cost of Sales (COS) and Cost of Goods Sold (COGS)?
The terms cost of sales (COS) and cost of goods sold (COGS) may often confuse people due to their similar names. On top of that, both are a part of the income statement and gross profits calculation. In accounting, COS and COGS are essentially the same. However, the former may cover more items.
The primary difference between the cost of sales and the cost of goods sold comes from their usage. The former term applies to any business that generates revenues. Usually, it covers manufacturers, retailers, service-based companies, etc. However, COGS only applies to companies that sell physical products. Moreso, it is more applicable to manufacturers.
What is the accounting for the Cost of Sales?
Companies may use one of two or more methods of inventory valuation when accounting for the cost of sales. The application of these methods depends on the accounting framework a company chooses. Usually, these include FIFO, LIFO, periodic average, and weighted average methods. The cost of sales may differ significantly based on the method used when accounting for inventory costs.
Conclusion
Cost of sales refers to the total expenses incurred on selling products or services which generate revenues. Companies calculate this amount for each period. Consequently, it helps measure the gross profit for that period. The cost of sales and goods sold are primarily the same. The differences come from their usage between various companies.
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