Are you looking for ways to reduce your business’ cost of goods sold? If so, this post is here to help! The cost of goods sold or COGS is one of the most important operating expenses for any company. It can easily have a major impact on a company’s bottom line and it’s important that everyone understands what it entails. In this blog post, we will go through everything there is to know about reducing the cost of goods sold and how businesses can use the strategies outlined to save money. So if you’re interested in reducing your costs and improving profits, then keep reading – this post has plenty of advice that could be just what you need!
What Is Cost Of Goods Sold?
Cost of goods sold (COGS) is an important concept for business owners to understand, as it reflects the direct costs required to produce the products they are selling. It includes expenses such as material and labor costs specifically tied to product creation while excluding indirect expenses like distribution and sales force expenses.
When you hear people refer to COGS as “cost of sales”, now you know what they’re talking about! The cost of goods sold provides businesses with a crucial perspective on their inventory costs so that they can better track their income and make smart decisions about how to price their products.
Why Is It Important For Businesses To Track Their Cost Of Goods Sold?
To ensure the fiscal health of their business, it is essential for companies to closely track their cost of goods sold (COGS). Not only does this protect them against potential financial losses, but also helps them make better strategic decisions.
By having an accurate record of all items related to COGS, businesses can establish firm strategies on pricing and anticipate market changes or shifts in demand. Tracking COGS allows organizations to identify where they are spending too much money and how they could reduce costs in certain areas or maximize profits from higher-cost products.
Having all of this data at hand equips businesses with powerful insights into their own operations, giving them the upper hand when it comes to achieving success in their industry.
How Do You Calculate Cost Of Goods Sold?
Calculating the cost of goods sold is an incredibly important part of running a business and should be done on a regular basis.
To accurately determine what your COGS are, you need to take into account the inventory you had at the beginning of your reporting period, along with any purchases you made during that same time frame. Subtracting this number from the amount of ending inventory will give you your Cost of Goods Sold.
For instance, let’s say a business had $50,000 in inventory at the start of their reporting period. During the same time frame, purchases totaled $30,000. At the end of their reporting period, they had remaining inventory totaling $25,000. Their COGS for that period would be calculated as such:
Beginning Inventory + Purchases = Cost of Goods Available for Sale
$50,000 + $30,000 = $80,000
Cost of Goods Available for Sale – Ending Inventory = Cost of Goods Sold
$80,000 – $25,000 = $55,000
Keeping track of these figures can help keep you on top of improving profits, lowering costs, and ensuring efficiency in your operations.
What Factors Affect Cost Of Goods Sold?
The cost of goods sold (COGS) is one of the key components of a company’s financial statements and can significantly affect its profitability. There are many factors that contribute to the COGS, including:
The cost of raw materials and labor:
Raw materials are the primary components of any product or service and vary widely in price depending on their availability. Labor costs also fluctuate based on market conditions, such as wages and competition for workers.
The complexity of production:
The more complex a product or service is to produce, the higher its cost will be. This can include the number of steps involved in the production and any additional technologies required for manufacturing or service delivery.
The level of competition:
More competition can drive down prices, while less competition can lead to higher costs. Companies must also factor in marketing and advertising expenses as part of their COGS.
The size of orders:
If a company is producing larger orders, then the per unit cost may be lower than for smaller orders. This is because larger orders often require less setup time and can take advantage of economies of scale. Additionally, companies must consider any additional charges due to shipping and delivery fees.
Inflation rates:
Inflation can have a major impact on a company’s cost of goods sold as it affects the prices of raw materials and labor. As prices rise, companies must adjust their COGS to remain profitable.
Taxes:
Local and federal taxes can also be factored into the cost of goods sold. Companies should be aware of any applicable taxes before pricing their products and services.
The cost of goods sold is an important metric for businesses to measure profitability. By understanding the various factors that can affect COGS, companies can better manage their costs and remain competitive in the market.
What Is A Good Cost Of Goods Sold?
The cost of goods sold (COGS) is a key indicator of success for any business. A good COGS must reflect labor costs, materials, and overhead associated with goods production. It’s important to properly manage and account for these expenses to make sure that the COGS reflects the true cost of production.
A too-low COGS can mean you are leaving money on the table, while a too-high one can reduce your return on investment. Regularly analyze and review your company’s COGS to ensure pricing accuracy, ultimately maximizing profits by raising the right prices or cutting costs where necessary.
Example Of Cost Of Goods Sold
Company ABC Ltd. has the following details regarding their inventory for the calendar year ending on December 31st, 2018: Beginning Inventory of $11,000 on January 1st, 2018 and Ending Inventory of $3,000 on December 31st, 2018 with Purchases of $6,000 during the course of the year.
To calculate the Cost of Goods Sold (COGS) for the calendar year, we can use the following formula:
COGS = Beginning Inventory + Purchases – Ending Inventory. In this case, the calculation would be as follows
COGS = $11,000 + $6,000 – $3,000
= $14,000
Therefore, the cost of goods sold by Company ABC Ltd. for the year ending on December 31st, 2018 is $14,000. Knowing this figure is important for the company as it will help them make better decisions such as comparing prices and choosing the best rate with similar product quality.
Additionally, it will also guide them in planning out the purchases for the following year, as it gives an indication of how much inventory is left after taking into account the beginning and ending inventories.
Strategies To Decrease Cost Of Goods Sold
Reduce Inventory:
Reducing inventory levels can help to decrease the cost of goods sold by reducing holding costs associated with those inventories. Companies should strive to keep stock levels at an optimal level, in order to ensure that there is enough product to meet customer demand without excessive overhead costs due to overstocking.
Increase Buying Power:
Companies should consider using their buying power to negotiate better deals on inventory. Bulk purchasing is a great way to take advantage of economies of scale and reduce cost of goods sold.
Automate Processes:
Implementing automated processes can help to streamline operations and reduce the number of personnel needed, thus reducing labor costs associated with the production of goods. Automation also helps to reduce errors and increase efficiency, leading to cost savings.
Move To Just-In-Time Inventory Model:
Just-in-time inventory management seeks to increase efficiency by having an optimal level of inventory on hand at all times. This reduces holding costs associated with excess inventory and helps to minimize costs of goods sold.
Leverage Technology:
Technology can be used to increase efficiency and reduce costs associated with the production or sale of goods. For instance, automated inventory tracking systems can help to keep track of stock levels and alert when replenishment is needed, preventing overstocking and reducing cost of goods sold.
Reduce Waste:
Waste can be a major contributor to increased costs associated with the production of goods. Companies should strive to reduce waste as much as possible by reusing materials and implementing efficient processes that minimize or eliminate unnecessary steps or materials.
Utilize Third-Party Suppliers:
Using third-party suppliers can help to reduce costs associated with the production or purchase of goods. This can be done by outsourcing certain components or parts of a product, allowing for cost savings due to economies of scale and lower overhead costs.
Use Negotiation Tactics:
Negotiating better deals on inventory purchases is another great way to reduce cost of goods sold. Companies should strive to negotiate better terms with suppliers and vendors in order to take advantage of lower prices and reduce the cost of goods sold.
Leverage Existing Resources:
Companies should try to leverage existing resources as much as possible in order to reduce costs associated with production or purchase of goods. This could include using existing machinery and equipment, or repurposing materials for new products.
By implementing the above strategies, companies can reduce their cost of goods sold and increase profitability. It is important to keep an eye on cost of goods sold in order to remain competitive in the marketplace.
Conclusion
If you want to improve your business’ bottom line, one of the best things you can do is lower your cost of goods sold. By taking a close look at your expenses and making some changes in the way you operate, you can make a big difference in your profits. Implementing these tips should help you get started on the path to reducing your cost of goods sold.