For every business or manufacturer, there are different expense types during a certain period. Some of the expenses are direct, and some of the costs are indirect. We will discuss indirect and direct expenses later. Still, it is important to understand that every expense type matters when identifying a business’s financial position and conducting audits.
A manufacturer or a company produces and prepares products to sell them. For manufacturing these products, the businesses have to purchase some items and materials for their production. For example, a company that sells chips and snacks has to buy potatoes from other suppliers. When this company lists their financial statements’ expenses, they will include the cost of goods sold in it.
In the below paragraphs, we will briefly discuss the importance of the cost of goods sold in the financial statements like the journal and what expenses include in COGS.
Top 4 reasons for mentioning COGS in a journal and its importance
Every single detail and expense is important for a business. It is a must to record every cost and income you generate in return for those expenses. One of the expenses that manufacturers come across is the cost of goods sold, which is important to record.
Below are Some of the reasons why you should keep a record of COGS.
1. Determines the expense
When you enlist the cost of goods sold in the journal, you can easily find a business or organization’s total expenses for a specific period. The amount you will spend in purchasing the material will be debit from your account.
These debit and credit amounts are very important to record as they help conduct the audit and analyze the financial statements. You must have some prior knowledge to understand these financial statements, or you can outsource services of a top audit firm in Dubai to evaluate your financial statements and develop reports accordingly.
2. Net profit or revenue
COGS is very important to mention in the journal as it helps in calculating the net profit or income a business was able to make by the end of a year or month. If the costs of goods sold are higher, then the profit or income amount will be considerably less. If the cost of goods sold increases, then a business’s expenses are also growing at an equal pace.
3. Tax payments and returns
Tax payments and returns will indirectly depend on the cost of goods sold enlisted in the journal or the financial statement. You probably are thinking, how is this possible. It is possible because including the cost of goods sold in your financial statements will decrease the net profit or income, which means you have to pay less tax or claim for tax return. If you do not include it in the financial statements, you will have higher income rates and pay tax accordingly.
4. Product price determination
The amount you will spend on producing a single product will decide the total price of the product. Or the sale price of a product is dependent on the amount spent on manufacturing the product. The businesses assign the products’ sale price by analyzing the cost of goods sold and keeping profit margins in their minds.
What is inclusive of COGS?
COGS include both direct and indirect expenses. Direct expenses are the ones that one uses directly for the production of goods. These direct expenses become a part of COGS. Below is the list of direct costs.
1. Material cost
A single product is a combination of multiple materials. Different types of material together form one single product. The amount you spend on purchasing these materials becomes a part of COGS. There will be a deviation in expense reports and the amount spent on its production without including these expenses. These deviations must be analyzed and removed either by a businesses’ internal audit team or by outsourcing top audit firms in Dubai services.
2. Labor cost
For the production of goods, you always require a labor force. Without the help of labor, timely completion and manufacturing of goods are impossible. Suppose the workers are involved directly in manufacturing the product. In that case, you have to add the expense in COGS, but the salaries or wages other than the product manufacturing is exclusive of COGS.
3. Machinery cost
The machinery you purchase for the production of the products and goods is part of the cost of goods sold. Machinery that you are buying for other purposes will Count as operation cost or operation expense, not as an expense for COGS.
Why calculate the cost of goods sold?
One of the main reasons for enlisting the cost of goods sold is that it helps tax payment and tax return claims. Your income for a year or month will automatically inflate if you have higher COGS, and in return, you will have to pay fewer tax amounts.