Cost of goods sold

The revenue from merchandise sold must be matched with the cost of those goods. Cost of sales or cost of goods sold is the identification of the cost of those items sold in the most recent accounting period. It can be done by specific identification, taking inventory, or different methods using estimates such as the "retail" method.

Cost of Goods sold is also the determining factor in arriving at Gross Profit and is determined as follows:

Sales----------------------------------$100,000
Cost of Goods Sold 
 Inventory 01/01/03---$ 5,000
 Purchases-------------45,000
 Direct Labor----------30,000
 ------------------------------80,000
 Less: Inventory 12/31/03------10,000
 Net Cost of Goods Sold-----------------70,000
Gross Profit on Sales-------------------$30,000

To determine the net profit one would then compute the indirect expenses such as office expenses, light & heat etc. Determining the cost of goods sold is the first step in arriving at the net profit.

If the cost of goods sold is too high gross profit will not support the indirect expenses and will result in a loss for the accounting period.