Cost of sales comprises the costs which are directly attributable to the production of the goods or supply of services by an entity. It can also be referred as the ‘cost of goods sold (COGS)’.
Cost of sales helps us to calculate the cost of goods produced or services provided in a period by an entity. It includes all the direct costs incurred by the firm in the form of the cost of the direct materials used in producing the goods, direct labor costs used to produce the good, and any other direct costs associated with the production of goods. In case of services, various direct costs such as cost of sales includes the labor cost or salaries of the employees and other directly attributable costs which are relevant for the company to render sales.
Cost of sales does not include any form of indirect expenses such as distribution costs and marketing costs. It is shown on the income statement and is deducted from the sales revenue to calculate gross profit (or gross margin) and thus forms an important part of analysis.
Based on the functions and the type of business, the exact costs included in the calculation of cost of sales will differ for some businesses.
As the cost of sales does not include overhead costs, the proportion of variable cost is higher than the operating costs. In some cases, fixed costs, such as labor costs, might be included in the cost of sales. But mostly, the cost of sales consists almost entirely of variable costs.