Cost of Goods Sold
Cost of Goods Sold (COGS) is the measurement of the inventory at the beginning of the accounting period, plus purchases during the accounting period, plus other costs incurred while getting the product to the customer, minus the inventory at the end of the accounting period.
There are different methods for calculating the cost of inventory. One method is to calculate the average cost. Another method is to base cost on First-In, First-Out (FIFO). Either of these methods can be used to compute the value of an item as it is purchased.
To use COGS to calculate inventory:
- Set up the InventoryMethod system option by selecting either FIFO (First-in-First Out) or Average Cost for the InventoryMethod current setting.
- When you add the product, select the track inventory check box.
- Set up an inventory account for the product.
- Set up a cost of goods sold account for the product.
- Add a purchase order to add the product to inventory.
COGS is calculated when you click the Inventory Transaction icon on the Accounting Period Profile page.
After inventory is calculated, you can create an inventory report by clicking the cost of goods sold link (see reports and process section of Accounting Period Profile
Calculating Costs
Average Cost
If the cost of an item varies, to even out the fluctuations, you can use the average cost method to determine the value of an item. The average cost is the cost of the existing inventory, plus the cost of inventory added during the accounting period, divided by the total number of units purchased as of the end of the accounting period.
| Inventory | Cost of inventory | Number of units | Total cost of units |
|---|---|---|---|
| Existing Inventory on June 1 | 200 units at $1.50 | 200 | $300.00 |
| Purchased on June 7 | 50 units at $1.35 | 50 | $67.50 |
| Purchased on June 14 | 45 units at $1.40 | 45 | $63.00 |
| Purchased on June 21 | 40 units at $1.65 | 40 | $66.00 |
| Purchased on June 25 | 55 units at $1.45 | 55 | $79.75 |
| Total | 390 | $576.25 | |
| Average Cost | $1.48 per unit |
Average unit cost = total cost divided by total units or $576.25 / 390 = $1.48
If you have 350 items in inventory at the end of June, the value of the stock on hand would be the number of units x average unit cost (350 x $1.48) or $518.00.
First-In, First-Out (FIFO)
The First-In, First-Out (FIFO) method of calculating the cost of an item assumes that the first items entered into inventory are sold first (the first ones in are the first ones out). The cost of the items on hand is based on the first items purchased, regardless of the price you pay for the items later.
Example: if you purchased 100 mugs last year at $5.00 a piece, and purchased 100 mugs this year at $6.00 a piece, you would calculate the cost of the mugs at $5.00 a piece.
FAQ
Splitting COGS into Multiple Accounts
Q. We have publications in inventory where we would like a single item expensed to more than one COGS account. We've not been able to figure out a way to do this without creating multiple inventory products for the same item. Has anyone encountered this requirement and found an effective way to manage it?
A. Although we can split revenue accounts in NetForum, there isn't the ability to split COGS accounts. Assuming you do a percentage-based split on COGS, then we'd suggest you set up special GL accounts (I'll call it a "transfer" account) for each of these products. Then, on a monthly basis (or more frequently if needed), in your FMS you could do manual transfers from the "transfer" account into the "real" COGS accounts. You'd debit the "transfer" account and credit the real COGS accounts, according to their component percentages, until the "transfer" GL account is balanced down to $0.