Cost of goods sold (COGS) is an essential cost represents the direct costs attributable to the production of goods sold by a company. These costs include materials and direct labor used to produce the goods. COGS is recorded as an expense on the income statement and reduces the company’s gross profit.
Basic COGS Accounting Entry
When recording COGS, you usually make entry at the end of an accounting period, after calculating the cost of inventory sold during that period.
Example 1: Recording COGS
Scenario: Your business has sold goods with a total cost of $40,000 during the month.
Journal Entry:
| Date | Account Title | Debit ($) | Credit ($) |
|---|---|---|---|
| 08-31-2024 | Cost of Goods Sold A/c Debit | 40,000 | |
| 08-31-2024 | To Inventory A/c | 40,000 |
Explanation:
- Cost of Goods Sold will debited to record the expense related to the goods sold.
- Inventory will credited to reduce the inventory account, reflecting the cost of goods sold.
Example 2: Purchase of Inventory
Before you can record COGS, you need to purchase inventory. Here’s an important example of how you might record as inventory purchase:
Scenario: Your business purchases $25,000 worth of inventory on credit.
Journal Entry:
| Date | Account Title | Debit ($) | Credit ($) |
|---|---|---|---|
| 08-05-2024 | Inventory A/c Debit | 25,000 | |
| 08-05-2024 | To Accounts Payable A/c | 25,000 |
Explanation:
- Inventory will debited to increase the inventory balance.
- Accounts Payable will credited to reflect the liability incurred from purchasing the inventory on credit.
Example 3: Return of Inventory
If some of the purchased inventory is returned, an adjustment entry is needed.
Scenario: Your business returns $5,000 worth of inventory.
Journal Entry:
| Date | Account Title | Debit ($) | Credit ($) |
|---|---|---|---|
| 08-10-2024 | Accounts Payable A/c Debit | 5,000 | |
| 08-10-2024 | To Inventory A/c | 5,000 |
Explanation:
- Accounts Payable will debited to reduce the liability.
- Inventory will credited to decrease the inventory balance, reflecting the return.
Example 4: Adjusting Inventory for COGS
At the end of the period, you need to adjust the inventory and record COGS based on the physical inventory count.
Scenario: At the end of the month, after counting the inventory, you determine that $2,000 of inventory is missing (perhaps due to spoilage or theft).
Journal Entry:
| Date | Account Title | Debit ($) | Credit ($) |
|---|---|---|---|
| 08-31-2024 | Cost of Goods Sold A/c Debit | 2,000 | |
| 08-31-2024 | To Inventory A/c | 2,000 |
Explanation:
- Cost of Goods Sold will debited to account for the loss in inventory, which increases the expense.
- Inventory will credited to reduce the inventory balance.
These examples show accounting entries related to COGS, including purchasing inventory, returning inventory, and adjusting for COGS at the end of the period. Correct recording of COGS is critical to accurate financial reporting, it is a directly affects a business’s gross profit and net income.