How to Calculate Cost of Goods Sold (COGS): A Beginner’s Guide to Knowing What You Really Spent
Running a business feels like juggling a hundred things at once—selling products, managing social media, keeping customers happy. But when someone asks, “How much did it cost you to make that?”—it’s easy to freeze.
That’s where Cost of Goods Sold (COGS) comes in.
Understanding your COGS gives you the real story behind your profits. It tells you whether you're building a sustainable business—or just breaking even without realizing it.
The good news? You don’t need to be an accountant. Whether you're a side hustler, small shop owner, or curious student, this guide will help you calculate COGS with confidence.
You’ll learn:
- What COGS actually means
- A beginner-friendly formula
- Real examples to make it stick
- Common myths to avoid
What Is Cost of Goods Sold?
Cost of Goods Sold (COGS) is the total amount it costs you to make or buy the products you sell.
This includes:
- Raw materials
- Packaging
- Direct labor (if someone helps make it)
- Supplies used in production
- Marketing
- Rent
- Website fees
- Your own unpaid time
You sell handmade candles. In January, you use $500 worth of wax, jars, and scents to create your products. That $500 is your COGS—your direct product cost for that month.
Think of COGS as the part of your spending that disappears into the product—what you can’t get back once it’s sold.
The COGS Formula (And Why It Works)
Here’s the simple formula:
COGS = Beginning Inventory + Purchases – Ending Inventory
Let’s explain:
- Beginning Inventory: What you already had
- Purchases: What you bought during the period
- Ending Inventory: What you didn’t use and still have left
Example:
A home bakery starts the month with $300 of ingredients, buys $700 more, and ends with $200 still in the pantry.
COGS = $300 + $700 – $200 = $800
That $800 is the real cost of making the baked goods you sold.
Quick Tips:
- Count your inventory carefully
- Track receipts and purchases
- Only include what's used up in creating your product
Step-by-Step: How to Calculate Your COGS
Let’s walk through the process:
Step 1: Record Beginning Inventory
What supplies did you already have when the month started?
Step 2: Add New Purchases
Write down everything you bought that contributes to making your product—materials, packaging, ingredients, etc.
Step 3: Subtract Ending Inventory
At the end of the month, count what you still have on hand. That part didn’t get used yet.
Step 4: Use the Formula
Now plug in your numbers to get the final cost.
Example:
You're running a new Etsy shop making handmade journals:
- Beginning inventory: $100
- Purchases: $400
- Ending inventory: $150
That’s the real cost of goods sold for your first month.
Examples of COGS for Small Businesses
COGS looks different depending on your business type. Here are a few real-life breakdowns:
🛍 Retail Store (Clothing)
- Beginning Inventory: $5,000
- Purchases: $2,000
- Ending Inventory: $3,000
Only the clothes sold or used during the period are included.
🕯 Handmade Business (Candles)
COGS includes:
- Wax, jars, wicks, fragrance oils
- Packaging
- Shipping materials
- Etsy fees
- iPhone used for product photos
- Canva subscription
- If you pay for assets like templates, illustrations, or stock images that go into a final deliverable—they count
- Software subscriptions or marketing tools don’t
- Your industry shapes your COGS
- Be specific—guessing leads to mistakes
- Don’t include overhead or general expenses
Don’t Fall for These COGS Myths
❌ Myth 1: “Everything I spend is COGS.”
Nope. Only direct costs that go into the product count.
❌ Myth 2: “If I’m working solo, COGS doesn’t matter.”
Even if you're the only one working, knowing your product cost is vital for pricing and profit.
❌ Myth 3: “If I didn’t sell anything, I don’t have COGS.”
Wrong. If you used materials—even without sales—you still have costs to track.
✅ Do This Instead:
- Keep a running inventory
- Separate overhead from product costs
- Track purchases by month
- Update your records regularly
Frequently Asked Questions
Q1: What counts as COGS in a handmade business?
COGS includes direct materials, packaging, and outsourced labor. It doesn’t include your internet, office supplies, or personal time (unless paid out).
Q2: How often should I calculate COGS?
Monthly is best if you want to track profits and adjust pricing. At a minimum, do it quarterly for taxes and planning.
Q3: Can digital products have COGS?
Yes, if you buy paid templates, stock art, or hire someone to help build your digital products. Most software tools like Photoshop are overhead.
Q4: What's the easiest way to track inventory for COGS?
Use a spreadsheet with these columns:
- Item
- Beginning Inventory
- Purchases
- Ending Inventory
- Used This Period
Final Thoughts: Your Numbers Matter
Now you know what Cost of Goods Sold really means—and how to calculate it.
Quick Recap:
- COGS = Beginning Inventory + Purchases – Ending Inventory
- Only direct product costs are included
- Use real examples to stay grounded
- Don’t mix in marketing or overhead expenses
- Track regularly for smarter business decisions
COGS tells the truth behind your business.
When you know what you’ve really spent, you make smarter choices, price more confidently, and grow with purpose.
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